That’s the tongue in cheek question posed
by Wolfgang Münchau yesterday, in a column that raises some pointed
questions about the European debt crisis.
Is the eurozone
insolvent? In the past few weeks, we have all focused on the solvency of
Greece, Spain and Portugal. But we never seriously questioned the solvency of
those who actually guarantee all those southern European debts.
Münchau argues that the question cannot be answered by
reference to the debt-to-gross domestic product ratios of eurozone countries,
because those numbers exclude contingent debt and the interconnectedness of
financial flows, and the biggest category of contingent debt are the guarantees
the eurozone has been making over the last few years.
European Union governments have effectively guaranteed the
liabilities of their entire banking sectors. They have guaranteed all bank
deposits up to a certain limit. The eurozone member states guaranteed Greek
debt for the next three years, and then extended the scheme to the rest of the
eurozone. And those guarantees will probably have to be doubled again. . . .
International Monetary Fund estimates suggest that the
eurozone is well behind the US in terms of writing off bad assets.
How far behind and how bad are the assets? Hard to know, but the chart at right by Alphaville’s Tracy Alloway shows the net foreign asset position
of banks in Germany, France, Italy and Spain. It indicates that German banks’ accumulation of foreign assets
has been growing substantially, likely due to developments in Landesbanken —
Germany’s public sector banks — in the first half of the last decade. According to Alloway, in 2001, the
European Commission abolished
state guarantees for the Landesbanks, but the institutions were granted a
four-year adjustment period.
To counter, or prepare for the loss of the state guarantees,
the Landesbanks went on something of a shopping spree — snapping up high-yield
assets, the effect of which you can see in the chart.
Finally, Gillian
Tett reports on the release last week by Barclays Capital of “the latest
part of a long-running survey of Japanese bond investors, which tries to determine
attitudes towards dollar and euro bonds.” The report revealed that two-thirds
of Japanese investors fear that the latest €750bn aid package will have “not
much” impact on the eurozone’s problems – up from just one-third of investors
that expressed skepticism two weeks ago (when the package emerged).
Investors also expressed fear about euro bonds:
at the start of the year almost 80 per cent of the survey’s
respondents preferred euro debt to dollar debt, but that proportion is now
below 30 per cent.
Japanese investors are not just worried about debt issued by
the peripheral economies of Portugal, Italy, Ireland and Greece; they seem
pretty uneasy about German bonds too.
Münchau
concludes that
As long as the eurozone governments can generate sufficient
tax revenues, all is well. But if that were to stop, the eurozone’s debt
edifice might break down like a house of cards. Even a 150 per cent debt-to-GDP
ratio would be feasible if the eurozone had an intelligent growth strategy. But
it never did, and it still does not.
Meanwhile, Germany has proposed extending
its short selling ban to all German stocks and certain euro-currency
derivatives. (A hearing on the draft is scheduled for May 27 in Berlin.) And
the European
Central Bank announced that it purchased another €10bn of government bonds
in the last week, bringing its total purchases to about €26.5bn in the past two
weeks.
Like
I said, that should fix everything.
I guess some folks, God help them, actually believe that bans
on short selling, the suspension of mark-to-market accounting, and shifting the
risk of European periphery debt from individual European financial institutions
to the central bank will fix Europe’s ills.
I’ll be back later with more about the ECB bond purchases,
particularly the potential impact on a debt restructuring.
Image source: The
Economist