"The Clock Is Running, The Cash Is Almost Gone And Make-Believe Will No Longer Suffice"

From Mark Grant, author of Out Of The Box

This is the piece I wrote on Friday afternoon.

“I would say that we have entered the crisis stage of Europe now. We have a stand-off between France and the southern nations, the troubled countries, in one corner and Germany, Austria, Finland and the Netherlands in the other. The last summit yielded nothing and worse than nothing because the two camps are worlds apart and sharply divided. They couldn't agree on the banking supervision issue. They have no agreed upon path for Spain, for Greece, for Cyprus, for Ireland or for Portugal. Germany has drawn a line in the concrete concerning legacy sovereign issues, legacy bank issues and Ms. Merkel has stated quite dramatically that Germany will not allow the new ESM to be used for old problems and that the individual nations will have to foot the bill for them. The "Muddle" is over in my opinion and the "Crisis" has now begun. The long, long road of "put it off" has reached its conclusion and there is no agreement and no compromise on how to proceed. We have finally reached the "Danger Zone" and I advise you to note the change!”

Having had any number of questions since I wrote this I thought that it might be helpful to provide some further explanation. It is really a question of translation and some definition of “political-speak” because all of the wrangling in Europe now can get quite confusing and literal translations can lead you to incorrect conclusions.  In Europe the old adage is firmly in play; “appearances can be deceiving.”

Grant’s Dictionary

Let’s start with the bank supervisor. Germany said no money for the banks without a European supervisor for the banks. France, Spain and the rest responded by saying fine then let’s have a bank supervisor in place and functioning by January 2013. The German response was not so fast and maybe by 2014 and maybe the ECB is not the right instrument and maybe not for all of the banks. On the surface you might think that these points are all distinct and separate but if you do; you are incorrect. The translation here is that Germany does not want to fund the European banks and so has set up a road block, a diversion, to stand in between “we will not fund the banks directly” and the desires of France and the rest who want a harmonized Europe where every country pays for everything for all of them; a socialized Europe. You see, the diversion is the bank supervisor and it allows Germany to thwart the desires of the needy countries without having to address the problem directly. It is a head fake and an effective one and it is just one of the instances where we are getting a quite clear Northern European response; “We will not fund.”

Did you think that Germany, Austria and the rest were going to just come right out and say, “We will not fund?” This is not the Simpsons you know and the politicians in Europe, think of them what you like, are not quite that stupid. As a matter of fact the only time the Germans have come right out and said “Nein” was concerning Eurobonds and that is because the stigma attached to them in Germany is so great that any German allowance of them would probably topple the government. Consequently, as in the case of the ECB and the “limitless” speech of Mr. Draghi; it is only limitless if the condition of EU approval is met and so if the condition never happens then there is no ECB bond buying at all. In each case there is a condition and Germany can manipulate the condition at will which prevents or stops the ECB bond purchasing or the direct funding of the European banks.

Please note that on the opposite side of the fence that the same type of strategy is in place. France, Spain, Italy, Cyprus and Greece are not going to come out and say, “We want the Germans to pick up the check for the financial difficulties of our countries” so that ask for Eurobonds, direct bank recapitalization, lines of credit from the ECB, bond buying by the ECB of their sovereign debt and all manner of things which are structured and presented to get Germany, the Netherlands, Finland et al to pay for their shortcomings. “More Europe” in the troubled countries means that Germany and her amigos should foot the bill for the Continent while “More Europe” in the fiscally sound countries means control and oversight and domination if you will as exemplified by Ms. Merkel’s proposal that there be one central European approval office for all of the national budgets in Europe. A concept quickly rejected by France, Britain and a host of other countries. Think of a very expensive mid-day meal; lunch is over and everyone wants everyone else to pick up the check and so they sit there and politely banter and try to contrive schemes so that it will be anyone but them. The actuality is that the numbers have grown so large, the meal has become so expensive, that no one can pick up the bill without quite severe consequences.

Let’s focus on Greece for a moment. In two or three weeks Greece will run out of money. We have already done the “Public Sector Involvement” trick and the last bit of magic was the ECB handing money to the Greek banks who then bought private sovereign debt issued by Greece, got the bonds, then pledged the bonds back to the ECB and got their money back. This is how they did the short term funding of Greece while everyone winked and blinked and went on about their business. The actual truth is; a form of Eurobonds was used, just under the letterhead of the European Central Bank. Now however, the IMF has said they will not fund as Greece couldn’t pay the money she owes unless the goddess Hera shows up with some loot. The IMF has shorted the fuse box and they want the EU or the ECB to take an “Official Sector Involvement” hit which you may translate into “Debt Forgiveness” which would probably be the end of the governments in more than one Northern European nation. Europe then is faced with writing off the debt of Greece, never mind the fancy words, or having the ECB take the hit which would mean a recapitalization of the ECB as they only have $18 billion of paid-in capital or the IMF refusing to fund the next tranche of Greek aid which means that the European Stabilization Funds would have to pick up the bill and that local politics may collapse without the IMF’s participation.

In the case of Spain it is not Mr. Rajoy “assessing the situation” but a very concentrated effort to get “Euros for Nothing and Conchitas for Free.” Not only does Spain have several of its integral regions calling for succession but it has a regional debt problem exceeding $50 billion in my estimation and a bank problem that is several multiples of that. The Oliver Wyman bank stress tests had all of the validity of a three toed sloth residing in your living room as there was no verification, no audits and nothing but garbage pressed into the shredding machine and so “garbage in is garbage out” and let’s not deceive ourselves that it was anything else. Once again, one more time, we have an example of a country trying to get anyone else, everyone else, to pick up the bill because they cannot afford it. Germany, in the meantime, says that Spain does not need the money and so the bills go unpaid and the crisis worsens.

 “As long as there are individual national budgets, I regard the assumption of joint liability as inappropriate and from our point of view this isn’t up for debate...The Spanish government will be liable for paying back the loans to recapitalize its banks. Plans to give the Euro rescue fund the power to inject cash directly into banks won’t be made retroactive.”

                 -German Chancellor Merkel

Here is the issue of legacy liabilities. Here Germany has been fairly clear. The new ESM fund will not pick up the check and it is up to each country to pay for their own past problems. You may translate this piece of jargon into a “No” to Ireland that the ESM will not pick up the bill for the Irish banks and the same response for Spain. This new German definition puts Portugal, Greece, Spain and Ireland back at square one and effectively closes the door on any further negotiations. While all of this wrangling continues the tone at the summit was no longer the nicey-nice repartee of past meetings. Cyprus needs money, Spain needs money, Portugal probably needs more money and Greece is just about out of money. The summit was held, the meeting is over and the worth of any accomplishments is about at Zero as the only agreement was a plan to have a plan to deal with bank supervision. This is not an inch forward, this is not a millimeter forward; this is quicksand where they are all stuck as both money and time run out as the Socialists scream for alms while the landed gentry, utilizing head fakes and other polite deceptions, refuse to provide it. The clock is running, the cash is almost gone and make-believe will no longer suffice. The crisis phase, in my opinion, has been entered.

“Heh, heh, heh! Lisa! Vampires are make-believe... like elves, gremlins and Eskimos.”
             -Homer Simpson