It seems that with each new story from the eurozone, things are becoming more and more serious.
The latest worry is that the financial situation in Italy, which apparently caught many by surprise, will lead to complete catastrophe for the 17-nation union. Currently, there are two solutions being considered by EU leaders:
- The European Central Bank (ECB) intervenes and underwrite the debt with Euro bonds.
- The International Monetary Fund (IMF) simply bails Italy out with cash.
"How could we be so close to the brink?" writes Bruce Krasting.
At this point there is zero possibility that Italy can refinance any portion of its $300b of 2012 maturing debt. If there is anyone at the table who [still] thinks that Italy can pull off a miracle, they are wrong. I’m certain that the finance guys at the ECB and Italian CB understand this. I repeat, there is a zero chance for a market solution for Italy.
He then goes on to make the sad but astute observation: "Either the ECB (aka Germany) steps in and underwrites the debt with some form of Euro bonds or the IMF (a.k.a the USA [the U.S. supplies about 20 percent of the IMF's funding]) steps in with some very serious money."
And he is right about Germany stepping in to underwrite the debt. As they are currently the most stable and economically resourceful of the eurozone, much of the pressure has fallen on them to "fix" things.
In fact, it is being reported that Germany faces mounting pressure to let the ECB save the euro.
"With bond market vultures circling even gold-plated economies and Italy’s La Stampa daily citing IMF officials on a rescue plan worth up to 600 billion euros, another of Germany’s closest allies broke ranks, leaving Berlin isolated," the Associated Press reports.
Amid predictions that the common currency faces its death throes within weeks without radical intervention, Austria joined Finland in backing ECB action to stem the financial market contagion threatening Italy, Spain and even France.
The pressure has intensified since Germany itself struggled to raise public finance on commercial money markets last week.
“The European Central Bank could perform a more powerful role, as in the United States,” Austrian Prime Minister Werner Faymann said, also giving his support to the creation of commonly-issued eurobonds.
“It could itself buy states’ bonds,” he said on the sidelines of a congress of European Socialist parties in Brussels.
Clearly, the race is on to prevent interest rates for Italy or Spain from skyrocketing to the levels that forced Greece, Ireland and Portugal to accept multi-billion bailout EU-IMF loans.
But there is a catch to this. If Italy accepted a multi-billion bailout, it wouldn't end there. As the economist Milton Friedman once wrote, "There's no such thing as a free lunch."
"In the real world of global finance the reality is that any country that is forced to accept an IMF bailout is also blocked from issuing debt in the public markets," Krasting writes.
"IMF (or other supranational debt) is ALWAYS senior to other indebtedness of the country. That’s just the way it works. When Italy borrows money from the IMF it automatically subordinates the existing creditors. Lenders hate this. They will vote with their feet and take a pass at Italian new debt issuance for a long time to come. Once the process starts, it will not end. There will be a snow ball of other creditors."
The scope for direct ECB action at primary level, as long sought by U.S., British and other G7 partners among the world’s most powerful economies, will be the unspoken nub of euro finance ministers’ talks night in Brussels.
“I think we have seen that if there is nothing else left then we can think about strengthening the role of the ECB," Finland’s finance minister Jutta Urpilainen said.
In Strasbourg last week for a mini-summit with France and Italy, German Chancellor Angela Merkel held out against the idea, saying "politicians should not intervene in ECB decision-making."
“The French president has just underlined that the European Central Bank is independent,” she said.
“All three of us said that with respect for the independence of this institution, one should refrain from positive or negative demands of the ECB,” French President Nicolas Sarkozy interjected.
The Financial Times Deutschland interpreted that exchange as proof that France, the most vociferous eurozone backer of a turbo-charged ECB role at the heart of the continent’s politics, was winning the day.
“By committing to silence, Merkel and Sarkozy are freeing the ECB to make a more forceful intervention in the crisis,” it said.
The Associated Press contributed to this story.
(h/t Business Insider)