The financial crisis of the past week, that claimed the leaders of two European governments, came within a whisker of recreating the 2008 Finance Crisis, but was averted by timely action from European financial leaders.
At least that is how it is being reported in the media.
Prime ministers fell, markets shook and there were rumours that the eurozone would split up. But it survived – for nowThe stock market rallied on news of new austerity measures, a former central banker becoming leader of Greece's new government, and agreements on a new bailout plan.
The thing is, this was never a stock market problem. This is a credit market problem, and the credit markets don't believe any of it. Most importantly, they don't believe in the bailout.
Sources said the EFSF had spent more than € 100m buying up its own bonds to help it achieve its funding target after the banks leading the deal were only able to find about €2.7bn of outside demand for the debt.To put this as plainly as possible: a central bank being forced to buy up the debt that it just issued, in order to hide the fact of the failure to find buyers for its debt, is the perfect example of a Ponzi scheme reaching its end game.
The revelation will be seen as a major failure and a worrying sign of future buyers strike after EFSF officials and their bankers had spent recent weeks travelling the world attempting to persuade key investors, including China's national wealth fund and Japanese government funds, to buy its bonds.
The stocks markets have rallied, and rallied again, on every rumor of a European Central Bank bailout. Most of those rumors have involved China being the ultimate "dumb money" and using their vast currency reserves to buy into a risky bailout plan.
Without the bailout plan, a plan that involves holders of Greece's debt in the credit markets to willingly take 50% losses, none of these rumors amount of anything. The entire stock market rally is based on an illusion.
While the financial media reassures us that the crisis will be narrowly averted, leaders in Europe are coming to terms with the inevitability of the Euro's failure.
Germany's government has worked out contingency plans in the event that Greece has to quit the eurozone, according to a report published in Der Spiegel magazine, due out Monday.To put it bluntly, scenario #1 is no longer possible. We've reached scenario #2 this week.
German finance ministry experts were working on one scenario, under which a Greek exit from the eurozone went off without too much difficulty.
Greece's departure might even be good for the eurozone, because "without the weakest link the chain of member states in the zone would be strengthened," the magazine reported.
But it had contingency plans for a second, more serious scenario, in which Italy and Spain found themselves in turn targetted by the markets.
A third, doomsday scenario, was also being studied, the magazine reported.
In this one Greece defaulted completely -- unable to cope with the consequences of a return to its former national currency the drachma -- and dragged other vulnerable countries down with it.
After punishing Greece, Ireland and Portugal for their rising debt loads, the bond market is now targeting Italy, pushing bonds yields in the euro zone’s third-largest economy above 7 percent as the nation’s lenders prepare to refinance $120 billion of debt maturing next year. Italy’s $2 trillion in liabilities exceed those three countries combined, plus Spain.There are three significant issues in these two sentences that must be examined.
“The banks are deleveraging on a tightrope,” Alberto Gallo, a credit strategist at Royal Bank of Scotland Group Plc in London, said in an interview.
First of all, 7% is an important symbolic level. It was the level in which Greece, Portugal, and Ireland all became locked out of the credit markets and were forced to get bailouts from the European Central Bank.
The second issue here is the banks, most of them Europe's banks, that are giving up on Italy's debts. Most likely the drop in value of Italy's bonds is forcing to sell. But who are the buyers if China isn't? There's a real risk of selling into a vacuum, which is a similar situation to when Wall Street had to dump mortgage-backed securities on the market in 2008.
“The Italian banks are trapped,” said Roger Doig, a London-based analyst at Schroders Plc, which manages about $58 billion in fixed-income assets. “They are where they are and that’s with the Italian sovereign. The austerity required if the sovereign wants to remain in the euro zone means there’s going to be a recession, which will mean losses for the banks.”
“The market is pricing in an Italy event and assuming that Italy fails,” said Patrick Lemmens, a senior money manager who helps oversee about $13 billion, including Intesa Sanpaolo shares, at Robeco Groep in Rotterdam.
The third issue here is Italy's $2 Trillion in liabilities. Italy has the third largest debt market in the world. It's debts are 2.7 times larger than the debts of Ireland, Portugal, and Greece combined. There is simply no possibility of anyone bailing out Italy. It's too big. It's not even an option, even if China and Japan were willing to buy the debt, despite whatever else you might hear.
Italy shouldn't be in this situation because its fiscal situation isn't bad, despite its debt load being very large. However, the rise in interest rates is forcing it into insolvency. And the same banks that Europe's citizens are sacrificing to save are the ones now responsible for this situation.
Which brings us to scenario #3, the doomsday scenario which is now a real possibility.
The "spread" or gap between French and German 10-year bond yields has never been higher, as investors skip over France and invest in its safer neighbour, and the government's borrowing costs are rising...There are two enormous problems here: #1) France's banks are extremely over-leveraged on Italian debt, not to mention having exposure to already defaulted Greek debts, and #2) if France loses its AAA-rating then it can no longer being a part of the EFSF (i.e. the bailout fund). That leaves only Germany to bailout all the rest of Europe.
"After Greece and Italy, France?" worried Le Monde's Friday headline, over a stark graphic showing France's 1.7 trillion euro debt just short of Italy's 1.9 trillion and dwarfing Europe's trillion-euro bail-out fund.
"Let's not have any illusions. On the markets French debt has already lost its AAA," said Jacques Attali, advisor to former president Francois Mitterrand and former head of the European Bank for Reconstruction and Development.
While it is possible that Germany may become the "China dumb-money" of Europe. it is also very unlikely. Germans are already protesting.
France is part of "the core" of the Euro. If France goes down then the Euro is finished.
That's why it is necessary for Germany's plan for kicking out weak members like Greece needs to be put into effect.
It really has come down to a matter of Europe cutting its losses now or losing the entire monetary union.
Remember that the Euro was recently considered the #2 reserve currency of the world. A completely failure of the Euro would put into question the entire world's monetary structure.
The problem is that we are talking about 17 governments that rarely agree on anything. They are signed into an agreement that has no mechanism for countries leaving the Euro. Drastic actions need to be taken, and that is very hard to do while governments are collapsing.
How this all plays out is a question of politics, which is nearly impossible to predict. The only things for certain is a) the Euro as it currently exists is finished, b) more austerity and bank bailouts aren't going to fix this, and c) if things keep going like they are then we will be looking at a financial crisis even bigger than the one in 2008.
The losses of Wall Street were papered over by TARP in 2008. This time there is no possibility of a TARP because the governments of Europe themselves can't borrow.
"[austerity] is imposing pain for pain's sake, and it is going to cause creditors to collect even less on their Club Med debts than if austerity were abandoned. Even in the early 1930s they weren't as bad as this," said Charles Dumas from Lombard Street Research.
Humayun Shahryar from the hedge fund Auvest said the eurozone faces a "major economic collapse", perhaps with double-dgit falls in GDP. "European banks are massively over-leveraged and almost every one is worthless if you mark to market. This is going to be worse than 2008 because they have run out of bullets. The sovereign states are not strong enough to stand behind the banks," he said.
[Update: The person nominated for Prime Minister of Italy is Mario Monti. Get this - he's an economic advisor for Goldman Sachs. The vampire squid itself.
And the guy who recently took over the ECB, Mario Draghi, is also a former executive of Goldman Sachs.
The vampire squid, long in control of the Treasury Department, is now taking over the world.
This article sums up the situation perfectly.
It looks as though, by Monday, both Greece and Italy will be ruled by so-called ‘technocratic’ governments. Even though both Greek prime minister George Papandreou and Italian prime minister Silvio Berlusconi were elected comfortably in parliamentary polls and were never defeated in any vote of confidence in parliament, they have been ousted – to be replaced by unelected ex-central bankers and former executives of hedge funds and investment banks. From now on, financial markets will rule directly over the lives of the Italian and Greek people.Something tells me that if I was to investigate the financial history of Latin America I would find something very similar.