Here are the reactions of some of the largest Scandinavian banks on the massive European measures to stop the economic crisis from spreading. DnB NOR Markets and Handelsbanken are still not comfortable with the situation.
“If this don’t work, nothing will.”
The EU, IMF and the ECB has announced massive measures to alleviate debt problems in the euro area. It is hard to envisage larger measures than these. Markets are reacting positively, but some of the leading Scandinavian analyst and economists are still not comfortable with the situation.
Senior economist Bjørn-Erik Orskaug at DnD NOR Markets writes in a special commentary this morning:
“The European Union and the IMF has announced the creation of an emergency funding facility of EUR 720 bn. EUR 60 bn. of these will come in the form of loans taken up by the European Commission. A further EUR 440 bn. will be guaranteed by national authorities in the euro area and EUR 220 bn. will come from the IMF.”
“Member countries of the euro area can apply for loans from the facility, but conditions will be harsh (and equivalent to those that Greece is now facing). In that respect, the participation of the IMF – which is very used to conditionality – is all-important.”
“The guarantees will now need to be agreed to in national parliaments. Thereafter, they can be activated when needed without any further parliamentary approvals. The guarantee-programme will last for three years and -given their rating and size – Germany and France are likely to account for most of the guarantees. It is worth noting the size of the package. Very roughly estimated, EUR 720 bn. should be enough to cover the financing needs of Greece, Ireland, Portugal, Spain and Italy in the next year (and Greece has already got its EUR 100 bn.). In other words, the fund is huge and should ensure that no member country of the euro area runs into funding difficulties in the near future.”
Monetary Policy Is Not Working
“The other and perhaps more surprising part of the measures announced today comes from the ECB. The central bank will intervene in euro area credit markets that are deemed to be dysfunctional (including, obviously, government bond markets for Portugal, Greece and others). This will be to ensure liquidity, in the same way as the Fed’s credit easing. Asset purchases will differ from that in the US and the UK in the sense that they will be sterilised (i.e. the monetary base should not increase).”
“The reason why the potential government bond purchases is surprising is that they are essentially illegal according to the Maastricht Treaty. According to the Treaty, the ECB cannot engage in monetary financing, i.e. buy debt from governments in primary markets. Also, it cannot buy bonds in secondary markets because this will encourage a breach of the excessive deficits-rule (3 per cent of GDP). As of now, it looks like the ECB will only buy bonds in the latter markets. The reason it provides for engaging in this type of operation is that the monetary policy transmission mechanism is not working.”
“The central bank also assumes that national authorities will do everything necessary to avoid excessive deficits going forward. In addition to buying bonds, the central bank will reintroduce 6 month liquidity auctions at full allotment and an indexed rate (practically 1 per cent). Also, the 3 month auctions will again be at full allotment and fixed rate. Finally, the central bank will ensure the provision of dollar liquidity through re-established currency swap lines with the Fed.”
“These are huge measures and should go a long way in alleviating short-term liquidity concerns – although long-run concerns about debt sustainability naturally will not go away for a while still.”
“If this don’t work, nothing will,” Mr. Orskaug at DnB NOR Markets concludes.
We Are Not Safe
“This is not the first Monday morning, we thought that the worst was over,” chief economist Knut Anton Mork at Handelsbanken points out in his commentary Monday morning.
“But what is actually in this package? No one has money left to add into the new fund. The money has to be borrow by issuing bonds and the loans will probably be invested in bonds. That means we have very little more than a paper transaction,” Mork writes .
He believes that the nights package is a step towards “generic European government bonds.”
“It means that Portugal and Spain creditworthiness strengthened, while France and Germany’s deteriorating. Portugal and Spain will now presumably breathing a sigh of relief. Now they need no longer be so afraid of being punished by the market. But how good is that?,” the chief economist at Handelsbanken asks.
(Hint: Moral hazard)
Mork has repeatedly pointed out that the EU did a “cardinal mistake” by adopting common currency, until they had one common state.
“The Fund will do nothing to change that. Nevertheless the short-term effect will be positive in the markets, as we have already seen it in Asia. But this is not the first Monday morning we thought the worst was over, so we’re a little wary about cheering,” he writes.
In the longer term, Mork believes that something more concrete must be done, such as restructuring of debt, tightening of budgets and closing any crack in the Euro-cooperation inflation.
“And it may be politically hard to tightening of rentehevning now if, for example, the weakening euro for more expensive imported goods from China. This way an unintended inflation surge might be under way,” Mr. Mork points out, and continues:
“Was it not the market discipline that should provide budgetary discipline?”
“The option is now a political discipline, the careful monitoring of their savings measures are part of the plan.Can we trust in that? The most important is perhaps that the new fund does nothing to correct the fundamental architectural flaws in the euro design,” Mork writes.
A New Banking Crisis Can Not Be Excluded
Whatever solution, Mork believes it is difficult to avoid negative consequences for the real economy.
“This applies first and foremost PIIGS States, but problems can quickly spread. We can already see that the problems of raising capital is starting to spread from public to private sector.”
“A new banking crisis can not be excluded, and such crises spread easily across borders. So far it seems reasonable that Asia will be insulated from the problems, and the U.S. seem to get along well. The same applies to northern Europe, where the macro data is finally starting to brighten,” he adds.
He believes, however, that it is worthwhile to recall that many early in 2008 believed that the effects of U.S. financial crisis was largely limited to the United States.
“But it was not. The risk is present for us to face a new, global financial crisis, where government institutions are far less equipped than two years ago to intervene. Of course, we hope that the EU now succeed. However we feel not confident,” chief economist Knut Anton Mork at Handelsbanken concludes.
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