Eurozone Divided By Banking Crisis

Efforts by the French government to initiate a €300 billion bailout fund for troubled banks in the Eurozone will probably end in a stillbirth after Germany has reiterated its stance that it is not willing to bailout other banks.

In an interview with the Wall Street Journal:

German finance minister Peer Steinbrück said the crisis was U.S.-centered and suggested European governments are overreacting if they pursue coordinated plans for bank bailouts. "To put it mildly, Germany is highly cautious about such grand designs for Europe," he said. "Other countries are free to think about it. I just don't see any German interest in it." 

German officials are opposed to any European plan that would mirror the U.S.'s proposed $700 billion purchase of banks' bad assets. Mr. Steinbrück questioned why German taxpayers should have to pay "to stabilize situations for which other countries are responsible." Berlin also isn't interested in a Europe-wide financial regulator, though it supports a package of EU-wide banking regulations proposed Wednesday. 

The rift between France and Germany uncovers a structural deficit of the single currency. The European Central Bank (ECB) has no treasury behind it that could guarantee funds. Rising spreads between Eurozone government bonds become a heavy burden on exactly those nations who could need cheap financing the most.

Taking it from the two most recent important changes in the Eurozone, the Euro may become an endangered species in the medium to long-term.

Ireland embarked on its own way to contain the financial crisis by guaranteeing all deposits of the country's six biggest banks last Tuesday. €400 billion is about twice the GDP of the green island.

French Government Will Buy 30,000 Unfinished Homes

This intervention was dwarfed by France, reports the WSJ:

France put out a directive of its own late Wednesday, aimed at its distressed home and mortgage markets. The government will buy as many as 30,000 unfinished homes, make more state-owned land available for private home building and state-guaranteed mortgages available to 60% of French home buyers, triple the percentage now eligible.

These actions make a combined effort of the Eurozone members even more unlikely, as the finger pointing against most unilateral actions has already begun.

Politicians and bankers alike fear a domino effect, where the failure of one large cross-border bank could lead to a systemic disruption that will bring even more financial institutions to the brink of collapse.

In highly unusual moves, various banking representatives have appeared on national TV these days in order to reassure consumers that their respective banking systems and their savings were safe.

Well, we have heard this from a legion of bankers by now, mostly only days before their firm faltered.

I am not buying any of this.

As in the USA, Eurozone banks are in serious trouble trying to evaluate their illiquid assets. National accounting rules and investment fund guidelines allow marking a position to its last traded price. The only problem is that markets for anything mortgage related have completely dried up.

This creates a time bomb in balance sheets, as the last trade may have been 80 and now there is no more market, making these toxic assets eligible for a massive write-down to eventually zero in the near future.

As for the Euro? The single currency was not designed to withstand a crisis of the current proportions. Discussions about its intrinsic value are superfluous as long as the ECB keeps the presses red-hot.

With M3 growth at 8.8%, still almost double the target rate of 4.5%, the Euro has a serious inflation problem that is only masked by artificially low official consumer price changes. While food inflation had been detected by consumers early on, they now discover that federal and local governments raising charges for most services, fueling true inflation even more.  

Yes, Europe has slid into a true economic mess and I am surprised how the deterioration gains speed.

This is also the litmus test for the EU, which has not experienced such a crisis in its history. As we have seen from history, it can be expected that nationalism will gain, as national states have been able to fend off trouble at their borders. This has become impossible with the Euro. Now we all sit in the same boat that encounters the perfect storm.

Comments

[Econ Base:]

Eurozone is driven by desire for political union. The financial union is based on subsidies by Germany. Lets see how long this Eurozone expt. lasts.

2008 Oct 03 09:29 AM

[Pretzel Logic:]

I'm of the opinion that the EU collapses before this is all over. There are too many divergent interests for this not to happen. The Euro was a great currency for beautiful days when the sun was shining, but now that the floods have come, I think the foundation will be washed away.

2008 Oct 04 06:11 AM

[NOWHEREMAN:]

Ireland put a lot of pressure on the entire EU by guaranteeing the safety of all of its Bank Depositors. Either the EU does something similar or the next sound you hear will be the flushing of Euros into Irish Banks.

What they do could be to wait and see what effect the Bailout will have on the Market averages next week. While shorting has been curtailed on some individual stocks, shorting baskets of stocks like ETFs could prove to be much worse.

2008 Oct 04 08:43 AM

[EUARTE:]

I am not a professional economist. Nonetheless, when the € was created I told all my friends that the € was doomed. It had none of the basic things needed for a viable currency. I was laughed at and got those kind smiles. Well! Here it tis. On the way out.

2008 Oct 04 01:10 PM