Tuesday, May 11, 2010

An American Package for Germany

In 2008 in the midst of the financial crisis. Hank Paulson gave the term bazooka financial significance. The idea was that if you announce a package large enough you will not have to deploy it because the market will step in front of you and finance whatever you want financed.

Back in those days China, the US, the UK, Brazil, among others, announced large fiscal packages to stimulate their economies. The Europeans, on the other hand, claimed they didn't need to because of the automatic stabilizing effects of their wide and generous social safety net.

Then, in the beginning of 2010, the world discovered that Greece had borrowed too much money and lied about it. Not only that, but Portugal, Ireland, Spain, Italy and others (nobody talks about Austrian banks and Eastern Europe anymore) had more or less done the same (ok, maybe except for lying).

So the Germans, stingy and hardworking as they are, complained that they shouldn't bailout the lying spendthrift Greeks who retire at 50 and do not work too hard. In addition, the law clearly states that bailouts are not allowed in Europe. True said the Greeks, but we owe 300 billion euros and, guess what, most of it to your banks and those of your new friends the French. So, you either bail us out or we blow up your financial system.

At that time, Merkel and Sarkozy went looking for the bazooka. Could it be a declaration of solidarity? the market said no and the Greek curve became inverted. Could it be 10 billion? same response. What if we call the (gulp) IMF? short lived rally. What if we promised over 100 billion which could finance Greece for several years? That should do it. Except nobody would buy the bonds from their banks and they already own a lot. What could we do?

Enter Tim Geithner, an experienced member of the Rubin/Greenspan/Bernanke team of anything for the banks. You have to make the package large enough to ignite short covering by the speculators in Chi...Frankfurt. If you set up a special purpose vehicle (we have AIG, Fannie, Freddie, etc) you do not have to show it as national debt. You can finance it over 30 years and kick the can down the road. Maybe in a couple of years they will discover spontaneous nuclear fusion in Thessaloniki and the market will rally saving the banks. In the meantime, they can put all the Greek, Spanish, Irish, AIG, Fannie, Italian, and Dubai bonds in the investment account and keep them at par.

In the Lexus and the Olive Tree, Thomas Friedman describes the world alternative models (circa 1999) as the five gas stations. In the 2010 version, everyone has become an American financial engineer. A financial alchemist can turn any solvency crisis into a liquidity crisis. Thus, no bank ever needs to write down any investment because they can always count on a government guarantee and a friendly regulator. In this context, why would Bank of America or Wells Fargo lend to anyone if they can buy Greek bonds yielding 8% with a German guarantee and finance them at 0%?

The fact is that no country has ever cut 10% of its GDP in spending without a devaluation and Greece cannot devalue without leaving the euro and, as a consequence, defaulting on its debt to the German and French banks. Nobody in their right mind would finance this with his/her own money even if it meant losing monies already sunk into such a project. Of course, other people's money gets a different treatment.

This situation is unsustainable and it may blow up with the next German election, IMF audit, or Greek strike, but it could work and, hopefully, by then I'll be gone and You'll be gone. So, party on Garth! Party on Tim, Angela, Nick, George...

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