Sovereign debt bubble thread

[Sheilbh]

Obviously if all countries sign up then there's lower borrowing costs.  More importantly it's an important step by the Eurozone towards securing the Eurozone as a currency area, it's action that follows all of the words about what the Euro means.  It's a very clear statement and a strong move towards greater fiscal union which is where the Euro needs to go to survive. 

If, say, the Euro-core or the Euro-periphery starts issuing their own bonds then in effect they'd be taking the first step to running a parallel currency and I think the markets would see that as a de facto separation that would be followed with a real separation.  Also it's not less of a split than now, there's arguments and divisions within the Eurozone but all action that's been taken has been by the Eurozone - so the establishment of the EFSF, and ESM, and the fiscal pact.  If one part of the Eurozone starts offering their own bonds, or going through further fiscal integration then you'd have an institutional split in the Eurozone which I don't think it could stand.  You'd end up, whether you wanted it or not, with that Eurosceptic solution of a Northern Thaler and a Southern Euro - which as I say maybe could work but I think should be decided rather than being bounced into.

Edit:  Interestingly Greek revenue collection's down by almost a third.  I wonder if this is a sort of revenue Gresham's law as, a while back, the Economist suggested may happen.  Why give up good Euros to the revenue when you know or suspect that the drachma's on its way.

[alfred russel]

The Commission proposal for Eurobonds (supported by Hollande, the IMF, OECD, Draghi, Monti, Barosso and, in a slightly adapted form, the German Economic Wise Men) only covers 60% of GDP and those bonds have senior status.  It's not total debt mutualisation.

If it isn't, then it won't fix the problem. Spain is over 60% debt to GDP. Spain doesn't have access to debt markets at decent market rates. If you were really to mutualize 60% and then throw Spain to the wolves on the rest, it would still be subject to severe distress.

What seems likely to me is that the 60% is mutualized, and  then when Spain continues to experience severe distress the argument is made, "we are already on the hook for 60% of Spain's economy, should we really let them take us all down rather than give them just a bit more help?"

[alfred russel]

If only.  That might  be worse than doing nothing.  It would mean the Euro was effectively split into two currencies, a real split would inevitably follow.  That could be a decent solution to the Euro problem overall but we should get there intentionally not as an unintended consequence.

Can you explain why the advantages of debt mutualisation work if all countries sign up, but not if only some countries sign up?  And why would it mean a real split? It's obviously less of a split than right now.

I can explain it. Sheilbh says a majority of eurozone countries are now in favor. I can tell you a good chunk of that list: Greece, Cyprus, Ireland, Portugal, Spain, Italy, and Belgium. That is 7 countries. 2 more and we have a majority. When you put a bunch of pieces of shit together, you don't get a wonderful bouquet of flowers, you just get a pile of shit.

[Sheilbh]

If it isn't, then it won't fix the problem. Spain is over 60% debt to GDP. Spain doesn't have access to debt markets at decent market rates. If you were really to mutualize 60% and then throw Spain to the wolves on the rest, it would still be subject to severe distress.

It depends what you think the problem is.  Spain's got debt of around 80%, so under the EU average.  If they were able to refinance up to 60% as senior, Euro-debt that would relieve pressure quite significantly.  Obviously they still need to shrink their deficit - and to that they need to resolve the banking crisis somehow - and continue with structural reforms.   That would possibly become even more urgent because the non-Eurobond debt would be higher risk and costlier.

More importantly it would fix the problem that Martin Wolf's discussing up there which is that you could have a liquidity crisis in a Eurozone state's bonds, with a run on their debt, causing a solvent country to default - that's the big risk with Spain.  In addition I think Eurobonds would be enough to stop the contagion and confidence crisis in the Euro.

[alfred russel]

It depends what you think the problem is.  Spain's got debt of around 80%, so under the EU average.  If they were able to refinance up to 60% as senior, Euro-debt that would relieve pressure quite significantly.  Obviously they still need to shrink their deficit - and to that they need to resolve the banking crisis somehow - and continue with structural reforms.   That would possibly become even more urgent because the non-Eurobond debt would be higher risk and costlier.

More importantly it would fix the problem that Martin Wolf's discussing up there which is that you could have a liquidity crisis in a Eurozone state's bonds, with a run on their debt, causing a solvent country to default - that's the big risk with Spain.  In addition I think Eurobonds would be enough to stop the contagion and confidence crisis in the Euro.

This isn't a liquidity crisis. It has been going on for years, during which the central banks of the world have been flooding the world with liquidity, and the more secure nations of europe are having no problem rolling over debt--and doing so at historically low interest rates.

This is clearly a question of solvency. Spain, like every other first world government, has massive unfunded future obligations. I think that any intelligent person looking at Spain is going to have to question whether it is going to meet those obligations in light of the fact it has sustained ~25% unemployment, much worse in the youth population, and a european labor market that allows them to leave without restriction. To an extent whether the debt to GDP ratio is 60%, 80%, 100%, or 120% is not especially relevant--the question is whether the current Spanish model is sustainable in the current competitive environment. I'm not saying the answer is no, but there is certainly more risk there than in Germany, and the thought seems to be out there that interest rates with the market level of risk premium will send Spain into a death spiral.

[Admiral Yi]

Spain's got debt of around 80%, so under the EU average.

Does that include provincial debt, bank recapitalization predictions, and obligations to the EU rescue fund, or is that just central government debt?

[Sheilbh]

Does that include provincial debt, bank recapitalization predictions, and obligations to the EU rescue fund, or is that just central government debt?

I believe it includes central government debt, EU obligations, recapitalisations to date and regional debt too.

I'll get back to you later AR.  I'd just say the Euro crisis overall isn't a liquidity criss, the ECB hasn't flooded the world but, as the Wolf article I mentioned explains, Spain's at risk from a illiquidity induced default.

[MadImmortalMan]

Dad has three kids, and the kids want a new car each but they don't have jobs. They can't get the loan to buy a car, but they could if dad cosigned the loan for them. Now the family decides to vote on whether dad should do this. Dad loses three to one.

[citizen k]

http://www.zerohedge.com/news/about-european-stress-test-2011-edition-and-where-pain-spain-raining-next

About That European Stress Test, 2011 Edition... And Where The Pain In Spain Is Raining Next

Back when Dexia was nationalized in the fall of 2011, one of the running jokes was that it was the bank that had one of the highest grades in the European Stress Test conducted just months prior. Here is another joke: we now know that Spain's Bankia is the next major financial institution which is being nationalized, and whose bailout costs are literally growing by the hour. Was Bankia one of the Stress Test 2011 failures? Why of course not...  But 5 other Spanish banks were.

Source: EBA

As a reminder:

    Greece's EFG Eurobank Ergasias SA (EUROB) and Agricultural Bank of Greece (ATE) SA, Austria's Oesterreichische Volksbanken AG (VBPS) and Spain's Banco Pastor SA (PAS), Caja de Ahorros del Mediterraneo (CAM), Banco Grupo Caja3, CatalunyaCaixa and Unnim failed. They were found to have insufficient reserves to maintain a core Tier 1 capital ratio of 5 percent in the event of an economic slowdown. All banks examined in Italy, Germany, France, the U.K. and Ireland passed.   

    "The problem children are going to be the 16 banks between 5 and 6 percent, and what happens to those," said Joseph Dickerson, a banking analyst at Espirito Santo Investment Bank in London. "The market will put substantial pressure on those banks to raise capital."
   
    Those banks include Banco Comercial Portugues SA (BCP), Espirito Santo Financial Group SA (ESF), Germany's HSH Nordbank AG and Norddeutsche Landesbank. BCP and Espirito Santo will bolster capital or sell assets in the next three months, the Bank of Portugal said yesterday.

In other words, if the bank that passed the stress test has now failed less than a year later, we would be very curious what the true state of the other 5 Spanish banks that did fail the stress test is currently. Again, these are Pastor SA (PAS), Caja de Ahorros del Mediterraneo (CAM), Banco Grupo Caja3, CatalunyaCaixa and Unnim. And that excludes all the non-Hispanic banks that also failed or were on the endangered species list.

Finally, if anyone is still confused where the pain is headed next, here is a list from Morgan Stanley of all Euro banks with a Core Tier 1 ratio that is so low, that the banks will soon regret not raising more capital in the period of calm that the ECB's LTRO bought them.

Hint: CASA is Credit Agricole...

Also, one bank is missing from the list above: Deutsche Bank. CT1/TA: 1.68%. Oops.

[Iormlund]

As far as I know those banks have already been rescued and undergone mergers with healthier banks. What remains to be seen is how much more money they'll need. CAM in particular must be knee deep in toxic assets.

[Iormlund]

[Neil]

Even if Germany takes on 60% of Spains GDP in debt, the market is still going to know that Spain isn't good for the rest of the money, and so their ability to finance their debt won't really improve.

[Iormlund]

I think so as well. It's just waaaaaay too late to fix things now. With a bit of luck we'll refuse to be rescued when the moment comes, but I'm not holding my breath.

[Admiral Yi]

[Richard Hakluyt]

It's a Venn diagram Yi, I thought it summed things up pretty well.