By Satyajit Das, the author of Extreme Money: The Masters of the Universe and the Cult of Risk (forthcoming August 2011) and Traders, Guns & Money: Knowns and Unknowns in the Dazzling World of Derivatives – Revised Edition (2006 and 2010)
Recent frantic efforts that secured release of Euro 12 billion to Greece avoided immediate default but have not solved the fundamental problems. Greece is unlikely to meet targets for tax revenues, spending cuts and sales of public assets.
A recent International Monetary Fund (“IMF”) report on Greece suggests that the loans to Greece would not meet normal IMF lending criteria, in the absence of European Union (“EU”) support and pressure. Christine Lagarde, the new head of the IMF, recently was equivocal about ongoing further support, reflecting the real risk that it now faces in relation to its exposure to Greece.
Efforts to secure a new package of Euro 115 billion have stalled. German insistence on token participation by private banks and investors has proved divisive. A French plan, Gallic in complexity, appeared and disappeared. Slanging matches between Greek Prime Minister and the EU, the EU president and the German Chancellor and the European Central Bank (“ECB”) President and the Chancellor have taken the place of substantive progress.
In the meantime, contagion has become a reality. Financial markets recognised belatedly that the authorities are not in control of the situation and there are no real solutions to the problems.
Greek 2-year debt now trades at over 30% per annum while both Ireland and Portugal are above 20% per annum – loan shark territory. Spain’s benchmark 10-year bonds now command around 6.50% per annum. Interest rates demanded by markets are above that before the announcement of the recent measures to “assist” Greece in June 2011. Most alarmingly, Italy has been drawn into the ever-widening net of infection.
Italy’s problems are well publicised – a level of debt ($2.3 trillion) to Gross Domestic Product (“GDP”) of 120% and a public debt per Italian (about $39,000) greater than Greece ($34,000). The Italian economy suffers from low growth and similar structural problems to some other Mediterranean economies.
The triggers for the recent concern were puzzling. Some Italian banks were downgraded, based on their exposure to other beleaguered Euro-zone economies. The rating agencies placed Italy’s debt on negative watch, citing the economy’s poor fundamentals and the cost to Italy of financing the European bailout. There was a typical spat between Prime Minister Berlusconi and his Finance Minister Tremonti about budget cuts. Before you could say “bunga bunga”, the financial markets panicked, pushing up the cost of borrowing to Italy sharply by around 1.00% to around 6.00% per annum.
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