Ambrose Evans Pritchard: Europe's crisis states should fight back with a 'debtors' cartel'
THE latest figures from Eurostat are shocking even to those who never believed that combined fiscal and monetary contraction – made worse by bank curbs – could have any other result than a faster rise in debt trajectories.
Portugal’s debt has just blown through the upper limits set by the EU-IMF troika, reaching 127.2pc of GDP in the first quarter of 2013. This is 15 percentage points higher than a year ago – the bitter fruit of austerity overkill. The Portuguese people have suffered year after year of cuts only to find themselves sinking deeper into a debt swamp.
Italy’s debt has hit 130.3pc – compared with 123.8pc a year ago – rapidly spiralling beyond the safe threshold for a country without its own sovereign currency and central bank.
In Ireland, public debt has leapt by 18 points to 125pc in a single year. This is partly “pre-funding” to cover borrowing needs for 2014 but a slide back into recession accounts for a big chunk.
The former head of the IMF’s team in Ireland, Prof Ashoka Mody, has called for “a complete rethinking” of the austerity strategy. He confirmed what the Irish trade unions and others have said all along, that fiscal overkill is self-defeating, especially if compounded by tight money.
“Given the debt dynamics, if debt levels remain where they are and growth remains where it is, there is never going to be a reduction in the debt ratio in the foreseeable future. Moving away from austerity at this stage is a sensible course of action,” he said.
Ireland is certainly not a basket case. It has a fat trade surplus. Exports are 105pc of GDP, compared with 30pc or less for most of Club Med. It is well able to compete at the current exchange rate.
Ireland’s policy of austerity cuts and “internal devaluation” has done wonders for the trade account but only at the cost of an even deeper debt-deflation crisis. This is the fundamental contradiction of EMU crisis strategy in every high-debt country. The more these economies deflate wages, the more they raise the real cost of debt.
In Ireland’s case – as in Spain – this debt burden is the legacy of an almighty credit boom that was itself caused by EMU and years of negative real interest rates. The details are spelled out in a study entitled “What went wrong in Ireland” by Patrick Honohan, now central bank governor.
“These countries are walking a very fine line,” said Marchel Alexandrovich from Jefferies Fixed Income. “Once debt gets to the 130pc level there is a risk that markets will start to wake up. The moment of truth could come as soon as political stability is called into question in any one of these countries.”
Portugal has been flirting with just such a crisis ever since the finance minister and austerity chief, Vitor Gaspar, stormed out three weeks ago.
Portuguese bond yields fell yesterday in a relief rally after the country’s president backed down from threats to call a snap election, agreeing instead to let the crippled coalition of premier Pedro Passos Coelho limp on.
Yields on 10-year bonds fell 42 basis points to 6.2pc, back where they were before the constitutional crisis erupted. Yet it is a strange state of affairs when failure to form a “national salvation government” is greeted with delight by the markets.
“The politics of economic reform in Portugal have become even more treacherous, and it is very unlikely that the political wounds that have opened up can be healed,” said sovereign debt strategist Nicholas Spiro.
“Mr Passos Coelho’s authority has now been undermined and aggressive austerity has, in any case, completely failed. The public debt burden is rising at a frightening pace,” he said.
The IMF warned last month that the debt outlook remains “very fragile” and that any external shock could push the country over the edge. It said a serious crisis could force the state to take on contingent liabilities and push debt to “clearly unsustainable” levels.
The country has to raise 23pc of GDP in funding this year and 22pc next year, when it is supposed to return to capital markets. External debt has reached 230pc of GDP. Nominal GDP has contracted over each of the past two years, causing the “denominator effect” to play havoc with debt dynamics.
Portugal’s denouement is fraught with risk. Europe’s leaders have given a solemn pledge that they will never again impose haircuts on banks, pension funds and other investors holding EMU sovereign debt, tacitly recognising that their experiment in Greece was calamitous.
So what will they do when the time comes? Do they impose tangible losses on German, Dutch, and French taxpayers for the first time? Does German finance minister Wolfgang Schäuble ask the Bundestag to write a line into the budget worth €10bn (£8.6bn) or €15bn marked “Losses in Portugal”, admitting at last that EMU bail-outs cost real money?
Or do the creditor states resile from this pledge – as they have resiled from others – and set off panic flight from Spanish debt, with instant knock-on effects in Italy?
Besides, having now imposed the “Cyprus template” of losses on bank depositors above €100,000, as is the case with all bond-holders, if lenders get into trouble, how can they hope to contain systemic banking crisis in Portugal if investors start to fear that the situation is getting out of hand again?
Societe Generale says EU leaders may be tempted, unwisely, to think it is safe to impose private haircuts on the grounds that northern banks have greatly reduced their exposure to these countries. This is how accidents happen.
There ought to be a point in this wretched saga when it is clear to the victim states, if it is not clear already, that solidarity rhetoric from the northern powers is contemptible deception, that the North still refuses to accept its joint responsibility for capital and trade imbalances that lie behind the EMU debacle, and still refuses to recognise that excess northern savings flooded Club Med, with the complicity of the European Central Bank.
There is condign retort to the creditor cartel. The peoples of southern Europe could at any time choose to form their own debtors’ cartel and turn the tables.
They could confront the creditors with a stern ultimatum. Either you change the entire structure of EMU crisis policy, agree to a reflation strategy and accept your share of the clean-up costs for this collective disaster or we repudiate out debts.
Either you meet us half way or we take long-overdue steps to protect our societies against mass unemployment and to protect our industrial base.
The current batch of Club Med leaders are too embedded in the EU Project to embrace such an idea and are still seemingly persuaded that recovery is nigh, so they allow themselves to be picked on one by one by the creditors’ cartel.
The current course is untenable. Markets may tolerate EMU debts of 130pc for a while but they are unlikely to tolerate levels nearing 140pc, or even any prospect of it.
The harsh truth is that Europe failed to use the five years of largesse created by the US Federal Reserve and the Chinese credit system after the Lehman crisis to resolve its internal mess.
It needlessly pushed southern euroland into a double-dip recession and ran a 1930s contraction policy.
It is time for Southern Europe to look after its own interests once again.