Guest Post: Abandoning Ship - The Eurozone Is Failing At An Accelerating Rate

Tyler Durden's picture


Submitted by Alasdair Macleod, contributing editor

Abandoning Ship The Eurozone Is Failing At An Accelerating Rate

It will be no surprise to readers that the news coming out of the Eurozone just gets worse and worse. The reality is that Ireland, Portugal, Spain, Italy, Belgium, Greece, and France (in no particular order) are all in debt traps from which there is no escape. A debt trap is sprung when bankruptcy becomes the only outcome. With corporations, this usually becomes readily apparent and directors are forced by law to stop trading, but countries conceal this reality by printing money. Otherwise there is no difference in the two cases, despite what politicians and neoclassical economists would have us believe. This is why we are painfully aware that the Eurozone is in trouble, since nation states are unable to cover and conceal their obligations by printing money, having surrendered this role to the European Central Bank (ECB).

The ECB is meant to be independent of politics and political pressures. But the reality facing any central banker is that s/he cannot stand by and let politicians drown in their own mess. The politicians know this, and it's what is behind current attempts to move away from austerity towards Keynesian growth. The plea is exactly the same as that of the spendthrift who tells his bank manager that the only chance he has of getting his money back is to increase the overdraft to allow him to trade his way out of difficulty.

So the ECB knows, in its role as bank manager, that the argument is flawed. But unlike spendthrift individuals, politicians have real power, and the ECB has an ultimate responsibility not to upset the apple cart. And that is why the election of a new socialist French president is important. President Hollande is leading the charge away from austerity in Europe, and he has powerful allies, including President Obama in his own election year.

Unfortunately, the ECB and the politicians lack a proper understanding of their economic condition because they continue to operate within the neoclassical framework that has led them into this mess. The lack of understanding of the relationship between the elements of hard-to-predict future consumer preferences, as well as the entrepreneurial function and the role of time in their calculations, has led to a reliance on sterile economic models. These leave no room for the dynamic and unpredictable creativity of human nature that gives us real economic progress. It is the difference between a proper understanding of the role of free markets, and thinking they can be manipulated to achieve an outcome preferred by the state without adverse consequences. An important consequence has been the creation of credit-induced business cycles leading to escalating levels of debt in both private and public sectors, which is why so many countries have become ensnared in debt traps. This statement of the obvious is not recognised by Keynesians and monetarists who continue to argue that the solution is yet more debt, more stimuli, and the avoidance of deflation at all costs. And it is neoclassical Keynesians and monetarists that populate the central banks and advise politicians.

This brings us to an important consideration: Despite what her officials say publicly, austerity has limited support within the ECB itself, because it is run at the top by neoclassical economists. Instead, the real constraint is Germany, whose citizens’ savings are on the line and which faces the prospect of its third currency collapse in a century. So this is where the lines are drawn up: spendthrifts desperate for more money, a conflicted central bank, and Germany.

Angela Merkel has made considerable progress in pushing the German electorate in a direction that is completely against its instincts by playing the political card marked “there is no alternative.” With her considerable political skills, she may be able to push her people some more, but it is becoming increasingly difficult, because everyone in Germany can see that committing real savings to bailing out the spendthrifts only wipes out the savings. These are not euros simply conjured out of thin air, because the Bundesbank cannot print them and probably wouldn’t do so anyway. But the pressure is mounting on her, and she is being squeezed by governments such as the British and the Americans, who are now panicking over the consequences of failure.

This is why both countries went public last week, with David Cameron even visiting Merkel in person. It is a sure indication that major governments outside the Eurozone are beginning to expect the worst, and that unless Germany gives way, it will happen quickly.

Eurozone bank lending

While there is a stalemate at government and central bank level, this is far from the case in commercial banking. The period of expanding bank credit, which gave rise to unsustainable levels of debt, ended with the banking crisis in 2008, and since then, central banks have been dealing with the aftermath. The Eurozone countries facing problems today were beneficiaries of bank credit expansion, and thus are badly hit by the subsequent contraction.

The chart below illustrates how Eurozone bank lending is collapsing, and represents European cross-border bank lending between European countries, rebased to 100 at 31 December 2007. The total is shown by the heavy black line, along with lending to selected Eurozone countries.

It becomes clear from this chart why the ECB offered its long-term refinancing operation last February, when it injected €530bn in raw cash into the banks. The contraction of cross-border lending was accelerating, having completely absorbed the November injection of €489bn. And it tells us that more LTRO injections will be needed very soon.

The underlying picture is more complex than shown by one chart. The lending shown is to both private and public sectors, and the drop in cross-border lending to governments was partially replaced by increased lending from domestic sources on the back of the ECB’s LTRO, and also by US banks (see below). But given that the Eurozone’s banks are already highly exposed to their individual governments, this increase in loan concentration has undermined their creditworthiness; hence the continuing ratings agency downgrading of the banks involved.

A further concern is that government borrowing is crowding out the private sector.  Private sector borrowers are being badly squeezed, not only for capital investment funding but also for their working capital requirements. The consequence is that governments with large budget deficits are not going to get the future tax revenues assumed in economic forecasts.

This is why the only solution to the Eurozone’s problems is a round of massive and immediate cuts in public spending. Without these cuts, the destruction of real savings, vital to the economic wellbeing of society itself, continues. In the past, this destruction was a relatively slow process, but the speed at which it is now happening has accelerated exponentially. The importance of cutting public spending has become more urgent; unfortunately, the election of President Hollande in France has delayed this process.

Help from outsiders only delays the inevitable and increases their exposure to the Eurozone’s problems. Lending to Eurozone countries by US banks has expanded in all the cases shown in the chart below, though lending totals have fluctuated widely. But total lending (the heavy black line) is still up 67% from December 2007. A cynic might say that the Fed has encouraged US banks to increase their lending to the Eurozone, on the basis that no banker in his right mind would have otherwise done so. But if this is true, the Fed has little flexibility to continue with this support, given that commercial bankers will be increasingly reluctant to commit further funds. It explains President Obama’s interest in the current state of the Eurozone, because if it goes down, there will have to be a major capital injection into US banks to keep them solvent. We get used to trillions being thrown around, but that is government spending and money-printing; in the context of the Wall Street banks, the quantities are not small, with the lending total at end-December 2011 being $347bn.

It is hard to conclude anything other than that all of the avenues for resolution have been explored and substantial sums of money thrown at the problem, much of it without the public’s knowledge. The ECB has expanded its balance sheet to offset cross-border lending contraction, and other central banks, particularly the Fed, have done their bit. Germany has committed enough of her own citizens’ savings to fill what is obviously a bottomless pit. New investors, except wild speculators, are non-existent. And without more outside help, Eurozone institutions do not have the resources to avoid a financial collapse.

That outside help is not there. The result is that the Eurozone is failing at an accelerating rate. George Soros is on record as giving Euroland three months. It will be lucky to last that long.

Points arising

While it's impossible to foresee the precise order of events in this accelerating collapse, in Part II: The Most Predictable Next Events, we detail the inevitable developments that will almost certainly arise over the course of Europe's struggle.

Remember that most commentators have little understanding of the true position, or are trained in neoclassical economics (if at all), and are generally recycling someone else’s take on things. Also bear in mind that the Eurozone’s politicians are desperate to allow no steps backwards in their cherished project, because they suspect that any regression will kill not only the euro, but the whole EU project. Everything will be done to prevent countries from leaving the Eurozone, including ignoring problems in the hope they will go away.  And the bigger the country, the more resolute everyone will be to stop them from leaving.

Click here to access Part II of this report (free executive summary; paid enrollment required for full access).

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battle axe's picture

Bankers and Politicians to the lifeboats......

Almost Solvent's picture

In a perfect world, the lifeboats they sit in are wired to blow as soon as they hit the water. 



Karma, it's a bitch.

SilverTree's picture

Stick around while we "rearrange the deck-chairs".

American34's picture

Agreed, I have been describing the Eurozone problem as "Rearranging the deck chairs on the Titanic" for over a year now. It is a great way of describing things since 2008 worldwide.

Sir Edge's picture

Yes... Most excellant image... along with asking taxpayers to JOIN the Band on the Titanic... while the lifeboats are being filled up with Bankers, Politicians and Wall Street Executives...

salvadordaly's picture

They announced Karaoke and the sheep ran to the stage is more like it!

The Monkey's picture

Europe has no easy way out of this mess, but other risks are piling up. The market will ignore them until it can't. Don't get caught short until every ounce of bullishness has been extracted.

theTribster's picture

Yep, you couldn't be more right. Karma will be a bitch, I'm a hopin'

eclectic syncretist's picture

Bankers will be taken down by the beast they unleashed (Infinite money creation for governments)

mjk0259's picture

Bankers don't care. They already got the mansions, Porshe's, women and probably bunch of gold and silver at home.

The trend is your friend's picture

i'm sure someone has compiled a list of addresses.  They won't be safe anywhere.  All hail FB and GOOG for sharing what everyone looks like

bdc63's picture

How many times do I have to say it ... DEAD AS A FEAK'IN DOORNAIL

HungrySeagull's picture

We're sorry, the nail you are looking for has been changed. Please try glue.

Buck Johnson's picture

They have been going to the lifeboats, they just don't want anybody else to follow.  When this whole game comes crashing down, it will be horrendous and no amount of printing is going to save it.

Snakeeyes's picture

Love the cross country lending chart! That is spooky!

mjk0259's picture

Isn't it good that cross country lending is going down? If stable countries were lending more money to unstable ones, that would indicate a pretty high level of stupidity.

andrewp111's picture

The more cross border entanglements are unwound, the easier it will be to dissolve the Euro back to 17 currencies.

Jason T's picture

OT: Dent Vs Rickards  .. dent lets loose and curses and everything  

El Oregonian's picture

Hey, you only live once, right? Unless, of course your the one who makes the rules...

Beevreetr's picture

...and you are a transhuman.

12ToothAssassin's picture

Only if its like this: (Gunther and the Sunshine Girls: Sun Trip)

paperlessforms's picture

If someone takes out a large loan then they are making an increase in money supply as a reserve -M3 (it doesn't exist as M0 until its paid back).

But if they renage on the entire loan then its only a reserve that was never filled, so it can be bought by the reserve bank without increasing M0.

Back to school some of you........

flacon's picture

But what happens to the asset they bought with that loan? To whom does it belong and what is it's value? Mark to market, or mark to fantasy? If we are talking about home prices, then even though the money is gone, the value of the home as a foreclosed house stays as mark-to-maturity, hence the money never went back to where it came from because of the PROMISE that it will be paid off in full at some point in the future.


Skool is for beginners, and fantasy is for the experts and academics with letters after their name!

falak pema's picture

it shows that the countries and banks are now in closed loop and ECB backing allows this to stabilise. Debts of each nation are being stabilised by decreasing cross border holdings. What we don't know is the extent the ECB balance sheet as ultimate lender and buyer have been diluted. Liquidity outside Euro zone is provided by FED swap lines. 

As government guaranteed borrowing by national central banks prime the pump of EFSF and ESM, the ECB stays out of that loop, its liquidity pump sterilised by collateral of doubtfull value provided by the banks. A lot of opaque areas with banks assets marked to model being the most fragile. A national oriented banking setup is fine as long as the ECB guarantees keep each bank solvency and liquidity. 

ECB Black box even if the separate drawers have been more and more segregated. I like my ratiionale. 

Marty Rothbard's picture

So, what you are telling me, is that Merkel is using her great political skills, to convince the Germans, that if they do not flush their money down the toilet, they will lose their money.  I must admit, it would take some convincing, to get me to screw myself, rather than stop someone else from screwing me.  What has happened to the German people?  Have the Keyneseans been putting stupid drugs, in the beer?


Caviar Emptor's picture

Germany is the third most indebted country in the world behind USA and Japan. On a per capita basis, their debt is higher than the US. And as far as debt/GDP they are tied with France. (Figures for 2010).

mjk0259's picture

That table is not ordered by per capita debt. They are only number 8 out of about 20. It's also 2010. US is much higher now as we have trillion dollar yearly deficits. Germany doesn't have a huge ongoing deficit. Germany debt is owned mostly by Germans. US debt owned significantly by China and Japan.

Tirpitz's picture

Got to add all the issued guarantees and backstops hidden off the books.

rete's picture

It's in Wikipedia so it must be true.

Marty Rothbard's picture

The British, and Americans telling Germans how to handle their money.  That's rich.


mjk0259's picture

Yeah, the advice would be stop making things that other countries want - it's causing problems. Instead outsource all your manufacturing, get 20 million unskilled immigrants that don't speak your language or want to learn it, invest in occupying Afghanistan, stop giving people health care. Make your economy based on selling pieces of paper to each other.

slewie the pi-rat's picture


abandon ship!  how novel!

disabledvet's picture

If I were France I would bring all that gold back from Switzerland and use it to recapitalize a new Bank of France and start issuing francs. RIGHT NOW.

Temporalist's picture

The French tried to get their gold back from the US once...once.

FartInTheWind's picture

Some good news for a change, according to the latest news headlines a new pro-Euro Greek goverment has been created at record pace. Even the Greeks themselves have gained trust: the people that recently took their money from the banks are now putting it back on deposit again at the same banks. Meaning that their economy can survvive at least a little longer.

So it seems that the can can be kicked down the road a little further.

midgetrannyporn's picture

This piece should be rewritten under the title: The Flawed Appplication of Neo-Classical Economics to an Unmitigated Kleptocratic Environment.

Joebloinvestor's picture

The flaw in your thinking is that you neglect the other thing politicians control (and it is in their "hidden" models) and that is WAR.

Another "condition" that justifies printing.

bagehot99's picture

You could be forgiven, as a German, for considering invasion rather than lending hard-earned money to idle, nannied Southern European wastrels. That would certainly stabilize things. If I had any money in Euros, at this point, I'd be agreesively switching it into Gold or CHF.

PulpCutter's picture

Quick! Investigate Eric Holder and Roger Clemens!

Tsar Pointless's picture


And stop those fags from ruining the sanctity of marriage - you know, that thing that ends up in divorce nearly half of the time?

And stop women from having abortions! As we all know, along with disallowing the entrance of a female virgin into the bonds of holy matrimony - which, BTW, was punishable by death - God doesn't like them.

Distractions. There are SO MANY from which to choose.

Spastica Rex's picture

Screw economics, I'm just trying to figure out what the proper course of action is to address the mildew in my rental house, lest I be consumed in a pillar of flame.

Tirpitz's picture

No vinegar, but rather 60 ... 70% ethyl alcohol.

TBT or not TBT's picture

Did you know you can use old motor oil to prevent mold re-infestation?   Slather it on!

stant's picture

bleach and water 50/50 pump up sprayer on fine mist

bullmkt's picture

I ask,why is the EURUSD at 1.27 not 1.17 then?

Repatriaton flows or what other excuse ZH has?

A Lunatic's picture

This carefully scripted drama will take decades to unfold at the cost of countless lives, fortunes, and liberties. I am having great difficulty understanding why many here believe the world leaders to be bungling idiots who are groping blindly in the dark for answers to an impromptu dilemma. Collapse IS the plan..............

Not Too Important's picture

That is the plan, but Fukushima screwed up who the survivors are going to be. They all breathed it in, just like the rest of us.

Won't take decades for the West to suffer the effects. We're next, right after Japan. The Southern Hemisphere folks will be the ones turning out the lights.