2010 May 05 Wednesday
Germany Wants Bankruptcy Mechanism For EU States

The German government seems to be coming around to the position that bankruptcy with losses by lenders is preferable to bail-outs by wealthier EU states (e.g. Germany). ParaPundit agrees.

“We quite urgently need something for the members of European Monetary Union that we also didn’t have during the banking crisis two years ago,” German Finance Minister Wolfgang Schaeuble told reporters yesterday. “Namely the possibility of a restructuring procedure in the event of looming insolvency that helps prevent systemic contagion risks.”

Is Schaeuble saying that European governments should have established procedures for going bankrupt? Sounds to me like Angela Merkel prefers loan defaults and losses of principal by creditors.

Merkel, who faces elections in Germany’s most populous state on May 9, is seeking to shift focus from the Greek bailout to drawing lessons from the euro’s biggest crisis. An “orderly insolvency” process would ensure that creditors participate in any future rescue, she said on ARD television yesterday.

Merkel's government wants to find a way to keep states as members in the Euro zone without having to periodically bail them out with loans. I think this position makes sense. I doubt that the German voters are going to accept their role as funders of more spendthrift states.

The United States Congress needs to pass legislation that makes it easier for state governments to declare bankruptcy. Government bankruptcy might be the only practical way to close the widening gap between public sector and private sector pay. Parenthetically, that gap really started to widen in 2005 and 2005 just happens to be the year of peak world oil production which wasn't surpassed in the following 4 years.

With the debt loads of other European nations beginning to rattle the markets it is important to appreciate the level of German popular opposition for the Greek bailout which is a close call with the German electorate.

The urgency was evident in Mrs. Merkel’s television blitz on Monday, with a news conference in the afternoon and appearances on three stations in the evening.

“If she’s taking such drastic measures, it means that she fears that if she can’t anchor her version that it will cause real damage,” said Oskar Niedermayer, professor of political sociology at the Free University in Berlin. “It’s still unclear at the moment which view of the Greek crisis will win the upper hand in the minds of the public.”

The German electorate clearly opposes bailing out Greece. That makes bailing out Portugal and Spain even more problematic. The Germans will be even more resentful of bailing out still more countries. Hence the interest in organized ways for states to go bankrupt.

Opinion surveys in Germany have for months shown a sizable majority of the population here opposed to any bailout for Greece, with a constant drumbeat of news media coverage about Greek profligacy helping fuel the discontent.

The market for credit default swaps indicates that Portugal is most likely the next sovereign state to have problems with funding its deficit via bond sales.

Against this backdrop, the spread on Spanish credit default swaps rose 29% to 210 basis points from 163 basis points on Monday, according to Markit. That means it would cost $210,000 a year to insure $10 million of Spanish debt against default, compared to $163,000 on Monday.

The Portuguese CDS spread rose to 350 basis points from 284, while the Irish CDS spread rose 31 basis points to 220, and Italy's was up 18 basis points to 160.

Greece's CDS spreads fell 1 basis point to 725, but still remain at very high levels, according to data from Markit.

So if the Portuguese CDS spread doubles then crisis #2 will hit and then Spain will be teed up to become crisis #3. A sovereign debt ratings downgrade for Spain and Spain's lackadaisical approach to the approaching crisis makes a Spanish debt crisis all the more likely.

Will the Euro members all stay in the monetary union? Stay in and go bankrupt? Or bail from the Euro entirely? There's not a third choice given German voter aversion to subsidizing other Europeans states.

Update: We need fast clear mechanisms of bankruptcy for governments because the financial conditions of governments will deteriorate. Governments are going to be faced with a choice between credit defaults and currency inflation. I would prefer the bankruptcies and shedding of obligations. Inflation, by contrast, will distort markets and deliver much more unfairness.

Share |      By Randall Parker at 2010 May 05 12:55 AM  Economics Sovereign Crises

gig said at May 5, 2010 5:42 AM:

So atop a total debt of 300 billion euros which is not going to be paid, Europe+IMF gave another 120 billion to them. So another 120 billion of trash bonds were introduced in the system. ANd this is the beginning, because the big boy hasn´t entered the room yet.

When Spain comes begging for cash, than the SHTF

A.Prole said at May 5, 2010 12:54 PM:

The EU is a putative totalitarian,federalist dictatorship tht at its core is profoundly undemocratic - and has been since the Traty of Rome way back in 1951.The intention always was to create a federalist superstate - opposition be damned! - and the means to doing this has been rigged referenda in nation states and the unworkable, flawed and economically insane single currency.
The great English parliamentarian Enoch Powell warned the British public about this 40 years ago - but he was ignored.The British political class tried its damndest 20 years ago to force Britain into the Euro (with no referendum), but a back-bench revolt by committed Tory Powellites scuppered this scheme and fatally split the Conservative Party.
The Powellites have been proven right.

gig said at May 5, 2010 5:32 PM:

Another point. In my work, there is a reasonable number of people who traveled to Europe and Greece to talk to the key players there.

The message they bring defies belief. The eurocrats in Brussels see all of this as a chance to grab even more power, reduce the already residual sovereignity of the nations and concentrate even more power in Brussels

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