We have entered an extremely dangerous environment: one in which the primary prop for asset prices (Central Banks) are running out of ammunition. This will have profound consequences for all asset classes as well as the financial system at large.
This was the real problem with Central Bank responses to 2008 all along: by attempting to prolong a peaked economic/ credit cycle, they have set the stage for an even larger Crisis, one that will see the Central Banks themselves collapse along with numerous sovereign defaults.
These are the key take home points ALL investors must come to grips with:
- Going forward the Easy Money props are going to be removed from beneath the market.
- Sovereign defaults are coming. Whether it’s through hyperinflation, reneging on promised future social welfare / pension/ healthcare spending, or outright messy defaults (or various combinations of these) we will see most of the Western world defaulting on its debts in the coming years.
How soon all of this unfolds remains to be seen. The Multi-?Trillion Dollar Question is whether the markets realize that Central Banks are virtually powerless sooner rather than later.
By the look of things, it’s coming relatively soon. Spain, which is now at the forefront of the Great Western Debt Default Collapse, has opted to seek funding from the mega-bailout fund, the European Stability Mechanism (ESM) rather than going directly to the ECB or the IMF.
The reasons for this are clear: the IMF doesn’t have the funds (nor will it as the US won’t fund a European bailout during a Presidential election year). And the ECB is now backed into a political corner with Germany.
However, as Spain has discovered, even ESM funding doesn’t come without strings attached:
Germany Rejects Spain Banks Tapping Bailout Fund, Meister Says
Spain’s rating downgrade at Standard & Poor’s doesn’t alter Germany’s stance that banks can’t have direct access to Europe’s financial backstops, a senior lawmaker from Chancellor Angela Merkel’s party said.
“The German position is absolutely strict,” Michael Meister, the deputy caucus chairman of Merkel’s Christian Democrats, said in a phone interview in Berlin. “And since such aid programs require unanimity, there’s not going to be any change. All sorts of people can try to set things in motion, but Germany won’t vote for it.”
The ESM funding idea is really just Spain playing for time (the ESM doesn’t actually have the funds to bail Spain out). But the fact that Germany is now making the ESM a political issue indicates the degree to which political relationships are breaking down in the EU. And once the political relationships break down... so will the Euro.
Indeed, Germany has no choice. If it decides to prop up Spain it will receive a ratings downgrade (something which France is about to experience anyway). Europe with a downgraded Germany is not a pretty sight.
Moreover, Germany’s decision to prop up the Euro is finally beginning to arouse furor from the German population. In particular, the below story which reveals that Germany has in fact put German taxpayers on the hook for over €2 trillion in back-door EU rescue measures could be the proverbial tipping point that sends German voters over the edge.
German tempers boil over back-door euro rescues
Professor Hans-Werner Sinn, head of Germany's IFO Institute, said German taxpayers are facing a dangerous rise in credit risk from a plethora of bail-out schemes. "The euro-system is near explosion," he told Austria's Economics Academy on Thursday.
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?????Dr Sinn said Germany is on the hook for much of the €2.1 trillion (£1.72 trillion) in rescue measures for EMU debtors- often by the backdoor- that will saddle Germans with ruinous losses one day.
"It is a horror scenario," he said, warning that the euro system is splitting friendly countries into blocs of mutually hostile creditors and debtors, exactly the opposite of what was hoped.
Earlier this week, the Foundation for Family Business in Munich filed a criminal lawsuit against the Bundesbank, accusing the board of disguising the true scale of risk born by German citizens.
This is the last thing Angela Merkel needs right now. Between this and inflation arising in Germany she’s in major political hot water. So expect Germany to push even harder when it comes to fiscal austerity in the future...
Which means that the European mega-bailout funds (the ESM and EFSF) will be much less likely to put out money for Spain. This is why Spain has now opted to follow Germany’s steps in establishing a “Plan B.”
Spanish lenders in talks over 'bad bank' plan
As their losses from mortgages grow, Spanish banks have begun discussions about creating a separate entity -a "bad bank" - to take on these assets and relieve pressure on the country's financial sector.
The goal of the new organization would be to reduce the financial strain on banks and prevent the need for either a more costly government bailout or an international rescue along the lines of Greece, Portugal and Ireland...
The official for Spain's Economy Ministry confirmed Monday that the Spanish banking industry is discussing creating a private entity that would assume their toxic assets. The new asset management organization is designed to take the burden of trying to sell foreclosed properties off the banks and allow them to concentrate on providing credit to the private sector.
This is similar to Germany’s Special Financial Market Stabilization Funds, or SoFFin for short.
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The SoFFin is essentially Germany’s emergency bailout fund for times of Crisis. It was created in October 2008 to help the German financial system get through the 2008 Collapse by allowing German banks to dump toxic mortgage assets and other items into the fund so they could clear their balance sheets.
Once things improved, SoFFin was essentially put on hold in December 2010. But in the last three months, Germany has brought it back. And it’s brought it back with one very crucial difference:
Germany Approves Bank Bailout Bill
The SoFFin will give up to €400 billion ($524.24 billion) in guarantees for banks and provide up to €80 billion for recapitalization. The fund, which for the first time will accept euro-zone government bonds, will be operational until Dec. 31 2012.
http://online.wsj.com/article/SB10001424052970204573704577184362262410868.html [18]
The SoFFin and Spain’s “Bad Bank” represent essentially the same idea: attempting to make bad bank debts magically disappear by removing from the private banks’ balance sheets AND keeping them off the public’s balance sheet (they’d be parked in an external entity).
This is the equivalent of just sweeping bad debts “under the rug.” The debts still do in fact exist and still pose a threat to the financial system. The markets know this, which is why Spanish banks continue to be nationalized or under major duress.
With that in mind, the clock is ticking on Europe. On that note, I fully believe the EU in its current form is in its final chapters. Whether it’s through Spain imploding or Germany ultimately pulling out of the Euro, we’ve now reached the point of no return: the problems facing the EU (Spain and Italy) are too large to be bailed out. There simply aren’t any funds or entities large enough to handle these issues.
So if you’re not already taking steps to prepare for the coming collapse, you need to do so now. I recently published a report showing investors how to prepare for this. It’s called How to Play the Collapse of the European Banking System and it explains exactly how the coming Crisis will unfold as well as which investment (both direct and backdoor) you can make to profit from it.
This report is 100% FREE. You can pick up a copy today at: http://www.gainspainscapital.com [19]
Good Investing!
Graham Summers
PS. We also feature numerous other reports ALL devoted to helping you protect yourself, your portfolio, and your loved ones from the Second Round of the Great Crisis. Whether it’s a US Debt Default, runaway inflation, or even food shortages and bank holidays, our reports cover how to get through these situations safely and profitably.