The situation in Greece turned nasty yesterday, with three bank workers killed amid violent protests in Athens.
And things don’t look like they’ll get better quickly. All eyes are now on the European Central Bank meeting later today. Will the ECB simply do nothing? Or might it hint at going for the “nuclear option” of directly buying government debt from vulnerable countries?
Meanwhile, the euro has continued to fall, and markets across the globe have slipped – the FTSE 100 is now showing a loss for 2010 so far.
It’s little wonder that markets are panicking. Because now questions about banking sector solvency are rearing their ugly heads for the first time since the Lehman Brothers collapse…
What’s spooked the banks?
As the situation in Greece gets worse, banks are apparently becoming wary of lending to one another again. The dreaded words “counterparty risk”, that we all learned so much about in the wake of Lehman Brothers, are cropping up in press reports.
Says David Oakley in this morning’s FT: “Banks are now more reluctant to lend to each other than at any point since the problems of Greece first blew up last October.” One key risk measure – the spread between overnight and three-month lending rates – has hit an all-time high.
What’s spooked the banks? It’s simple. Lots of them hold government debt from the likes of Greece, Portugal and Spain. French and German banks own about €80bn worth of Greek government debt alone, says Barclays. If these countries feel the need to “restructure” their debt (that’s a polite euphemism for ‘stiff their creditors’), then clearly that’d have a knock-on effect to Europe’s financial institutions.
The cost of insuring the banks with the most exposure to Greece against default has risen too. Don Smith at interdealer broker Icap tells the FT: “No one expects a large number of banks to collapse in the coming days or even months.” But, he says, the ECB needs to get serious about helping out these economies.
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Trouble is, it’s easy for pundits to call on the ECB to “do something.” Yet Europe’s central bank is not like the Bank of England, or the Federal Reserve. It has a lot more political and legal restrictions on what it can do.
Already, Bundesbank President Axel Weber is drawing lines in the sand. According to Bloomberg, he’s warned that the Greek crisis doesn’t merit “using every means” – in other words, he’s not keen for the ECB to start buying up government bonds. “Measures that damage the fundamental principles of the currency union and the trust of the people would be mistaken and more expensive for the economy in the longer term.”
Markets are running out of control
Yet as Ken Wattret of BNP Paribas put it: “There’s a risk that the ECB doesn’t do anything because they feel it’s too soon to act. But something desperately needs to be done to inject confidence into markets that are running out of control.”
The trouble is that as investors start to panic, their imaginations run away with them. As Gillian Tett points out in the FT, Europe is facing its “Bear Stearns” moment. The €110bn bailout package has merely reminded investors that “we are now in uncharted waters.” Just as Bear Stearns’ collapse showed investors that even Wall Street banks could go to the wall, Greece’s woes have shown that it’s not just “small, emerging market nations” that go bust. “Greece has shattered the limits now, and nothing seems unimaginable any more.”
The euro is doomed
So there’s a lot of pressure on the ECB to act. But regardless of what the bank does, it can’t be good for the euro in the long run. If it does nothing, then it might be good for the euro’s short-term reputation as a ‘sound’ currency, but the Greek situation is only more likely to spread and undermine the eurozone as a whole.
If on the other hand, the ECB somehow manages to circumvent Weber and decides to pursue a policy of quantitative easing, then the euro will have shown that it’s no more a “hard” currency than sterling or the dollar or any of those other QE currencies.
And perhaps more to the point, the Germans will not be happy. Cultural memories of the Weimar Republic run deep, and if the ECB starts playing fast and loose with the currency, I can see the Germans looking for a way out. And that could be the most sensible option, as my colleague Merryn Somerset Webb has pointed out in the past: Why Germany should dump the euro.
As one of our new writers, Simon Caufield, has said, “the horrible truth is that the euro is doomed. It simply cannot survive in its current form”. The massive gap between the conservative northern economies and their hugely uncompetitive southern neighbours is simply too great. Simon has uncovered a way to bet against the euro in the longer term, without having to spread bet. He’ll shortly be launching his True Value newsletter. If you’d like to be among the first to hear when it comes out, then sign up here for regular updates.
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How to take cover as Europe implodes
The eurozone is looking more fragile every day. And then there’s the uncomfortable question of our own national debt. So where should you be looking to secure your wealth? Merryn Somerset Webb explains.