The elements of a compromise are there, especially if it is recognised that the most difficult for Merkel and the CDU to swallow – increasing the size of the EFSF – is not the core of the problem. Some accompanying grand gesture in relation to economic governance will also be necessary.
The question now boils down to; which is more important, the political future of Merkel and the CDU/CSU or the very existence of the euro and EU (which would suffer probably irreparable damage were the euro to collapse)?
A Good article but a few points.
However, the EFSF could simply be registered as a bank and could then have access to unlimited re-financing by the ECB, which is the only institution which can provide the required liquidity quickly and in convincing quantity.
It seems he is proposing that the EFSF should do what the ECB patently failed or refuses to do. Why is it ok for the EFSF to provide unlimited liquidity despite the supposed inflation risks but not ok for the ECB?
A further question re the supposed inflation risks of excess liquidity. I note that in yesterdays FT, that China has a July trade surplus of €31 billion giving an annual equivalent of over €300 billion. Where does this currency end up. It is not available (in the free market sense) to be spent in western or other economies. But where do the euros or dollars end up. As I understand it China sells mostly in dollars or euros.
The point I am driving at, is does the EZ have a trade surplus or is China’s trade surplus sucking money from the EZ system?
@ Joseph Ryan
This is the glaring flaw in the argument of Gros. He fails to distinguish between monetary and fiscal responsibilities, the first lying with the ECB and the second with the governments of the EZ. Why this should be so escapes me as it is has been pointed out ad nauseum in debate both here and on the other side of the Atlantic.
The fundamental point seems fairly clear to me – but maybe I am missing something – and is as identified by various commentators in the Bloomberg article, not least George Soros; given the extent of sovereign debt, the bond markets as far as a monetary union is concerned, are prone to the same risks as any exercise of “maturity transformation”, that of transforming short-terms loans from some into long-term loans for others i.e. banking. Some LOLR mechanism to compensate for this is necessary. The obvious answer is to pool the credit standing – subject to strict controls and conditionality – of all participants in order to guarantee stability in the event of a crisis of confidence. There should also be a means of limiting or withdrawing support when crisis conditions have passed.
What is at issue is a question of the political vision one has of Europe. If it is a one-sided one that other countries are there to provide a guaranteed market for goods, services and capital without any acceptance of reciprocal responsibilities – which are, in fact, set out in the treaties in the language dealing with economic and social cohesion – the EU is finished.
That many are blind to this was epitomised by a spokesman from the CDU on RTE news last Monday who mentioned that Germany was proving 27% (or 29%!) of funding in respect of the EU. What he failed to mention, as far as the budget is concerned, is that this is the gross contribution of Germany, not the net and that the overall EU budget represents only 2% of total EU government spending. A much better measure of who puts what justifiably into the communal pot and who takes justifiably what out is the percentagee of GNP (i.e. the capacity to pay) that the net payment of any country represents. Commision figures demonstrate that Germany’s share is not disproprtionate and, indeed, is surpassed by the Netherlands and Sweden.
Economic realities are winning the argument. Either the countries of the EZ hang together or they will surely hang separately.
The arguments are getting confused:
Money should be printed so the debts can be inflated away AND this printing will not lead to inflation. Either the printing will lead to inflation and the debt could possibly in theory then be inflated away or it will simply transfer debts from entities that can’t pay to entities that didn’t incur the debt. The economic ‘free’ lunch doesn’t exist 😉
Ireland tried to address a solvency problem using a liquidity solution, how did that work out?
@DOCM,
I’ve no idea what you could possibly be referring to here:
“If it is a one-sided one that other countries are there to provide a guaranteed market for goods, services and capital without any acceptance of reciprocal responsibilities – which are, in fact, set out in the treaties in the language dealing with economic and social cohesion – the EU is finished.”
Could you elaborate on what you’re referring to as ‘reciprocal responsibilities’?
Why would we want yet another super-casino?
@Jesper
Printing base money is not creating debt – it is creating money.
The debt deposits built up during the credit hyperinflation phase have nothing really to do now – they are declining in fact as credit production is dropping.
So base money printing to replace these lost units will in theory I guess not increase consumer inflation – but observe credit fueled assets reach their true cash price.
Its will be quite something to watch really – as credit /debt spirals down the black hole – base money will emerge into a different monetory universe.
@ Jesper
As I point out, these reciprocal responsibilities are set out in the treaties, notably in the preamble to the Treaty on European Union and its Article 2.3 and 2.4 cf.
Something like this is needed, but 2 points:
1) He mentions it as a liquidity measure, but fact is there are legitimate solvency concerns
2) Rather than a blanket guaruntee, only a proportion of the debt should be guarunteed , and that portion should vary per country
The portion of debt guarunteed should be calculated with consideration of these factors:
a) True debt value of the country
b) Global Financial Stability
Also the ‘Club med’ countries are culturally very different from the Northern European countries…and bringing them under control of a new fiscal agency would be exceptionally difficult
Consideration needs to be given to local monetary policies, targetted at specific regions. +/- interest surcharges can be applied to new credit. The design of this would be practically challenging, but the ECB (or some EU authority) needs to trash out a lot of different designs / policy options.
@DOCM,
I’ve read them. You’re implying that reciprocal responsibilities aren’t being accepted. Which reciprocal responsibilities might that be?
“It (the EU) shall promote economic, social and territorial cohesions , and solidarity among Member States”.
Article 3.4
“The Union shall establish an economic and monetary Union whose currency is the euro”.
Germany is not alone blocking the generally perceived necessary action to demonstrate solidarity for protecting the euro, Merkel is also insisting on acting outside the treaties because of an assumption that the German constitutional court will judge that any such action is outside the treaties – which has not been demonstrated – when the task of such interpretation has been, in any case, assigned – with Germany’s agreement – to the European Court of Justice. (Article 267 TFEU).
If you have a definition of solidarity which meets this idea of it, please let me know!
To me it sounds like another attempt to paper over solvency with liquidity. The previous attempts haven’t worked out too well. The simple fact is that the markets (and economic history) don’t believe that highly indebted countries, whether rich or poor, can grow themselves out of debt. Therefore limitations on borrowing are inevitable, whatever the mechanism introduced.
Too little has been made of the GGD limit of the stability and growth pact with all the emphasis on the deficit. Admittedly, it is an extremely blunt instrument in that it takes no notice of the economic cycle of the country concerned, but nevertheless, a debt limit was chosen for a good reason. Countries that borrow to fund current spending end up in a bad situation.
This proposal does nothing to address that issue.
@DOCM,
Your answer consists of double negations and convoluted sentences, are you avoiding clarity on purpose?
As for solidarity, I’m almost certain that your understanding of the meaning of the word is quite different than mine.
Have a read of Article 125 of the Treaty on the Functioning of the European Union.
@ Jesper
Indeed I have read Article 125. And here is the pertinent text for the edification of others who may be following these exchanges.
” 1.The Union shall not be liable for or assume the commitments of central governments, regional, local or other public authorities, other bodies governed by public law, or public undertakings of any Member State, without prejudice to mutual financial guarantees for the joint execution of a specific project. A Member State shall not be liable for or assume the commitments of central governments, regional, local or other public authorities, other bodies governed by public law, or public undertakings of another Member State, without prejudice to mutual financial guarantees for the joint execution of a specific project”.
I wonder if, in the context eurobonds, and with a layman’s reading of the text, whether what is at issue may not be a mutual financial guarantee and a specific project, not the acceptance of liability for the “commitments etc.”.
Of course, the German constitutional court may well take a different view. But what national courts are enjoined to do in circumstances of legal doubt is to refer the matter to the European Court of justice. (Article 267 TFEU).
However, this discussion is rather academic as the EFSF is governed by Luxembourg private law. Interestingly, the framework agreement underpinning it states that disputes should be referred, you guessed it, to the ECJ. This also true of the ESM which will be established by way of international treaty. Curiouser and curiouser!
…so stop dressing it up as a treaty obligation or a moral imperative .. the germans have no choice, it is a pragmatic inevitability
The markets want Eurobonds to be exchanged at 100% for Greek, Italian, Irish, Portuguese debt. Thats their only way to get their money back from German, Finnish, Nederlands taxpayers.
Their clear motive is protecting their investments at the expense of the EU taxpayer.
Eurobonds could work, however large haircuts would have to be applied to periphery bondholders before having their bonds converted/swapped for secure eurobonds. How much would these haircuts be?
Look at the swaps that happened to Greece, Greek government bonds trading at 50-75% of their face value in the secondary markets and gaining average 5% interest from the Greek government – swapped for bonds at 80% of the face value and gaining 6%interest from the Greek government. On the face of it a great deal for the bondholders/markets according to the prices in the secondary markets.
Unfortunatly I am not confident that our politicians can get a good deal with Eurobonds. It seems that the bankers and the markets are winning this game.
@ jgh
I agree with your point that Germany has no choice. And I never brought up the idea of a moral imperative (if that remark is addressed to my comments).
But the issue of treaty obligations is a key one because of the likely public perception in Germany of inevitably having to concede. Germany accepted these treaty obligations for sound self-interested pragmatic reasons. The German electorate have, however, been sold a distorted narrative for domestic political gain by certain political elements. It may prove difficult in such circumstances to recover their support for the European project which is very much in Germany’s interest. The same holds true of the Netherlands where there is to be an emergency parliamentary debate next week.
The issue is being presented as a return to the Deutsche Mark and the Guilder. In other words, a clear attempt to persuade the respective electorates to support winding the clock back without any real analysis or appreciation of the likely consequences both for them and the rest of Europe.
I wonder if there are some wry smiles at FF HQ at the unusual sight of a GERMAN political leader being stitched up by his/her European partners, being faced with a decision to save either the EU or his/her political party.
21 replies on “Daniel Gros: Turn the EFSF into a bank”
Bloomberg has an overview article which complements that by Gros.
http://www.bloomberg.com/news/2011-08-11/eu-heads-for-eurobond-clash-amid-german-dread-over-looming-fiscal-union.html
The elements of a compromise are there, especially if it is recognised that the most difficult for Merkel and the CDU to swallow – increasing the size of the EFSF – is not the core of the problem. Some accompanying grand gesture in relation to economic governance will also be necessary.
The question now boils down to; which is more important, the political future of Merkel and the CDU/CSU or the very existence of the euro and EU (which would suffer probably irreparable damage were the euro to collapse)?
A Good article but a few points.
It seems he is proposing that the EFSF should do what the ECB patently failed or refuses to do. Why is it ok for the EFSF to provide unlimited liquidity despite the supposed inflation risks but not ok for the ECB?
A further question re the supposed inflation risks of excess liquidity. I note that in yesterdays FT, that China has a July trade surplus of €31 billion giving an annual equivalent of over €300 billion. Where does this currency end up. It is not available (in the free market sense) to be spent in western or other economies. But where do the euros or dollars end up. As I understand it China sells mostly in dollars or euros.
The point I am driving at, is does the EZ have a trade surplus or is China’s trade surplus sucking money from the EZ system?
@ Joseph Ryan
This is the glaring flaw in the argument of Gros. He fails to distinguish between monetary and fiscal responsibilities, the first lying with the ECB and the second with the governments of the EZ. Why this should be so escapes me as it is has been pointed out ad nauseum in debate both here and on the other side of the Atlantic.
The fundamental point seems fairly clear to me – but maybe I am missing something – and is as identified by various commentators in the Bloomberg article, not least George Soros; given the extent of sovereign debt, the bond markets as far as a monetary union is concerned, are prone to the same risks as any exercise of “maturity transformation”, that of transforming short-terms loans from some into long-term loans for others i.e. banking. Some LOLR mechanism to compensate for this is necessary. The obvious answer is to pool the credit standing – subject to strict controls and conditionality – of all participants in order to guarantee stability in the event of a crisis of confidence. There should also be a means of limiting or withdrawing support when crisis conditions have passed.
What is at issue is a question of the political vision one has of Europe. If it is a one-sided one that other countries are there to provide a guaranteed market for goods, services and capital without any acceptance of reciprocal responsibilities – which are, in fact, set out in the treaties in the language dealing with economic and social cohesion – the EU is finished.
That many are blind to this was epitomised by a spokesman from the CDU on RTE news last Monday who mentioned that Germany was proving 27% (or 29%!) of funding in respect of the EU. What he failed to mention, as far as the budget is concerned, is that this is the gross contribution of Germany, not the net and that the overall EU budget represents only 2% of total EU government spending. A much better measure of who puts what justifiably into the communal pot and who takes justifiably what out is the percentagee of GNP (i.e. the capacity to pay) that the net payment of any country represents. Commision figures demonstrate that Germany’s share is not disproprtionate and, indeed, is surpassed by the Netherlands and Sweden.
Economic realities are winning the argument. Either the countries of the EZ hang together or they will surely hang separately.
The arguments are getting confused:
Money should be printed so the debts can be inflated away AND this printing will not lead to inflation. Either the printing will lead to inflation and the debt could possibly in theory then be inflated away or it will simply transfer debts from entities that can’t pay to entities that didn’t incur the debt. The economic ‘free’ lunch doesn’t exist 😉
Ireland tried to address a solvency problem using a liquidity solution, how did that work out?
@DOCM,
I’ve no idea what you could possibly be referring to here:
“If it is a one-sided one that other countries are there to provide a guaranteed market for goods, services and capital without any acceptance of reciprocal responsibilities – which are, in fact, set out in the treaties in the language dealing with economic and social cohesion – the EU is finished.”
Could you elaborate on what you’re referring to as ‘reciprocal responsibilities’?
Why would we want yet another super-casino?
@Jesper
Printing base money is not creating debt – it is creating money.
The debt deposits built up during the credit hyperinflation phase have nothing really to do now – they are declining in fact as credit production is dropping.
So base money printing to replace these lost units will in theory I guess not increase consumer inflation – but observe credit fueled assets reach their true cash price.
Its will be quite something to watch really – as credit /debt spirals down the black hole – base money will emerge into a different monetory universe.
@ Jesper
As I point out, these reciprocal responsibilities are set out in the treaties, notably in the preamble to the Treaty on European Union and its Article 2.3 and 2.4 cf.
http://en.euabc.com/upload/books/lisbon-treaty-3edition.pdf
Something like this is needed, but 2 points:
1) He mentions it as a liquidity measure, but fact is there are legitimate solvency concerns
2) Rather than a blanket guaruntee, only a proportion of the debt should be guarunteed , and that portion should vary per country
The portion of debt guarunteed should be calculated with consideration of these factors:
a) True debt value of the country
b) Global Financial Stability
Also the ‘Club med’ countries are culturally very different from the Northern European countries…and bringing them under control of a new fiscal agency would be exceptionally difficult
Consideration needs to be given to local monetary policies, targetted at specific regions. +/- interest surcharges can be applied to new credit. The design of this would be practically challenging, but the ECB (or some EU authority) needs to trash out a lot of different designs / policy options.
@DOCM,
I’ve read them. You’re implying that reciprocal responsibilities aren’t being accepted. Which reciprocal responsibilities might that be?
The political vision?
http://www.dailymail.co.uk/news/article-1328568/Nation-states-dead-EU-chief-says-belief-countries-stand-lie.html
@ Jesper
Extract from Article 3.3 TEU
“It (the EU) shall promote economic, social and territorial cohesions , and solidarity among Member States”.
Article 3.4
“The Union shall establish an economic and monetary Union whose currency is the euro”.
Germany is not alone blocking the generally perceived necessary action to demonstrate solidarity for protecting the euro, Merkel is also insisting on acting outside the treaties because of an assumption that the German constitutional court will judge that any such action is outside the treaties – which has not been demonstrated – when the task of such interpretation has been, in any case, assigned – with Germany’s agreement – to the European Court of Justice. (Article 267 TFEU).
If you have a definition of solidarity which meets this idea of it, please let me know!
To me it sounds like another attempt to paper over solvency with liquidity. The previous attempts haven’t worked out too well. The simple fact is that the markets (and economic history) don’t believe that highly indebted countries, whether rich or poor, can grow themselves out of debt. Therefore limitations on borrowing are inevitable, whatever the mechanism introduced.
Too little has been made of the GGD limit of the stability and growth pact with all the emphasis on the deficit. Admittedly, it is an extremely blunt instrument in that it takes no notice of the economic cycle of the country concerned, but nevertheless, a debt limit was chosen for a good reason. Countries that borrow to fund current spending end up in a bad situation.
This proposal does nothing to address that issue.
@DOCM,
Your answer consists of double negations and convoluted sentences, are you avoiding clarity on purpose?
As for solidarity, I’m almost certain that your understanding of the meaning of the word is quite different than mine.
Have a read of Article 125 of the Treaty on the Functioning of the European Union.
@ Jesper
Indeed I have read Article 125. And here is the pertinent text for the edification of others who may be following these exchanges.
” 1.The Union shall not be liable for or assume the commitments of central governments, regional, local or other public authorities, other bodies governed by public law, or public undertakings of any Member State, without prejudice to mutual financial guarantees for the joint execution of a specific project. A Member State shall not be liable for or assume the commitments of central governments, regional, local or other public authorities, other bodies governed by public law, or public undertakings of another Member State, without prejudice to mutual financial guarantees for the joint execution of a specific project”.
I wonder if, in the context eurobonds, and with a layman’s reading of the text, whether what is at issue may not be a mutual financial guarantee and a specific project, not the acceptance of liability for the “commitments etc.”.
Of course, the German constitutional court may well take a different view. But what national courts are enjoined to do in circumstances of legal doubt is to refer the matter to the European Court of justice. (Article 267 TFEU).
However, this discussion is rather academic as the EFSF is governed by Luxembourg private law. Interestingly, the framework agreement underpinning it states that disputes should be referred, you guessed it, to the ECJ. This also true of the ESM which will be established by way of international treaty. Curiouser and curiouser!
@DOCM,
European Court of Justice comes into consideration after national courts have had their say.
http://eur-lex.europa.eu/LexUriServ/LexUriServ.do?uri=CELEX:12008E267:EN:HTML
You’re implying that some are lacking in ‘reciprocal responsibilities’ but have not yet explained what the transgression is. Can you do so?
@ Jesper
Let’s put it like this; I agree with George Soros.
http://blogs.reuters.com/great-debate/2011/08/12/germany-must-defend-the-euro/
…so stop dressing it up as a treaty obligation or a moral imperative .. the germans have no choice, it is a pragmatic inevitability
The markets want Eurobonds to be exchanged at 100% for Greek, Italian, Irish, Portuguese debt. Thats their only way to get their money back from German, Finnish, Nederlands taxpayers.
Their clear motive is protecting their investments at the expense of the EU taxpayer.
Eurobonds could work, however large haircuts would have to be applied to periphery bondholders before having their bonds converted/swapped for secure eurobonds. How much would these haircuts be?
Look at the swaps that happened to Greece, Greek government bonds trading at 50-75% of their face value in the secondary markets and gaining average 5% interest from the Greek government – swapped for bonds at 80% of the face value and gaining 6%interest from the Greek government. On the face of it a great deal for the bondholders/markets according to the prices in the secondary markets.
Unfortunatly I am not confident that our politicians can get a good deal with Eurobonds. It seems that the bankers and the markets are winning this game.
@ jgh
I agree with your point that Germany has no choice. And I never brought up the idea of a moral imperative (if that remark is addressed to my comments).
But the issue of treaty obligations is a key one because of the likely public perception in Germany of inevitably having to concede. Germany accepted these treaty obligations for sound self-interested pragmatic reasons. The German electorate have, however, been sold a distorted narrative for domestic political gain by certain political elements. It may prove difficult in such circumstances to recover their support for the European project which is very much in Germany’s interest. The same holds true of the Netherlands where there is to be an emergency parliamentary debate next week.
The issue is being presented as a return to the Deutsche Mark and the Guilder. In other words, a clear attempt to persuade the respective electorates to support winding the clock back without any real analysis or appreciation of the likely consequences both for them and the rest of Europe.
I wonder if there are some wry smiles at FF HQ at the unusual sight of a GERMAN political leader being stitched up by his/her European partners, being faced with a decision to save either the EU or his/her political party.