Austerity is the least disruptive option, says analyst
Published 26/10/2011 | 05:00
BOND investors need to have confidence that the rules are not going to change if they are to lend again to troubled eurozone economies at affordable rates, one of the best-known analysts of the euro crisis told a seminar yesterday.
Ciaran O'Hagan, a senior analyst with Societe Generale in Paris, said the ECB's €90bn purchases of mainly Italian and Spanish bonds may not bring yields down because investors feel more insecure in their rights to repayment compared with the ECB, which would be protected from any "haircut".
Mr O'Hagan, one of four participants in the Henry Grattan lecture -- organised by the Trinity College-based Institute for International Integration Studies -- said debt default would not do away with the need for fiscal austerity. He believed that correcting budget deficits through an austerity programme was the least disruptive policy.
"With austerity, you take a lot of upfront pain for long-term gain," he said.
But the long term could be very long, according to Mike Dooley of University College Santa Cruz, a former IMF executive who worked on the Latin American crisis in the 1980s.
He believes that there will be no Greek default because it would "immediately put Italy into play".
"I think it's not going to happen and they will push it down the road," he said, arguing that the ECB and eurozone governments would pay off the banks as their loans fall due.
"The losers are the residents of the debtor countries because investors will not invest while this process is going on and it can last a long time."
Mr Dooley said this was what happened for 10 years in the 1980s until Mexico refused to continue because of the effects on its economy.
"I think it will be five or six years until everybody faces up to debt restructuring in the euro area," Mr Dooley said.
Peter Boone of Salute Capital Management, who lectures at the London School of Economics, said a risk premium would go right through eurozone interest rates as a result of the Greek default, which he saw as inevitable.
"Risk premia will stay high. You have to get back to making people comfortable about sovereign debt again," he said.
He added: "The ECB could be a backstop for countries while they solve their fiscal problems, but that could be highly inflationary."
Jean Pisani-Ferry, director of the Bruegel thinktank in Brussels, pointed out that the eurozone could not be another US.
"The biggest state debt is that of California, but it is only one percent of US GDP. The debt of little Greece is 4pc of eurozone GDP and Italy's is 20pc."
However, some kind of fiscal union seemed the best long-term solution.
"That raises the whole question of who will exercise control. We are talking about the fundamentals of democracy."
He added: "One cannot imagine some czar, in Brussels or elsewhere, telling national parliaments what to do. We are very far from an EU parliamentary body but we have to start thinking about it."