Restructuring could make sense – if it were not for the unknowable effects it could trigger, writes DAN O'BRIENEconomics Editor
YOU HAVE a long-term, serious illness. Your medication has many debilitating side-effects, some of which manifest daily, while unknowable others may only manifest in the future.
On one of your regular visits to the doctor, he tells you of a new untested operation. If successful, you might recover to enjoy a normal, healthy life. But there is no certainty about the outcome. The doctor looks you straight in the eye and tells you that the surgery could kill you.
Do you continue taking the drugs in the hope that they will eventually work, or do you plump for the radical solution telling yourself that life as is – with constant illness compounded by the side-effects of the drugs – is just not worth living?
This is Europe’s awful dilemma. The patient is the euro. The medication: bailout. The untested surgery is debt rescheduling/ restructuring/default.
When euro illness was diagnosed early last year all the main actors in Europe – governments and EU institutions – backed bailout medication over restructuring surgery. Then, they were prepared to live with the side-effects – grinding austerity for the bailed out and disgruntlement for populations in the countries doing the bailing out who felt/feel (rightly or wrongly) that they pay for the fecklessness of others.
But in recent weeks the balance has shifted. Although it remains firmly in favour of those advocating sticking to the bailout plan, there is a growing number of voices calling for the riskier, restructuring option. The reason: the medication has proved much less effective than hoped for in Ireland and, in particular, Greece. And its side-effects – for the Germans, Dutch and Finns – are increasingly unbearable.
Greece is – as always, and, to switch metaphors – at the epicentre of the latest euro eruption. It is rarely out of the news. Yesterday, for instance, Greece’s government debt was downgraded (yet again) by a credit ratings agency.
The current wave of panic about Greece began less than a month ago. On April 14th, German finance minister Wolfgang Schäuble told a newspaper that restructuring its debt in the short term could happen on a “voluntary” basis. That the Germans were even contemplating the radical option triggered panic. It was fuelled by further press reports suggesting that restructuring of Greek sovereign debt was being talked about in official circles from Athens to Washington.
Yields (the effective interest rate) on Greek government debt exploded after Schäuble’s comments. Within days they had surpassed previous peaks. They are now so high that it is all but impossible for the Aegean country to borrow private money as scheduled next year under its bailout terms. Greece will need a bigger and more protracted rescue package to avoid sovereign debt restructuring. Ireland is suffering contagion effects. Yields on Irish debt had fallen steadily in the two weeks after the €24 billion bank recapitalisation was announced on March 31st. But that progress was undone within a week of Schäuble’s comments. Last night yields on Irish 10-year bonds reached yet another record high, standing at 10.4 per cent.
The European Central Bank and France are strongly opposed to restructuring, believing it could trigger a crisis of the kind that followed the Lehman Brothers default. A domino effect of defaults could follow, tearing the euro apart and bringing down the continent’s banking system.
But Germany is wavering. And it, ultimately, is the country that counts. Germany is the largest economy in the euro bloc by a distance and is by far the most credit-worthy, not only in the euro zone, but among the G7 large developed economies.
A growing number of German economists want restructuring and believe the euro project is undermining the “stability” they prize above all else. The new boss at the German central bank, Jens Weidmann, used that word 20 times in his 10-minute inaugural speech last week. He took on the job after his predecessor quit in disgust over the involvement of the ECB in helping weak countries by buying their debt.
German business is wavering too. A former head of Germany’s equivalent of Ibec, Hans-Olaf Henkel, is taking his government to the country’s supreme court. He claims that participation in the bailout is unconstitutional. He is not the type to act alone and his views reflect those of many in the business community.
When learned academics and hard-headed corporate executives say that bailing out debt-laden countries is bad for Germany, it causes popular resentment – already rock solid – to harden further. In a country that has never reconciled itself to the loss of the Deutschmark, paying to save its replacement is bitterly resented. All of this makes German involvement in further bailouts, or an extension of Greece’s rescue, very difficult.
From a political perspective, the calculation for Germany’s government is whether to put more into bailing out foreign countries or to let those countries restructure their debts, resulting in huge losses for German financial institutions, and then recapitalise those same institutions. German taxpayers may be less likely to choke on a rescue of their own banks than on a transfer of their taxes to profligate peripheral countries.
Restructuring could make economic and financial sense, too, if it were not for the unknowable effects of what it could trigger.
Better to plough on, take the pain and hope for the best than risk everything.