A hypothecation of a politically palatable German policy regarding the euro

naufalsanaullah's picture

More developments from the Germany vs EU drama: http://online.wsj.com/article/SB10001424052748704638304575636580416827208.html

The EC (executive body of the EU) wants to double the EFSF (European sovereign bailout fund) to mitigate market concerns that it is insufficiently large to deal with issues from Spain and Portugal. Germany, of course, is sick of paying for the losing debtors in the failed EMU experiment and has in fact exacerbated the Irish crisis by the timing and severity of Merkel's comments regarding the inclusion of bondholder haircuts in any permanent debt resolution mechanism.

My take is that Berlin will eventually relent to EU contagion risks via the intermediary of the Bundesbank, and Weber will get the go-ahead from Merkel to give the go-ahead to Trichet to begin a bond purchasing program (Q2-Q3 2011 is my guess for timeframe), bringing the ECB to joining the ranks of the Fed, BoJ, and BoE in instituting QE. Germany is very anti-inflationist, given the Weimar hyperinflation of the 1930s and its role in causing the rise of Hitler and eventually WWII, but its export growth model is facing twofold headwinds from opposing CB easing programs diminishing competitive advantage as well as overall global demand destruction hurting export aggregates, so a selloff in EURUSD would probably be welcome from Berlin, especially if/when growth data shows Germany's economy slowing down (which is inevitable once the EURUSD rally from 1.19 to 1.42 gets discounted into economic data/figures, most likely Q1-Q2 2011).

From there, Berlin can experience a huge export-driven economic boom while simultaneously selling euros, eventually eliminating contagion/systemic-level exposure and beginning domestic currency NDFs once EURUSD plunges to crisis levels, at which point Germany can start blaming the periphery for ruining Germany's own monetary system and going against the Maastrischt Treaty's and cultural German demands and guidelines regarding inflation and currency stability, particularly politically pragmatic considering the already-existing and increasing rift between Germany and the periphery because of the sovereign debt crises. This would be the first step in Germany leaving the EMU and thus the euro.

As noted by Simon Johnson and the FT, what Greece represents is the modern-day, sovereign version of the Creditanstalt crisis moment in 1931, and thus Germany needs to distance itself from the rest of Europe's monetary policy with a strict sense of eventuality. However, that does not mean it cannot be opportunistic to gain both economic advantage and political capital by timing its departure, as well as create the conditions because of which and context within which it reacts, from the EMU and its currency.

As I've said in previous pieces, TMM bring up a very interesting point in noting that G7 sov CDS are not triggered by redenomination. The race to debase is very much on and growing, and this situation is providing the ECB with the justification for entering the QE rush, and with the BoJ now wholly defeated by the markets and the Fed's second iteration discounted in markets ahead of a likely sharp contraction in growth in mid-2011 due to fiscal consolidation and state/muni funding crises, the ECB and BoE easing programs will likely be the most significant driving forces at the margin as far as central bank policy in the first half of 2011. As such, EURXXX and GBPXXX crosses are likely strong candidates for sharp selloffs for the next several months, and I like CAD USD & CHF as the currencies to go long against these shorts.

Comment viewing options

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

By the time rednomination kicks in, eurozone CDS will be the last thing anyone cares about. Furthermore most are forgetting the CDS funding currency. Once the peripheral collapse (via redenomination) begins, anything denominated in EUR will be plunging faster than the short P&L on the proposed trade. Lastly, the quanto CDS arbitrage is already priced in.

naufalsanaullah's picture

So you're saying redenomination is inevitable but the denomination aspect of CDS and its triggering is a moot point? Or am I missing the point? Also, how do you think a potential redenom would play out?

Also, this quanto CDS news probably really is the proximate cause behind the xccy swap basis vol in EUR-USD funding, as you observed, which is turning this situation into an increasingly positive feedback loop driven clusterfuck.

Long bunds/short USTs is still working and continues to appear to be a very attractive trade in developed economy fixed income. And gold on dips of course.

snowman's picture

Your analysis couldn't be more wrong. This analysis is beginning to sound like amateur hour on ZH.

The Euro isn't going away. We know all the problems with it, but it is here to stay. Returning to the Old World won't happen. Period. Accept it and move on. The costs of change-over to DM etc are ridiculously expensive, which Europe can't afford.

Why would German exports go gangbusters because of a DM? Their exports are driven by end consumer demand, not some reliance on cheap currency. Even if their stuff is cheap, someone needs to be willing to buy it, and afford it, first. 

Europe is in a solvency problem, the ECB will need to print trillions to cover it. A fairly easy trade to predict. Given The Eurozone size and lack of defense spending, printing 2-3 trillion is doable. 


naufalsanaullah's picture

That all sounds good and wonderful but this is not the Federal Reserve printing the trillions its chairman promised it would in 2002. This is the ECB and Berlin is not going to just submit to expansionary monetary policy without significant political ramifications.

trav7777's picture

Germany cannot expect to maintain their side of the artificial supply/demand imbalance.

The exporters saw artificial economic booms due to artificial demand.  The importers saw artificial economic booms due to artificial amounts of debt that was supposed to be paid for with tomorrow's growth.

And, of course, mercantilists like China and Germany called dibs on that future growth in their export sectors.  Suppliers' continued refusal to accept any blame or even acknowledge complicity in this shell game make realistic solutions intractable.

The reality is that tomorrow CANNOT PAY TODAY'S DEBTS.  It's a simple point of recognition that everyone must come to.  Attempting to refinance today's debts or pretend them away will change nothing.  QEs are a progressive jubilee as debt gets replaced with printed paper and the CBs attempt to "make it up" with sovereign interest on the long end rather than see their sole products (their banknotes) go up in a whiff of implosive smoke.

While these QEs roughly solve today's problems, they do nothing to cause additional credit growth in the aggregate.  Therefore, the system still faces a growing brick wall.  I'm going on a limb and saying that at the end of this game, which may play out over decades, we are going to see CB paper become the equivalent of tally sticks.  There is no point in pretending that organic private sector credit demand can fluff this bubble.  It will continue to contract.

steve from virginia's picture

First of all, the hyper- inflationary event in Weimar took place in 1922- 23, not in 1933 when Hitler became Chancellor. Inflation had nothing to do with the rise of NSDAP which had more to do with German and other European nations' adherence to the gold standard and resulting deflation, which was bankrupting the entire world during the early 1930s.

Germany went off gold also in 1933; the effective devaluation took Germany out of recession, which Hitler shrewdly took credit for.

Real credit for abandoning gold belongs to France, the US and BoE boss Montague Norman who failed miserably to support the sterling peg to gold.

Massive gold flows to France and the US after the failure of Austrian bank CreditAnstalt in 1931 crushed F/X and lending. This left gold/fiat arbitrage as the only viable business in most countries at all economic levels. Those who had the most gold got more and those who had less or none ... starved.

Fast forward and the Germans are between rock and hard place. As beneficiary of the 'hard euro' and an export economy that structurally enabled euro hardness the Deutche are now facing the bill ... and blanching!

The cost of this monetary experiment is far greater than the value of Germany's earnings since the euro was instituted!

Not only that, it's structural advantage - its massive and expensive auto manufacturing sector - is a dead loss albatross in the newly onrushing post- peak oil world all of are immersed into ... up to our necks!

Like their Yank counterparts, the German bankers are no doubt stuffing suitcases with euros and making ready to ship off to Antigua and Belize. Let the devil take the hindmost. They will follow in the footsteps of their illustrious counterparts in fleeing their country to avoid being stuck with any responsibility.

So "... Axel Webber ... when you get to Uruguay, please say 'hello' to Martin Bormann for me? He's very elderly and gets few visitors."



naufalsanaullah's picture

Weimar hyperinflation 100% contributed to the rise of nationalism in Germany that thurst the NSDAP into legitimate political contention. The catalyst is not as important as the conditions that were brewing the whole time. Furthermore, the Weimar hyperinflation put Germany in a no-leverage position as far as monetary policy, so it can still be traced back to Weimar hyperinflation. And regardless, German sentiment is definitely anti-inflationist and as a consequence of Weimar inflation, so the point stands regardless.

Germany has been surprising to the upside with growth figures, and the euro has a lot more to decline so I think it could see a real export boom, especially considering it doesn't have any fiscal consolidation concerns to really worry about.

walküre's picture

Adolf Hitler's campaign platform has always been the unjustice of a treaty that forced Germany to surrender all assets and pay for a war it hadn't started.

Hitler's rise to popularity started when Germans shoved wheelbarrows of worthless paper through the streets to buy a loaf of bread.

What's backing the USD today?

Remember those that killed the US currency and will bring unimaginable suffering upon the American people when the rest of the world stops accepting paper printed in the US for payment. That day is coming sooner than you all think.

The tidal wave of original US paper repatriating home will bring severe destruction and civil unrest. The weather channels should quit watching hurricanes off the coast of Florida and the panhandle and start tracking the ever increasing waves of worthless US paper pounding on the doors of the Fed trying to find anything useful for exchange.

Azannoth's picture

Yes, just that today with the 'experience' of fascism people will paddle the other way into communism

Amsterdammer's picture

The Germans have also proposed

an immediate 'haircut'for sovereign bons, so

go figure, given that their banks

aae the first on the hook in the

Irish creditors; their 2008 SOFFIN

program consisted of 400 billion

euros in bank guarantees and 80 billions

to recapitalize their banks;

Wolfgang Münchau, who has repeatedly stated

that the German banking system was

'technically insolvent' must be very puzzled

by the German twists on the end-game..


americanspirit's picture

There is no longer any such thing as European 'self-interest" if there ever was such a thing. There are plenty of people alive today whose family members were tortured, raped, impoverished and murdered by politicians, bankers and armies from their 'neighboring countries'. So nobody in any country in Europe trusts or even likes their 'neighbors' - fear and loathing is more like it. So when it's time to lighten the boat, do you think anybody is going to volunteer to jump first in order to save the others? Hell no - it will be every man, woman and child for themselves, and the last one standing will be the only winner. If you think that memory of past events doesn't matter consider the feelings toward Yankees all across the Southern US. While there is noone with a living memory of the 'War of Yankee Aggression", ask yourself who these guys in DC and on Wall Street are and what they're up to. It is "War of Yankee Aggression", part deux. And this time it isn't to free the slaves but to get the shackles back on, and make them really really tight. TSA - The Slavery Administration.

tom a taxpayer's picture


Tiny Belgian doesn't like or trust itself. Age-old animosities among two parts of Belgium have flared up and are in danger of breaking up Teenie Tinee Belgium.

"Belgium, with a 6.2 million Dutch-speaking majority, compared to 4.5 million French, had a national debt in 2009 of 326 billion euros (446 billion dollars)."




Sudden Debt's picture

You tell it like it's a bad thing :)

walküre's picture

@ naufalsanaullah

The only man that has the full picture is Axel Weber. I pay attention to what he says.

From his statement today, I understand that the max pain shortfall in debt funding is about 150 billion Euros. There's funding of 985 billion and a max amount of maybe a little over a trillion in coverage. He is NOT concerned about finding the money to make up for it.

His estimations are based on a model that predict a funding ability of at least 85% of the periphery states. He deems it very very unlikely if not impossible that the funding levels would go below 85%.

Much ado about nothing.

What Europe is addressing at this time is the future funding crisis due to luxurious pension and retirement plans that COULD NEVER EVER HAVE BEEN FUNDED.

I do recall a certain President George Walker Bush making the funding shortfall of American Social Security a part of his campaign and heard him talk about this in an address to the nation.

Now, how is the funding level for American Social Security with legions of baby boomers seeking retirement at some point in the near future?

I guess it is the same quagmire and it will need to be addressed unless the world accepts more worthless US paper as leverage for global peace.

Let's call a spade a spade and forget the propaganda. The world is trading resources and commodities in USD because it is THE reserve currency. Up until 2008 when US banks blew up and others needed emergency funding, the status quo was unchallenged and not many paid any attention as to where the US pulled its funding from.

This is a different animal now. The US cannot maintain the status quo and keep peddling lies to the world and finance the excesses of its government all the while dictating the world what the price of oil, gold, coal, wheat and so on should be. Frankly, nobody gives a rats ass anymore. Why exchange useful and limited resources and commodities for a paper that is increasingly worthless because it has no backing.

So the world is playing along with it for a bit longer because the other thing that the world is realizing is that the worthless American paper is buying protection. Call it what it is, the fact the world is paying America for its excess is to live in peace. Anyone dare to challenge the status quo is getting invaded and possibly hung.

The American legalized mafia is running the world. Everyone accepts it to a degree but fewer and fewer see any point in it. There are options, you know? The best viable option is Europe and the Euro. Multinational, multicultural, multilinguistic.. and so on. The Russians and Chinese are making the deals with Europe and the Arabs are converting worthless American paper into solid European businesses. What else is there to do with the US paper?

qussl3's picture

Except that as you have so astutely pointed out, the Euro suffers from very similar structural problems that the Dollar suffers from - minus the firepower.


naufalsanaullah's picture

The euro is not an alternative to the USD for reserve status. That is ridiculous.

Everyone knows dollar hegemony is a joke with no sound basis-- it's been that way since 1971, when the entire premise behind Bretton Woods was directly discredited. But the status quo was too strong and with America's exportation of capitalism and globalization, the global economy became even more leveraged into the "system".

Like you say, let's cut the political propaganda and call a spade a spade. China and the other USD holders have no currency to turn to in place of the USD and more importantly, have more to lose on an acute and long-term basis in the event of a run on USD than even the USA does. The US has gone to all-out war for much less. Sure, there's gold, but that's a whole different debate and the USD still wins on a relative basis in that scenario.

If Martians decided to open up their capital markets to Earth, then USD reserve status quo would be eliminated overnight and there'd be a new new-normal of epic proportions. Unfortunately, it's just us.

tired1's picture

Would it be safe to say tha the UDS is ecomining a benchmark currency, rathar than a reserve currency? I'm thinking in terms of the Rus/Chi transactions which are ongoing.


Motorhead's picture

Where is a Ludwig Erhard when you need him?

revenue_anticipation_believer's picture

re:  A hypothecation of a politically palatable German policy regarding the euro

"......Germany is very anti-inflationist, given the Weimar hyperinflation of the 1930s and its role in causing the rise of Hitler and eventually WWII, but its export growth model is facing twofold headwinds from opposing CB easing programs diminishing competitive advantage as well as overall global demand destruction hurting export aggregates, so a selloff in EURUSD would probably be welcome from Berlin...."