Deconstructing Europe: How A €20 Billion Liquidity Crisis Is Set To Become A €1.6 Trillion Funding Crisis

Tyler Durden's picture

Now that some sort of Greek bailout is imminent, most likely in asset guarantee form, it is high time to evaluate the full impact of Europe's decision to jettison monetary prudence at the expense of patching a crumbling fiscal dam holding back trillions in bad investment decision cockroaches, accumulated over the years. Relying on a presentation by ML's Jeffrey Rosenberg1, we observe that by providing loan guarantees to the periphery, the core (Germany/France/Benelux) may have well destabilized the core problem for the Eurozone, namely a whopping €1.6 trillion (that's in euro) in total 2010 financing needs, a number which consists of €400 billion in 2010 bond maturities, €700 billion in rolling short term debt and €530 billion in combined 2010 fiscal deficits. Germany has just taken an acute liquidity crisis in the periphery, and courtesy of action we already saw earlier in Bund rates, has sown the seeds for a funding crisis of none other than the very heart of the Eurozone.

First, in evaluating the fundamentals of the various "advanced economies" that make up the EU, we notice that shifting fiscal exposure to be in compliance with the G-20 requirement to have 60% or lower debt to GDP ratios by 2030, would require a "shift in the structural primary balance from a deficit of 3.5% of GDP in 2010 to a surplus of 4.5% of GDP in 2020 and keeping it there till 2030." As we have seen in our own recent budget projections, America will certainly not be able to turn a deficit to any palatable surplus at any point over the next 10 years. We find it extremely unrealistic that Europe will succeed where America's financial wizards have failed.

What Germany has done is merely to buy some time and moderate the near-term "solvency" crisis in the PIIGS, while exacerbating the true fiscal weakness underlying the European economy. Paraphrasing Merrill: "In the current episode, the focus of risk among Greece, Portugal, Spain and other peripheral members of the Eurozone is not a currency crisis. With their debt denominated in Euros, this crisis is a long term “solvency” crisis precipitating a short term liquidity crisis. Hence, the short term solution lies in addressing the liquidity crisis."

In essence, the ECB is merely providing the tried and true band aid approach made legendary by the Hank Paulson, Ben Bernanke and Larry Summers trio.

"[The table above highlights] that: 1) the issues facing the periphery of the Eurozone are by no means limited to these countries; 2) that in total the Eurozone structural deficits even if absorbed into the total Eurozone result in a lower degree of strain than either the US or the UK; and 3) sovereign risk over the longer run will not be limited to the periphery of Europe. the problems of the periphery countries could be easily absorbed by the Eurozone, such a choice would not come without consequences."

Indeed, according to official estimates, over the next 5 years the economic situation as quantified by Debt/GDP ratios is expected to deteriorated dramatically.

And this is all occurring on the backdrop of a proposed $1.6 trillion 2010 and $1.3 trillion 2011 budget for the US. Just who will come out, guns blazing and buy these tens of trillions of debt needed to finance what is rapidly becoming a global moral hazard liquidity crisis?

In quantifying the amount of "moderation" (read, cold hard cash either in direct funding form or via guarantees) needed to remove the liquidity crisis overhang, it is first necessary to evaluate the total upcoming debt maturities, and not just for Greece but for all the eurozone countries: keep in mind, moral hazard is now a pan-European phenomenon.

The table below summarizes the monthly scheduled maturities for the bulk of the Eurozone.

Yet the immediate test, as expected, is once again focused on the PIIGS (or GIPSI if one is so inclined) acronym: it is not surprising that a decision came out today - after all there is an auction scheduled for Portugal just tomorrow, while Italy will test the market with a €6-8 billion auction this Friday. Absent today's (dis)information campaign, the Portuguese auction would have certainly been another failure. Yet by and far the country with biggest near-term risk is Spain, which will need to finance €30 billion in February. Subsequently, critical auctions follow in Portugal for €3.9 billion in March and in Greece for €12.4 billion in April.

But why stop here: now that all European debt will be brought to the lowest common denominator, namely the demand for German securities, which is at the heart of the backstop plan, it implies that global European funding requirements have to be evaluated in total, and not piecemeal as we did until today. When compiling this data, we attain a shocker: the Eurozone will need to finance, roll and fund deficits to the tune of €1.6 trillion in 2010 alone. Keep in mind that the U.S. faces a very similar situation, as it has to fund roughly $1.7 trillion in net issuance in this calendar year, and prior analyses indicate that there will likely be a $700 billion shortfall absent a dramatic upswing in rates. What this means for Bund rates... is not all that complicated.

It is sheer lunacy if the ECB and Germany believe that the guarantee program will not wreak havoc on their plans to quietly fund this massive hole. And there is more. Merrill notes:

The greatest near term risk is a policy error. One likely candidate is attacking the symptoms of the crisis rather than the causes. Banning short selling during the financial crisis had little impact in stemming the declines, and similar calls may emerge in the current sovereign risk scenario. As in the financial crisis, policy interventions do not come without cost. The moral hazard of supporting poorly disciplined government finances only encourages bad performance in others. But the alternative likely will be a greater and uncertain outcome. Near term, we expect further weakness in periphery sovereign debt spreads to German benchmarks, further weakness in the Euro and continued headline risk out of the sovereign risk story before ultimately these accelerating liquidity concerns and rising debt refinancing costs prompt a greater policy intervention to arrest the liquidity crisis. That will buy time for governments to address their long term solvency crises ultimately behind the current sovereign risk uncertainty.

As always, extend and pretend, while not one economist or politician has provided any answer to the real question that needs addressing: how will marginal treasury revenue, be it in Greece, in the EU, or in the US, increase in light of massive and neverending end-consumer deleveraging, and a bubble that is set to pop in China, taking away trillions in virtually free capital with it. Today the crisis just went global, yet we bought ourselves another 6 months of imaginary time in which the surface will be calm but ever greater disconnects between valuations and fiscal realities, not to mention monetary distortions, will develop, ultimately all resulting in an unraveling on a historic scale.

The conclusion is that Europe just took a sharp and dramatic turn for the worse (which, however, was in many ways unavoidable). Yet instead of going the American route of pretending that things will get better if just ignored for long enough, Europe had the option of determining its own fate and doing the right thing - which would have been to take the bitter pill of acknowledging the EMU failure, cutting weak peripheral countries loose and focusing on a new, solid European core, and not so much competing with the US in attempting to recreate a melting pot experiment of numerous completely non-compatible cultures and norms.

Below we present some pretty BAC charts which show how comparable liquidity crises played out in the past.

  • 1. In for a penny, in for a pound (or a Euro), February 8, 2010

Comment viewing options

Select your preferred way to display the comments and click "Save settings" to activate your changes.
cougar_w's picture

If they were thinking to kick the can down the road maybe that only works in the US, holder of the reserve currency.

Anybody else tries that and it's "teh flightz 2 safety" meaning USD.

The US might end up being the last one standing in a landscape of (figurative) finacial radioactive debris. Which is nothing much to crow about, notice.

Anonymous's picture

That's intentional - he's implying that China is the only one who will be able to financing.

Stevm30's picture

Only exit left: One world currency

http://www.youtube.com/watch?v=budGr3xgH-c

 

"It began with the forging of the great state issued fiat currencies...

Given to central bankers of each nation...

and within these currencies was given the strength and will to rule each country...

but they were deceived, for another currency was made...

the dark lord(s) forged, in secret, a master currency...

to control all others, and into this currency they poured their cruelty, their malice, and their will to dominate all life...

One currency to rule them all...

...history became legend, legend became myth...

One currency to rule them all, one currency to find them,
One currency to bring them all and in the darkness bind them.

SteveNYC's picture

Hahahaha!! Brilliant.

dark pools of soros's picture

ummm Junior Mints?  is that it?

Hephasteus's picture

Skittles. The different colors denominate them. Favorite flavor becomes the most valuable. That way the odducks who like lime flavor can take advantage of the cherry herd.

bonddude's picture

I prefer a Charms lollipop and jujyfruits, thank you !

Anonymous's picture

The great worldwide debt unwinding continues. The unelected bureaucrats of the EU cannot stop the great debt deleveraging in the EU or the world.
There are only ultimately two scenarios, the EU (Germany) bails out Greece then they are asked to next to bailout Spain, Portugal, Ireland, Italy etc. This scenario would certainly end with Greece. The EU then tries to force Draconian economic budgets on the governments of Spain, Portugal, and Ireland etc. The populace of these nations revolt and say no and the governments of these countries then exit the EU and the EU unravels.
Or scenario two, which seems which has a 50/50 probability, Greece announces they are leaving the EU and defaults on their bonds and at some point in time the bond holders resolve to take a 90% haircut. Other countries like Spain, Portugal and Italy then follow suit and the EU again unravels.
The toothless EU politicians will announce economic tricks to extend the EU debt unravel but at best the charades last a few months. The worldwide debt crisis can’t be stopped with more gimmicks, the massive world debt will ultimately be resolved and it will be ugly and painful for much of humanity.

David449420's picture

Let me suggest a third scenario. 

They collectively line every banker and most politicians up against the wall, expend a few dollars in copper & lead & then try to start over.

Do you think the rest of the world would catch on?

Great sigh. 

 

So, there's another pipe dream.

Anonymous's picture

+10000000000 : )

CB's picture

I wonder what is promised to Germany to support the bail-out?

cougar_w's picture

That's easy; they get to sell more Beemers to people who can't afford them.

Not even joking.

CB's picture

that is so dementedly true.

DoChenRollingBearing's picture

Doesn't matter what they promised Germany, they (Greece) will not comply.  Why should they?

They can swill Ouzo on the beach and wait on German tourists to trickle down when the weather warms up.  The rest of the PIIGS I'm sure are wising up fast, get some Euros from the Germans before THEY wise up and cut 'em off.

Can hardly wait for California, Illinois, New York, etc.

Mr Lennon Hendrix's picture

right around the corner fell like im rollin in a '70 caddie....aw ah  aw   ah!!!

Mr Lennon Hendrix's picture

I have good credit.  I will buy a beamer.  Imma get it black....custom....with tinted windows,ima have it roll on 24s low low, ya no?  fresh system, speakers in the back itll get yer girl wet, yanowhatimean, shit............

carbonmutant's picture

What did the US government get for bailing out AIG?

Squid-puppets a-go-go's picture

persistent and deserved criticism

bonddude's picture

You mean the United StAtes of g sax?

CB's picture

the status quo for now

jeff montanye's picture

taxpayer lawsuit against sharia compliant financing, of all things.

zeroblue's picture

 

 

Instead of

"........Europe's decision to jettison monetary prudence at the expense of patching a crumbling fiscal dam......"

the writer meant to say

"......Europe's decision to patch a crumbling fiscal dam at the expense of jettisoning monetary prudence ...."

or is this a Freudian slip suggesting that jettisioning monetary prudence is what the author really wants.

 

 

MsCreant's picture

I read that as "there are no good choices."

Anonymous's picture

Canada is the only country listed whose debt to gdp ratio actually falls out to 2014

Astute Investor's picture

Why do these fools (and the collective masses) think that guarantees have no economic cost?

As Mike Tyson once said:  "everyone has a plan until they get hit...."

Commander Cody's picture

Ah, the wisdom of Tyson.  He gets quoted quite a bit here.

Missing_Link's picture

It is sheer lunacy if the ECB and Germany believe that the guarantee program will not wreak havoc on their plans to quietly fund this massive hole.

It's your patriotic duty to throw money down the hole!

http://www.theonion.com/content/video/in_the_know_should_the_government

Anonymous's picture

Interest / Income for Austria

max tax receipts 2010 60Bil Euros
interest expenditure c 8Bil Euros

nearly 14% of receipts is used for interest payments...

Anonymous's picture

Greece aint gonna be the one to bring the big guns down. It will have to be the Big Bears UK, USA, Ja(pawn).

glenlloyd's picture

It's absolutely ridiculous that they're even considering this. The lessons learned as a child have never been more relevant.

If you always step in and save someone from doing the wrong thing they never learn from their mistakes. Main issue with the bailouts in the US.

If they bailout Greece then Greece will likely not implement the draconian measures needed to fix their problem, again, Greece won't learn from their errors and this will go on ad nauseum until the whole thing buckles under its own weight.

I simply don't understand why they aren't cut loose. At least then they would have some options for dealing with the problem at home. Now however, they're boxed in by eurozone policy, with the only way to achieve what they must is with super duper belt tightening.

You do what you have to do to make it, but that's not remotely what happens anymore. When the problems come people just go looking for a sugar daddy to fix everything.

disgusting....really, and they will regret this path before it's all over.

Molon Labe's picture

"...those who have forecast better than their fellows gain, while the poorer forecasters lose, as a result of their speculative transactions.  It is obvious that such monetary profits come not simply from correct forecasting, but from forecasting more correctly than other individuals. . . .  It should be clear that the gains or losses are the consequences of the freely undertaken action of the gainers and losers themselves. The man who has bought a good to rent out at what proves to be an excessive capital value has only himself to blame for being overly-optimistic about the monetary return on his investment.  The man who sells at a capital value higher than the eventual rental income is rewarded for his sagacity through decisions voluntarily taken by all parties.  And since successful forecasters are, in effect, rewarded, and poor ones penalized, and in proportion to good and poor judgment respectively, the market tends to establish and maintain as high a quality of forecasting as is humanly possible to achieve."  --  Murray N. Rothbard

Does anyone recognize the economic system Rothbard describes?  It must be some kind of bizzarro world where up is up and down is down.

strike for return to reality's picture

Pretty scary world.  Might be one were all the capital doesn't end up at Goldman Sachs.

Quantum Noise's picture

Many countries including Greece defaulted quite a few times in their recent history... so no, the Greeks won't learn jack shit from this one either even if they're not getting any help.

Anonymous's picture

It is not just the borrowers but the lenders who don't learn from history.

Maybe Niall Ferguson is on to something...

Anonymous's picture

The bailout will probably not be in the form of loans or cash. My guess is a loan guarantee or similar.

Regardless, Portugal and Spain (and mebbe Italy and Belgium) will line up and say "where's my bailout?" All they gotta do is refuse to cut spending or get serious about tax collection, organize a few strikes and voila! Germany rides to the rescue!

Meanwhile, the Irish must wonder why they put themselves through such budgetary pain when all they had to do was ask and Uncle Merkel would make it all go away for now.

trav7777's picture

Scylla and Charybdis...whoever devalues first takes initial advantage.

These debt loads are all asinine and the surplus countries are dependent upon GROWTH in debt!  There's not enough natural demand to keep their excess factories idle NOW, much less in a deleveraging world

I mean, how much additional production do we need to layer another doubling onto this debt ponzi?  We've reached the end stage of the debt/growth pyramid

Anonymous's picture

Funny to see such bias. When the USA has an internal problem of bankrupt states (pick your name), few seriously consider abandoning the union as a credible option to solve the crisis. When the EU has an internal problem of bankrupt states, the seriously advocated option is to abandon the union - or rather have the union cut loose the misbehaving family member.

I think some people need to re-read their history books: when a country in europe has been "more successful", standing next to a neighbor country in dire need, historically things have tended to end in a bloody mess, literally. It doesn't do much to promote peace among family siblings if the rich kick out the poor from the family house.

You can't have prosperity without peace...

Anonymous's picture

Funny and unsurprising.
This is typical of a time when growth due to an ever increasingly environment can no longer meet the requirement of an ever increasing greed.

If China fails, in their downfall, they will release what is needed to support their society, easening the tension within the US society.

If the EU fails, in their downfall, they will achieve the same.

Nobody tells but it is how most analysis is driven: people fancy on eliminating a rival in the race for consuming the Earth resources. Squeezing the poorest no longer appease as it used to.

Once again, the European construction has cost a lot. Considering that all will be negated because of a small event is ludicrous. It is a last ditch effort.
More likely, the EU politicians are waiting for the hour to impose even more integration. The EU politicians are going to take advantage of the weakened situation of these nations to go to the next stage of integration.

A few months ago after their no vote to the Constitution, I talked with Irish people. They appeared to me delusional about their qualities as a people. My vision was the same as it is now: the EU politicians would wait for the hour to force their way. They maintained that no matter what the Irish would repell the treaty. They were neither the French or the Dutch. If the treaty was accepted, streets would be lighted by the fire of riots.
The rest of the story is well known.

Moral of this story: the EU will finish more integrated after this crisis. The whole question is how, under what form.

drwells's picture

Oh, we'll end up facing the same dilemma here, don't worry. I have faith the federal government will bankrupt itself trying to keep states like Cali from sitting down to the banquet of consequences. Once it can no longer keep the game going, they'll simply default. At that point secession doesn't seem so farfetched, especially if the rest of the world tries to impose austerity measures on us in exchange for continuing to supply us with what we "deserve" and some states don't feel like going along with it.

Sounds unthinkable, I know, but so did the word "bubble" in 2006.

If you subscribe to Russ Winter, he's been following this theme (bankrupt US states vs bankrupt EU states) for the last several days.

Anonymous's picture

To liken the EU model which has been in existence for less than 20 years to the USA model which has been intact for over 200 years and extrapolate results and assumptions from such a comparison is a giant stretch.

The USA has stayed together--and was even forcefully via military kept together during the civil war--for over 200 years. The union has been "battle" tested and it continues to endure time after time and crisis after crisis. Generation after generation of Americans have been raised to accept the cohesiveness of this union, and the culture and lifestyle here reflect the view of this cohesiveness.

The EU on the other hand has been together a measly 16 years. Its population and broad culture hardly shows the same loyalty and allegiance to the EU arrangement in the same manner Americans born in whatever state support the USA. Its sovereignty (if you want to call it that) has never been seriously tested (until now) and therefore no indicators exist today that the EU and its leadership has any demonstrable capacity to tackle this fiscal problem (and later social problem as a result) and be successful in doing so in the same way the USA has successfully in its history.

Anonymous's picture

To liken the EU model which has been in existence for less than 20 years to the USA model which has been intact for over 200 years and extrapolate results and assumptions from such a comparison is a giant stretch.

The USA has stayed together--and was even forcefully via military kept together during the civil war--for over 200 years. The union has been "battle" tested and it continues to endure time after time and crisis after crisis. Generation after generation of Americans have been raised to accept the cohesiveness of this union, and the culture and lifestyle here reflect the view of this cohesiveness.

The EU on the other hand has been together a measly 16 years. Its population and broad culture hardly shows the same loyalty and allegiance to the EU arrangement in the same manner Americans born in whatever state support the USA. Its sovereignty (if you want to call it that) has never been seriously tested (until now) and therefore no indicators exist today that the EU and its leadership has any demonstrable capacity to tackle this fiscal problem (and later social problem as a result) and be successful in doing so in the same way the USA has successfully in its history.

IveBeenHad's picture

can someone please explain to me how a country w/ a debt/gdp ratio of over 200% is consdered the worlds safest currency? 

i dont get it and i am talking about japann!!!! seriously why ? 

Anonymous's picture

You meant to say "least dangerous". 95% of JGBs are sold to JPN indvs; few gaijin required. Little lambs dont go on strike, either.

Anonymous's picture

Its been safe because their govt debt has in the past been bought by the bucketload by the locals.

Much less of their sovereign debt is owned by non-Japanese. So they are not as susceptible to a foreign buyers' strike - something which the US has huge exposure to.

As I understand it, Japan's problem is in its demographics, as this practice is not sustainable in the long term due to the aging population and reduced birth rates.

chindit13's picture

Japan is susceptible to a domestic buyers' strike, which in Japan will be typically non-confrontational. The strike will occur because of something you mentioned:  aging populace.  After a nearly two decades of near zero interest rates, retired folks---of which there are an increasingly large number---are dipping into savings.  The savings rate may well drop below zero in 2010.

At present, and with average JGB rates ultra low, the Japanese government pays out nearly 35% in total revenues just to service the debt. If rates were to climb to, say, 3.5% debt service would consume total government revenues.  Total revenues.  Just gotta love the yen, right market?

Even Pollyanna-san would be challenged to find a rosy scenario here, though no doubt there is one hiding in plain sight. 

Quantum Noise's picture

can someone please explain to me how a country w/ a debt/gdp ratio of over 200% is consdered the worlds safest currency? 

i dont get it and i am talking about japann!!!! seriously why ?

 

Tiny penises.