Recent developments and the Modest Proposal: Interview with ForexStreet (Barcelona)

12/05/2011 by

Click here to go to the ForexStreet site, or read the interview below:1. Do you see recent developments within the Eurozone as more political than economic? What do you think about the rumors coming out of German newspapers regarding the Greek situation? Trying to separate the political from the economic was a grave error that economists have been making for almost a century. The opposite is equally problematic. The euro crisis is an economic crisis that requires a political solution. As for the rumours regarding the Greek situation, they are the result of the simple underlying fact that the crisis is spreading and the remedies used are failing. Failure breeds (mostly false) rumours.

2. Is the debt restructuring in Greece inevitable? If so, how much further till that materializes? A restructure of the Greek debt is inevitable if Europe insists on treating what is an insolvency problem as if it were a liquidity problem. By throwing more expensive loans at the Greek state while imposing upon it policies that reduce GDP, Europe and the IMF are contriving to worsen Greece’s debt to GDP ratio. How long can this go on for? For as long as the Northern Europeans want to fund this lunacy with increasing sums of money.

3. Do you see Greece being able to return to the marketplace anytime soon? No!

4. What would be the direct implications of a Greek debt restructuring for the PIIGS? It depends on all the other measures that accompany such a restructure. In the absence of structural reform of the eurozone’s architecture, a debt restructure, on its own, will be as inevitable as it is potentially destabilising in the context of the banking sector crisis that is unfolding in parallel to the debt crisis.

5. Who in the periphery is next in line, and what would it take for markets to turn against them? All it will take for the contagion to spread its ugly wings is (A) a Europe committed to the current policy mix and (B) time. As for the identity of the next domino piece, all eyes are, of course, on Spain. But the epidemic may surprise us by hitting another target instead. France beware!

6. What would be the consequence of a Greek debt restructuring in the marketplace? An intensification of the banking crisis in Greece, in France and in Germany with unpredictable effects on Europe’s economy.

7.  Will another round of aid by the EU/IMF effectively help to calm fears of default? Not in the slightest. Lending at high interest rates to the insolvent simply delays default but makes it more certain than ever (and more destructive when it happens).

8. How do you see the Euro performing in the second semester of 2011? The euro-dollar exchange rate depends on two separate processes: The first is the conventional one that pits euro interest rates (1.25% and rising) against dollar interest rates (0.5% and stable). This process has so far kept the euro-dollar rate high. The second process concerns deeper worries about the euro’s structural rigidity. So far the markets are not betting that the euro will crack. But as their reaction to the recent Der Spiegel article demonstrates, they are ready to sell the euro off at the first whiff of a cascade of exits from the eurosystem (with Greece being the obvious early case).

9. Is the Euro, as common currency, sustainable with the actual ECB and EcoFin system? Which changes you think has the eurozone to face to be sustainable?

No, I do not think it is. The eurosystem is missing three hugely important ingredients:

  1. A degree of debt homogenisation (e.g. pooling together sovereign debt of member states equal to 60% of their GDP),
  2. A Surplus Recycling Mechanism (which ensures that surpluses are redirected from the surplus generating regions-countries to the deficit ones in the form of direct productive investments, as opposed to loans that are wasted on unproductive expenditure,
  3. A European Banking Sector Agency that oversees banks and guarantees their depositors at a European, as opposed to a national, level.

10. Could you summarize the main bullet points from your campaign “The Modest Proposal” for a rational resolution of the euro crisis.

  1. The EFSF should recapitalise the banks in exchange for shares that are to be sold back to the private sector (and at a profit for the European taxpayer) once the banks have been cleansed.
  2. The pooling together of the eurozone’s Maastricht compliant debt (debt, in other words, that amounts to 60% of the eurozone’s GDP) through a conversion loan that is provided by the ECB. In effect, the pooled debt is transferred to the ECB which issues its own long term (euro)bonds on global markets to finance the transferred bonds. From that moment onwards, the member-states service their debts to the ECB in the fullness of time and at low interest rates (provided by the long maturity and low interest rates of the eurobond issue).
  3. A new Marshall Plan for Europe as a whole to be shepherded by the European Investment Bank. For this purpose, all we need change is allow the EIB to co-finance its investment projects by drawing upon the net issue of eurobonds (by the ECB), instead of expecting 50% of funding to come from member-state, national borrowing.
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