European policymakers have “dithered and delayed” for 18 months, as Larry Elliott put it in The Guardian. So it was perhaps too much to expect that they would hammer out all the details of a ‘comprehensive’ response to the eurozone sovereign debt crisis at this week’s summit, the 14th emergency meeting in 21 months. Shortly before, as MoneyWeek went to press, only some of the broad principles of the rescue package had begun to take shape.
The plan consists of three main planks. One is reducing Greece’s debt load to a sustainable level by persuading bondholders to accept a haircut of around 50%. European banks will also be recapitalised to the tune of over €100bn to enable them to cope with a write-down on Greek debt and possible losses on other southern states’ paper. Finally, the eurozone rescue fund, the European Financial Stability Facility (EFSF), will be substantially beefed up. The idea is to persuade markets that Europe can stand behind the debt of major countries on the critical list, such as Spain or Italy.
What the commentators said
This week details of the plan have remained “a constantly moving cacophony of compromises and trade-offs”, said Jeremy Warner in The Daily Telegraph. On the banking front, however, the mooted €100bn-plus figure is around half the sum that a recent IMF study suggested banks should raise. And “raising money on markets looks all but impossible”, as the FT pointed out. So banks may try to reach tougher new capital targets by shrinking assets, which implies less lending and growth.
The EFSF, meanwhile, currently has “barely enough to keep Italy afloat for the best part of a year”, said Robert Peston on BBC.co.uk. Once all the money set aside for Greece, Portugal and Ireland is taken into account, there’s only about €250bn in the kitty. Germany, due to its hyperinflationary history, vetoed the idea of getting the European Central Bank to lend alongside it. That would have massively bolstered its firepower as the bank can print money.
That leaves the idea of using the EFSF as an insurance scheme to cover the first 20% or so of losses on peripheral debt, said Peston. That would allow the fund to be leveraged up to €1trn. But it also increases the implicit risk to the countries standing behind the fund. Another option is to draw in money from sovereign investment funds and the IMF. “Without non-European participation in the EFSF”, it’s hard to see European states “finding a way to properly supply the facility with the funds that it so desperately needs”, concluded FxPro.com. With many of the summit issues far from settled, don’t expect the crisis to be over any time soon.