EU: A leveraged EFSF is pure poison

Big snag. If Europe’s leaders do indeed leverage their €440bn bail-out fund (EFSF) to €2 trillion or €3 trillion through some form of "first loss" insurance on Club Med bonds – as markets now seem to assume – the consequences will be swift and brutal.

Professor Ansgar Belke, from Berlin's DIW Institute, said any leveraging of the EFSF would be "poisonous" for France’s AAA rating and would set off an uncontrollable chain of events.

"It counteracts all efforts made so far to stabilize the eurozone debt crisis, which are premised on the AAA rating of a sufficiently large number of strong economies. In extremis, it would probably cause the break-up of the eurozone", he told Handlesblatt.

France is already vulnerable. It has the worst budget deficit and primary deficit of the AAA states in Euroland. (Yes, Britain is worse, but the UK has a sovereign currency and central bank. Chalk and cheese.)

Dr Belke said France is already under pressure. BNP Paribas, Société Générale, Crédit Agricole may need €20bn in fresh capital, with knock-on risk for the French state. He warned that France’s public debt (Now 82pc of GDP) would shoot up to 90pc of GDP if the debt crisis rumbles on. Variants of this theme were picked up by other German economists in a Handelsblatt forum.

Thorsten Polleit from Barclays Capital said France’s banking woes could put "massive pressure" on French finances, but the risks do not stop there. Germany itself is at risk. "The bail-out burdens taken on by the German government could lead to a drastic deterioration of our own debt, and put Germany’s AAA in doubt."

Polleit told me Germany’s debt was 83.2pc of GDP at the end of last year (higher than France, but the current deficit is much lower). "Of course

No, the euro, or to put it more exact, membership of the eurozone, is not just the use of a medium of exchange. It means locking your economy in an exchange rate and an interest rate that may not be suitable at a given time. It also means that you give up the possibility of your own central bank acting as lender of last resort. Instead you will have to rely on the ECB, which according to the treaties is forbidden to act as such! (Yes, it does act, but often too late, too little.)

Also, membership of the eurozone means running your fiscal policies according to a set of rules that are applied to the small countries but never to the big ones. Finally when one or many countries have broken the rules and ended up financially broke (yes, insolvent!) then suddenly it will be decided that you will have to help them out by paying off their debts, in direct contradiction to the governing treaties.

Also, as thanks for taking part in the rescue of other eurozone countries you will now have to sign up that your fiscal policy will be governed not by the people elected by the voters, but by unelected officials in Brussels. And to top it all these unelected rulers will demand the power to punish those countries that do not follow their view of how a country’s economy should be run.

As mentioned above - yes, the problem now is insolvency for a lot of countries: Greece, Ireland, Portugal, in all likelihood Italy, but it has been better at fudging its accounts than Greece, possibly Spain,Belgium and not too far down the line France. Outside the eurozone we have Hungary that is on the verge of crushing the Austrian banks. And talking of banks we have not only Erste in Austria and Dexia in Belgium/France, but Spanish, French, Italian, and German banks on the brink of insolvency. Of course the fact that there are so many almost insolvent banks in the EU means that liquidity dries up, so there is also a liquidity crunch.

Yes, as always, kicking the can down the road is only useful if there is any chance of the problems decreasing with time. As it is the problems are growing and becoming more complex with time, and we are looking at what can become a new 30s crash - or worse - in Europe.

Socialism, centralism, crony capitalism (the last item was not invented in Brussels, but the EU has become a champion of that particular sport) all must go if we are to have a chance of recovery. Given the politicians we have in the EU at the moment (one exception, President Klaus) there is absolutely no chance that we will see any of that.

Not sure you’ll see any recovery in the US either. Sarah, why did you forsake us?

PS: The last sentence was in jest, at least partly. I think Gov Palin would have been an excellent president, but it would have been a formidable battle for her to overcome not only her political opponents in the primaries, but the MSM, the neocommunist and priapistic part of the blogosphere, and the GOP hierarchy. She may have ended such a bloodied winner that she wouldn’t have stood a chance in the final battle. Also, I always thought it would be too much for her to run a campaign with three minors including a baby with Down syndrome. I hope there will open an opportunity for her in later years. In the meantime hopefully you will be able to find someone, anyone to beat Obama, and at the same time keep the House and take over the Senate.

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