Even a 1-Trillion Euro Firewall wouldn’t be enough
A core piece of last week’s European newsflow was that following much pushback, Angela Merkel, who understands the underlying math all too well, finally dropped her opposition to expanding the European “firewall” in the form of a combined EFSF and ESM rescue mechanisms, to bring the total “firepower” to €800 billion (ignoring for a moment that when the true dry powder of the combined vehicle is just about €500 billion net as explained here, hardly enough to rescue Spain, let alone Italy). Yet as has been explained here repeatedly, and as Merkel has figured out, this is easily the most symbolic expansion of a rescue facility ever. Because while the ECB’s agreement to allow Eurobanks to abuse its €1 trillion discount window for three years (which is what the LTRO is), following the replacement of JC Trichet with a Goldman apparatchik, at least infused the system with $1.3 trillion in new fungible liquidity (and resulted in a stock market performance boost for the ages, one which is now unwinding), the ‘firewall” does not represent new money, nor is a “firewall” to begin with – it is merely one massive contingent liability which will remain unfunded in perpetuity. Slowly the German media is waking up, and in an article in Der Spiegel, the authors observe that “Even a 1-Trillion Euro Firewall wouldn’t be enough.” And they are correct, because the size of the firewall is completely irrelevant, as explained later. All the “firewall” does is shift even more backstop responsibility on the only true AAA-country left in the Eurozone, Germany. However, the main cause of problems in Europe – a massive debt overhang which can at best be rolled over but never paid down due to the increasingly lower cash flow generation of Europe’s (and America’s) assets, still remains, and will do so until the debt is finally written down. However, it can’t because one bank’s liability is another bank’s asset. And so we go back to square one, which is that the system is caught in the biggest Catch 22, as we explained back in 2009. We are glad to see that slowly but surely this damning conclusion is finally being understood by most.
European finance ministers meeting in Copenhagen on Friday agreed to boost the euro-zone firewall to over 800 billion euros. The move marks another U-turn on the part of the Merkel administration, which recently dropped its opposition to increasing the fund.German commentators warn that even the new firewall may still be too small.
Austrian Finance Minister Maria Fekter announced on Friday that the permanent euro rescue fund, the European Stability Mechanism (ESM), would be expanded, by considering the around €200 billion in current bailouts as being separate from the €500 billion earmarked for the ESM — originally, the €500 billion figure was to have included the €200 billion in existing aid. The ESM, which is due to come into operation in mid-2012, will also be boosted by including around €100 billion in bilateral aid that was given to Greece in 2010, as well as aid from other EU funds, bringing the firewall’s total capacity to over €800 billion.
Fekter expressed her confidence that Friday’s move would be enough to calm the financial markets. “The markets are already signaling relative calm,” she said. “That shows that the markets can work with what we have set up here.”
The Nuclear Option
On Thursday evening, in the run-up to Friday’s summit, German Finance Minister Wolfgang Schäuble had said he was prepared to combine the existing bailouts with the new permanent mechanism. He said that the €800 billion capacity was “convincing” and “sufficient.”
But not everyone shares his view that the sum is enough. On Thursday, French Finance Minister François Baroin called for the permanent euro bailout fund to be increased to €1 trillion, to shore up market confidence and prevent contagion in the euro crisis. “The firewall, it’s a little like the nuclear option in military planning, it’s there for dissuasion, not to be used,” Baroin said in a radio interview. He was echoing calls made by the Organization for Economic Cooperation and Development (OECD) earlier in the week to boost the firewall to €1 trillion.
The German press is also finally starting to wake up:
The center-right Frankfurter Allgemeine Zeitung writes:
“It is to be doubted whether all members of the Bundestag actually understand the financial dimension and the technical details of the ESM. It doesn’t help matters that the federal government has repeatedly shifted its position on this issue — as the SPD’s floor leader Frank-Walter Steinmeier rightly pointed out.”
“But the entire euro rescue is a balancing act. On the one hand, fiscal discipline needs to be promoted. The pressure on the crisis-stricken euro-zone members to carry out reforms must not be undermined by the knowledge that, if they fail, they will be caught by a financial safety net. On the other hand, there is the need for solidarity. Those countries that are in a better position can ‘help the others to help themselves,’ as Schäuble put it.”
“As always in the EU, these things lead to compromises in practice, which also explains why the government has readjusted its position on the ESM. The high ratings that Merkel enjoys in the polls may be related to the fact that the Germans seem to intuitively understand this delicate maneuver.”
The left-leaning Die Tageszeitung focuses on the calls to boost the ESM to €1 trillion:
“A trillion! That’s how much money France is now demanding for the euro rescue fund. Until now, Chancellor Angela Merkel only wanted to come up with €700 billion. On the surface, it looks as if a Franco-German showdown is on the horizon. In fact, it is nothing more than a PR battle, where nothing is really new. It was already clear last summer that the existing EU rescue fund, the EFSF, was much too small to save Italy or Spain in an emergency. Even then, people were talking about €1 trillion as a target.”
“One trillion euros is a lot of money, and yet even this huge sum will not be enough. But again, that’s nothing new. For months, calculations have been doing the rounds that show that at least €1.5 trillion will be needed. The only interesting question left is how long it will take France and Germany to acknowledge this reality.”
The last observation is off on the right track but is nowhere near close enough to the true conclusion, which was stated here yesterday by Mark Grant:
The Firewall Lie
Whether some proposed firewall is $760 billion or $1.3 Trillion or $13 Trillion makes no difference as in zero, nada, nothing and null. It is an IOU, a promise to pay and it is not counted in any European sovereign debt numbers nor is it counted in the figures for the European Union’s debt. It will not stop Spain or Portugal or Italy from asking for or needing money. It will not stop contagion nor will it protect any nation from the calamities of another nation. If approved by the Finance Ministers it is not approved by the European Parliaments and even if approved; it accomplishes nothing besides one more unaccounted for contingent liability that is nowhere to be found on anyone’s books. This whole discussion is a head fake, a deception and a ruse carefully plotted out for investors in one more attempt to mislead the entire world. If you wish to be a statistic in the Greater Fool Theory be my guest but I refuse to be apart of this unadulterated scam.
In other words, the next time a crisis flares up, the only thing that will delay the unwind, as the LTRO 1 and 2 did in late 2011, is another fresh injection of liquidity, whether in exchange or not for worthless collateral which was unused to begin with, as only new money can delay the unwind.
Of course, with every new trillion in incremental cash, now that central bank balance sheets are growing exponentially, more and more is now spilling over into hard assets, despite a clogged monetary transmission mechanism. The longer Europe’s farcical crisis continues, the more the status quo will have to fight tooth and nail to prevent an explosion in hard asset prices expressed in fiat. This is a fight they will lose.