By J. Morton Davis - 02/13/12
Perhaps some would argue it's none of our business and we should therefore refrain from giving any gratuitous advice to our friends. However, because of the critical risks to the American economy emanating from the dire financial situation of various members of the European Union, or in the event of a worsening of Europe's chronic sovereign debt crisis, it is of vital interest to us in the United States that a constructive resolution be effectuated. So, in an effort to hopefully be helpful to these important friends, I here attempt to offer a financial plan that would result in a favorable European solution.
To begin with, national economies should not be subjected to the volatility of the financial markets' participants or to any concerted short-selling attack by bond or derivative traders - who can, and have, induced a boom and bust "debt bubble" - which exposes these nations to the risk of having their economies pushed into a devastating recession and the consequent egregiously painful cost of losing millions of private and public-sector jobs. In order to insulate against this kind of occurrence, legislation similar to Dodd-Frank regulations must be enacted.
In the meantime, the European Central Bank (ECB) should act - much like the Federal Reserve Bank in the United States, which is mandated to keep both inflation and unemployment down in order to engender economic stability - to become the "lender of last resort" when it feels it would be both necessary and beneficial. In this way, the ECB would thereby serve as a vital safety net whenever liquidity dries up, and particularly when its countries' economies and/or its banks experience a liquidity crisis.
Specifically, the ECB should buy up all of, or as many as possible, the devastated discounted sovereign government bonds of those euro countries whose debt instruments are under assault and have thus driven up the interest rates to unprecedented levels, which they must now pay to raise desperately needed capital. Indeed this must be done, because they are at the point where their very solvency is under threat and the consequences of default could be terribly dangerous and ultimately disastrous - not just for all of the European Union members, even including the still very strong ones like Germany and France, but also for countries outside Europe, especially the United States.
The ECB could then make funds available to these countries at very low rates of interest (close to zero) as it recently has done for the European banks and as the U.S. Federal Reserve has likewise done for American banks during our own recent financial economic crisis.
In turn, these governments, which are in such financial stress due to the fact that so much of their debt is obligated to be paid off quite soon, can use the very low interest funds to buy back the bonds that the ECB had bought, in some cases, at as much as a 50 percent discount or more.
In this salutary process, these sovereign nations could be rescued from the disastrous financial straits they are currently in and would once again be able to finance their financial needs at very reasonable interest rates. At the same time, all the banks that still hold so much of these euro countries' debt would benefit enormously as they would experience a vast appreciation of their sovereign bond holdings - these countries' outstanding bond ratings would be upgraded, and thereby the banks would be revitalized and returned to financial health. It would result in a win-win for all involved - for the euro nations currently under such distress and for the banks who as a consequence of this distress are suffering similar imminent financial danger.
The exaggerated concern by some that such massive printing of money would lead to damaging explosive inflation is, in light of the prevailing recession and disinflationary environment, clearly disproven by the fact that despite the vast amount of new money that the U.S. Federal Reserve has printed, the United States has not experienced any increase in inflation and U.S. interest rates are at historic lows.
To prevent the recurrence of the present dire situation brought about by the undisciplined, uncontrolled and unsustainable fiscal policies of many of these governments, those countries so accommodated would of course be required to introduce such fiscal disciplines that the ECB and the European community leadership would impose as a condition to receiving those low-interest rate funds from the ECB.
In this process the euro as well as the Union of European countries could be solidly revived and can move on to once again achieve desirable, healthy economic growth.
Davis, a shareholder in The Hill's parent company, is a Wall Street investment banker and author of Making America Work Again and From Hard Knocks to Hot Stocks.