Sovereign debt bubble thread

[Tamas]

I have been reading Spain-related writings here and there, and, am I correct to feel like I am reading early writings about the Greek situation?

If so, shouldnt the EU just go the fuck ahead and help Spain into a 75% default like it eventually did with Greece?

There are a couple differences.

For all the talk about profigalcy, individual Greeks (or business) are not excessively indebted. It's the government that spent like there was no tomorrow.
In Spain the case is the opposite. For the most part governments kept spending in check, but private debt ballooned. When the sub-prime crisis hit, the real estate bubble burst and 10 to 15% of the Spanish economy vanished overnight. And with it the revenues it generated. This left a huge gap in both public and bank finances. The latter are slowly causing banks to fail and eventually the State will not be able to bail them out.

At least Hungary chose to not overcomplicate this: here both private citizens AND the state are in heavy debts in foreign currencies.

Anyways, what you describe points (should) point toward fiscal unity then, is it not?

We (the EU) cannot simply kick Spain out and let them rot, that would undermined the whole concept of the union. They can't really solve their problems in the present model either, not without spending a few decades in torpor, right? They could, however, do stuff if they had money from EU-bonds.

But that will never happen, because while Average Hans is very fine with not having to change currency before his spanish or greek holiday, he is very not fine with guaranteeing Spanish debt.

[alfred russel]

I generally think that you have to be a psychopath to want to be a world leader in the modern media environment, but even for them running a European country must appear rather thankless right now.

[Admiral Yi]

Just read an Economist article on Spanish debt.  Simple explanation for the rise in rates: the ECB easy credit is all gone.

[citizen k]

http://www.youtube.com/watch?feature=player_embedded&v=T0_0A1K7dlE

Project Syndicate: Reversing Europe's Renationalization
George Soros

NEW YORK – Far from abating, the euro crisis has taken a turn for the worse in recent months. The European Central Bank managed to relieve an incipient credit crunch through its long-term refinancing operation (LTRO)...

The fundamental problems have not been resolved; indeed, the gap between creditor and debtor countries continues to widen. The crisis has entered what may be a less volatile but potentially more lethal phase.

At the onset of the crisis, the eurozone's breakup was inconceivable...

If [ECB encumbrance] continues for a few more years, a eurozone breakup would become possible without a meltdown – the omelet could be unscrambled – but it would leave the creditor countries' central banks holding large, difficult-to-enforce claims against the debtor countries' central banks.

The Bundesbank has become aware of the danger. It is now engaged in a campaign against the indefinite expansion of the money supply, and it has started taking measures to limit the losses that it would sustain in case of a breakup. This is creating a self-fulfilling prophecy: once the Bundesbank starts guarding against a breakup, everybody will have to do the same. Markets are beginning to reflect this.

The Bundesbank is also tightening credit at home. This would be the right policy if Germany was a freestanding country, but the eurozone's heavily indebted member countries badly need stronger demand from Germany to avoid recession. Without it, the eurozone's "fiscal compact," agreed last December, cannot possibly work. The heavily indebted countries will either fail to implement the necessary measures, or, if they do, they will fail to meet their targets, as collapsing growth drives down budget revenues. Either way, debt ratios will rise, and the competitiveness gap with Germany will widen.

Whether or not the euro endures, Europe faces a long period of economic stagnation or worse. Other countries have gone through similar experiences. Latin American countries suffered a lost decade after 1982, and Japan has been stagnating for a quarter-century; both have survived. But the European Union is not a country, and it is unlikely to survive. The deflationary debt trap is threatening to destroy a still-incomplete political union.

The only way to escape the trap is to recognize that current policies are counterproductive and change course. I cannot propose a cut-and-dried plan, but three observations stand out. First, the rules governing the eurozone have failed and need to be radically revised. Defending a status quo that is unworkable only makes matters worse. Second, the current situation is highly anomalous, and some exceptional measures are needed to restore normalcy. Finally, the new rules must allow for financial markets' inherent instability.

...

Most importantly, some extraordinary measures need to be invented to bring conditions back to normal. The EU's fiscal charter compels member states annually to reduce their public debt by one-twentieth of the amount by which it exceeds 60% of GDP. I propose that member states jointly reward good behavior by taking over that obligation.

The member states have transferred their seignorage rights to the ECB, and the ECB is currently earning about €25 billion ($32.7 billion) annually. The seignorage rights have been estimated by Willem Buiter of Citibank and Huw Pill of Goldman Sachs, working independently, to be worth between €2-3 trillion, because they will yield more as the economy grows and interest rates return to normal. A Special Purpose Vehicle (SPV) owning the rights could use the ECB to finance the cost of acquiring the bonds without violating Article 123 of the Lisbon Treaty.

Should a country violate the fiscal compact, it would wholly or partly forfeit its reward and be obliged to pay interest on the debt owned by the SPV. That would impose tough fiscal discipline, indeed.

By rewarding good behavior, the fiscal compact would no longer constitute a deflationary debt trap, and the outlook would radically improve. In addition, to narrow the competitiveness gap, all members should be able to refinance their existing debt at the same interest rate. But that would require greater fiscal integration, so it would have to be phased in gradually.

The Bundesbank will never accept these proposals, but the European authorities ought to take them seriously. The future of Europe is a political issue, and thus is beyond the Bundesbank's competence to decide.

[Iormlund]

In related news, the Spanish government reveals the much denied Plan B does exist. It is indeed studying exit from the Eurozone as alternative to the likely intervention.

Most likely an empty threat IMHO. At least for now.

[Tamas]

In related news, the Spanish government reveals the much denied Plan B does exist. It is indeed studying exit from the Eurozone as alternative to the likely intervention.

Most likely an empty threat IMHO. At least for now.

so is it a "give us more free money so we survive 'til next election, or we take you down with us" threat?

[Sheilbh]

so is it a "give us more free money so we survive 'til next election, or we take you down with us" threat?

I've read one British commentator who was writing last week, describing a change in tone in Spain.  He quoted one Spanish writer as saying that threatening to leave the Euro is the only way to get Brussels and, above all, Berlin to allow the ECB to act 'as it should' as a lender of last resort.  But he said even if the threat has to be acted on it wouldn't be as difficult as the current situation and could actually be part of the solution.

[Admiral Yi]

In related news, the Spanish government reveals the much denied Plan B does exist. It is indeed studying exit from the Eurozone as alternative to the likely intervention.

Most likely an empty threat IMHO. At least for now.

A threat against whom?

[Tamas]

In related news, the Spanish government reveals the much denied Plan B does exist. It is indeed studying exit from the Eurozone as alternative to the likely intervention.

Most likely an empty threat IMHO. At least for now.

A threat against whom?

Everyone? A spanish exit would probably prompt a shitstorm of 2008 proportions on the stockmarket, I assume that Italian and other vulnerable bond yields would shoot through the roof, making Italy follow the Spanish example, with people fleeing their euros to Germany, which would be a problem of it own, etc.

They would rather destroy Europe than enact drastic reforms.

[Sheilbh]

They would rather destroy Europe than enact drastic reforms.

That's really not the situation at all.

[Sheilbh]

A threat against whom?

As Tamas I can't see the Euro surviving a Spanish exit.  It would put immense pressure on France, Italy and Belgium and create a precedent of exit for all of them and Portugal, Ireland and Greece.

Spain (and Italy) are in a far more powerful position towards the rest of the Eurozone than Ireland or Greece.  They're dealing with different issues but are also core, essential parts of the Euro.

[Tamas]

They would rather destroy Europe than enact drastic reforms.

That's really not the situation at all.

Well, they have structural problems. But, in theory at least, the country as a whole should be able to operate without ruining itself. So, they are doing something wrong, in the context of their reality. And I am including euro membership in this reality for now.

They might not know how to undo those wrongs, or they are not willing to pay the heavy price to undo them, or undoing it in anything but the very long term is totally impossible. Either way, there are alternatives between
a) ruining the euro by not changing their failing model
b) ruining the euro by leaving it

[Sheilbh]

Well, they have structural problems. But, in theory at least, the country as a whole should be able to operate without ruining itself. So, they are doing something wrong, in the context of their reality. And I am including euro membership in this reality for now.

They might not know how to undo those wrongs, or they are not willing to pay the heavy price to undo them, or undoing it in anything but the very long term is totally impossible. Either way, there are alternatives between
a) ruining the euro by not changing their failing model
b) ruining the euro by leaving it

They're doing structural reform.  But this is an economy in deep recession, with very extreme fiscal tightening and no exchange rate devaluation or expansionist monetary policy to offset it. 

The alternative as I see it is ruining Spain to preserve the Euro.

Here's the latest data:

The latest data show that output fell 5.1% (y/y) in February, after 4.3% in January and 3.5% in December.

Durable goods fell 14.8pc, the sixth successive monthly fall. Capital goods output fell 10.6pc, according to Raj Badiani from IHS Global Insight.

This is politically untenable. Unemployment is already 23.6pc on the Eurostat measure. David Owen from Jefferies Fixed Income expects this to reach 27.5pc by the end of the year (which is roughly 32pc using the old measure from the 1990s, based on a Bank of Spain study).

[Neil]

When has Spain ever been able to operate without ruining itself?

[Crazy_Ivan80]

A threat against whom?

As Tamas I can't see the Euro surviving a Spanish exit.  It would put immense pressure on France, Italy and Belgium and create a precedent of exit for all of them and Portugal, Ireland and Greece.

Spain (and Italy) are in a far more powerful position towards the rest of the Eurozone than Ireland or Greece.  They're dealing with different issues but are also core, essential parts of the Euro.

given the state of belgium it might trigger the collapse of this mistake of a country. Though I'd rather not find out that way.

anyway, keep an eye out for news about Dexia/Belfius. There's a shitstorm in the making right there. One that might push belgium's finances right over the cliffs and into whatever is down there.