Thoughts on the Greek Bailout / Debt Writedown
I am not at all a financial or Wall Street guy, but I had a few thoughts
- I am amazed at the equity rally over this. Writing down one country's debt, without fixing its underlying financial problem or dealing with all the other countries who have problems, seems a small win. Particularly when this one country stretched European resources to the breaking point, and there are a lot of other lined up just behind Greece.
- Its interesting to see how much everyone bent over backwards not to trigger payouts from credit default swaps (CDS). If this is the wave of the future, I would be shorting sovereign debt at the same time I was writing CDS contracts on sovereign debt. Maybe this is exactly why I am not a trader, but it strikes me that if you had an arsonist around burning down houses, while at the same time the government worked hard to let fire insurance companies avoid paying off on the fire damage, wouldn't you be shorting houses and long on fire insurance companies?
- How smart does the UK feel right now for staying out of the common currency? The anti-EU folks in the UK should be calling for that referendum on EU participation right now. It would likely fail by a landslide.
- The question that keeps nagging at me -- is it really worth as much as a trillion euros to keep Greece in the Euro? Why?
Update: Oh, and I left out the obvious take: moral hazard
When sharing our kneejerk reaction to yesterday's latest European resolution, we pointed out the obvious: "Portugal, Ireland, Spain and Italy will promptly commence sabotaging their economies (just like Greece) simply to get the same debt Blue Light special as Greece." Sure enough, 6 hours later Bloomberg is out with the appropriately titled: "Irish Spy Reward Opportunity in Greece’s Debt Hole." Bloomberg notes that Ireland has not even waited for the ink to be dry before sending out feelers on just what the possible "rewards" may be: "Greece’s failure to cut spending and boost revenue by enough to meet targets set by the European Union and International Monetary Fund prompted bondholders to accept a 50 percent loss on its debt. While Ireland won’t seek debt discounts, the government might pursue other relief given to Greece, including cheaper interest payments on aid and longer to repay it, according to a person familiar with the matter who declined to be identified as no final decision has been taken."
Bram:
My question: Who would ever loan Greece a dollar again? Who would ever buy a penny of their debt?
Are they forced to have a balanced budget now that they have proven themselves unworthy of credit and they can't print Euros?
October 27, 2011, 8:17 ama_random_guy:
"Why?"
Answer 1: Overweening pride.
Answer 2: Because if they admit that Greece is insolvent (and these actions only postpone the inevitable), then they must admit that many other countries are also insolvent. Portugal, Greece and France come to mind. If Greece goes, the others will also have to go. Europe will fragment - which would be fine, except that it would demonstrate how utterly incompetent the European politicians have been. Which brings us back to Answer 1.
October 27, 2011, 8:18 amKevin Spires:
Answer 1: In normal times, the stock market is a discounting mechanism where profits (at all time highs) are the numerator and interest rates (at all time lows) are the denominator (I am taking a little bit of liberty with the formula - so don't kill me over that). Therefore, since the times are a bit more normal, stocks will go up.
Answer 2: The CDS stuff is a big negative long term. Basically, shorting Sovereigns through CDS has become a much worse deal. This market will now wither away. Forget trying to put on the trade you suggest because the market has already factored your thinking into current quoted levels.
Answer 3: UK shouldn't feel that smart - they have followed all the classic Keynesian rules over the past 3 years and are setting up for trouble down the road - and they won't be able to call on Germany to bail them out at that point.
Answer 4: The bailout is not about Greece. It is about giving some breathing room to Italy and Spain to get their houses in order. I think this all ends badly down the road, but Germany and France seem to be using the crisis to push for greater Fiscal Unity - a true United Europe. Europe has less total dept/gdp than the U.S., so this isn't as outlandish as it seems - think about a European equivalent to the Sixteenth Amendment to fund the Central Govt. It would be interesting to see if a European Agency sets up shop in Athens to monitor Greek finances on an ongoing basis.
October 27, 2011, 8:30 amMatt:
It's safe to assume that the arsonist will continue setting fires until he is stopped by outside forces. It is not safe to assume that sufficiently powerful entities will continue to protect the fire insurers against the risk of payout...either the protection will be withdrawn, or their power will eventually diminish to whatever level is necessary for the protection to become ineffective.
October 27, 2011, 8:45 amFrederick Davies:
"How smart does the UK feel right now for staying out of the common currency? The anti-EU folks in the UK should be calling for that referendum on EU participation right now. It would likely fail by a landslide."
We try, mate, we try, but they do not let us:
http://www.telegraph.co.uk/news/worldnews/europe/eu/8847601/EU-referendum-David-Cameron-loses-control-of-backbench-in-biggest-Conservative-rebellion.html
Though we are persistent:
https://submissions.epetitions.direct.gov.uk/petitions/20133
October 27, 2011, 8:46 amcaseyboy:
The central bankers and sovereign monetary managers will need to inflate currencies to provide the liquidity to absorb the write downs. That liquidity will also push up the stock value of the banks involved. That may seem like contrary logic, but their value has already been discounted by the probable write down. With liquidity promised the risk of those bank equities goes down thereby pushing their market value up.
That in turn triggers a broader market rally since it suggests that economies will be able to correct without the looming credit meltdown.
Roll out those party favors, pop those champagne bottles, happy days are here again. Then get ready for the hangover. A dramatic rise in prices when all that liquidity comes home to roost. What happens when too many dollars start chasing too few goods?
The Euro's and the Fed's are going to pat each other on the back and watch the stock market and other assets inflate. They will be hard to find when food and other commodities start to inflate.
October 27, 2011, 9:08 amDan:
Caseyboy has it right.
October 27, 2011, 9:17 amGoneWithTheWind:
It is because these decisions are made by politicians whose carear will end the day the economy collapses. Their goal then becomes putting off the inevitable and NOT creating the conditions for a soft(er) landing and a quick recovery.
October 27, 2011, 9:20 amJoshK:
Shorting the debt is hard. In the best of times you still need to borrow it from somewhere and you can pay a lot to carry that while waiting for default. And the regulators are making shorting many of these sovereigns illegal...
October 27, 2011, 9:26 amchase:
greeces debt is held by a ton of other euro countries, thus a non bailout would hurt the very people who get to decide whether or not to bail them out (in the short run) obviously in the long run the euro itself doesnt seem very viable as i can only see this happening again and again (greece is only one of many pigs)
from what i understand germany has/had all the power, and they were very close to not bailing out greece... however i havent kept up with this most depressing news
October 27, 2011, 9:52 amDon:
First, I'd add Spain to a_random_guy's list, then answer your question with another question: between these four countries, how much of their debt is held by German banks? It's kinda the worst kept secret that the Euro is actually a reprinting of DM, and is pretty much completely funded by the Germans, so if killing Greece, Spain, France, and Portugal means they default, Germany (and the Euro) are hosed anyway.
At least, that's what I've extracted from the talking heads that actually seem to have a clue (you gotta look for them :^).
October 27, 2011, 10:13 amcaseyboy:
Chase, don't think the Fed and our Treas Sec didn't provide assurances that we would provide liquidity. There are US banks that would be affected if certain European banks went under. The possibility of contagion is real and will not go away with the recent deal. Due to all the sovereign debt that has been incurred to support lush entitlements in Europe it is a matter of choosing the lesser of two evils. Market meltdown now or high inflation later. As GoneWithTheWind said, the pols will always kick the can down the road.
And don't think the professional investor will get hurt too bad. They'll ride the inflationary cycle as far as they can and then roll-over to commodity funds, gold ETF's and contra market funds (shorting the market). Its the casual investor that will get smoked because he'll follow them in thinking everything has been fixed. He won't get out in time, but when he he does get out, he'll follow into commodities, gold and short sale funds driving those markets higher. Once the stock market has deflated those savvy investors will come back in on the cheap and the casual investor we'll take a beating in those commodity investments. If you have a long enough investment horizon things can equalize or even accrue to your benefit. But if your investment horizon is shorter, this is a very scary time.
October 27, 2011, 11:30 amTed Rado:
All of this does not solve the underlying problem: Many countries (USA, etc.) are spending way more than they are taking in. The austerity moves in Greece are reducing the GNP and reducing government income, causing yet more budget shortfalls. It is a vicious cycle.
Everyone must tighten their belt and reduce government programs and expenditures. No more buying the vote!!
The moves so far seem like rearrangeing the deck chairs on the Titanic. Some MBA's think that shuffling paper without solving the underlying problem will fix things. It is likely to only kick the can down the street to an even worse scenario. But, what the hell. Who am I to question? I am only a simple soul who lives within his means and has only one (paid up) credit card. Maybe I should join the crowd and max out a dozen credit cards and then get the USG (or EU, or whoever) to bail me out.
A final point. Our political leaders are setting a horrible example for the citizenry in responsible money management.
October 27, 2011, 12:14 pmcaseyboy:
What Bernanke is trying to do is finesse the monetary system in such a way that the liquidity being added now can be removed later without much negative impact. There are economists that say it is possible, but there are more that say it will be like trying to land the space shuttle on an aircraft carrier. I don't think Helicopter Ben is going to be able to pull it off.
October 27, 2011, 12:52 pmSmock Puppet, Piloting The Economic Seas Betwixt Scilla and Charybdis:
>>> They will be hard to find when food and other commodities start to inflate.
They better hope they're hard to find. Might be some ropes and trees involved otherwise... Or at least some rails, some tar, and some feathers.
October 27, 2011, 8:38 pmSmock Puppet, Piloting The Economic Seas Betwixt Scilla and Charybdis:
>>> First, I’d add Spain to a_random_guy’s list,
Everything I've read says it is, in order, Italy, Spain, Portugal, Ireland, France, with France's problems having a lot more with Gallic arrogance causing resistance to stopping "doing things stupid" BEFORE they get out of hand. Italy, Spain, Portugal are only slightly better off than Greece.
The really absurd thing is that, only a decade ago, Ireland was in very good shape, as I recall. What drunken idiots let the current crop of thieving dunderheads in office?
October 27, 2011, 8:44 pmGraeme:
The question that keeps nagging at me — is it really worth as much as a trillion euros to keep Greece in the Euro? Why?
[1] The longstanding Political Goal has been "European Integration", first Monetary Union (where we are now), then Fiscal Union, then Political Union to create a European superstate with minimal democratic features. - Allowing Greece to exit the Euro will be the "turning of the tide" moment when the momentum of European Integration shifts from Union to Separation and hence disintergration. The European "True Believers" will not give up this Political goal easily.
[2] The financial reality is the the eurozone is swamped with Debt - Debt is oozing out the pores of every government and financial entity, they are saturated with debt and debt destruction is the only way forward to a functioning economy. The problem is that debt write-offs will make the banks across Europe insolvent and will kill the banks and their owners. The contagion will spread to the rest of the world. Saving the Banks is a key goal.
My expectation is that the whole European Integration project is simply a "bridge too far" and will fail in a messy and likely bloody way, but the process of collapse will be dragged out by politicians and financiers trying to save the status quo while only making the collapse worse.
October 31, 2011, 2:54 am