terça-feira, fevereiro 07, 2012

The D-Word

Debt workout 101 - part 7

To begin with, banks which take a long position on sovereign assets are not “speculating”, they are doing the essential function of financial intermediation between savers and Government spenders.  If they invest in cross-border sovereign assets, whatever the currency, then they are helping to recycle their country’s external surplus to finance the borrowing countries' external deficit.  It is never prudent for banks to lend excessively, or speculatively, even if they buy credit insurance to limit their net exposure.

What could be the reasons for Germany and the ECB to be so adamantly against the D-word (Default) and in favour voluntary debt restructuring with ultra deep (70%) discount for selective non-official creditors?  
- to discredit the CDS-Credit Default Swaps as  costly but useless hedging instruments
- to protect the few CDS insurers which may be highly concentrated in “institutions too big too fail”
- to protect short term international  investors, comercial banks, pension, investment and hedge funds which were long on short-dated sovereign bonds and have been paid out in full as this debt matures (short term "hot money" and CPLTD current portion of long term debt) 
- to protect official creditors, like the ECB itself which is buying sovereign bonds at deep discounts in the secondary market
- to protect the Bundesbank, the NCB and other Eurozone central banks which have growing creditor positions in the TARGET2 payments system as they finance persistent trade deficits and take over th reimbursement of maturing debt 

By concentrating heavy losses on a small group of hapless creditors and making a sad example of Greece, an even more hapless debtor, perhaps they hope to  begin to see  the beginning of the end of Moral Hazard.  

Another reason to avoid the D-word is the fear that a sovereign default would require exiting the Euro and could lead to the break-up of the Eurozone through contagion.  In fact, a debtor default does imply the sharing of sacrifice with the creditors, and special turn-around assistance.   But default itself  is currency-neutral and  should not require the borrowing country to exit the Single Currency, nor should it result in the end of the Euro. 

The real threats to the Euro as the Single Currency come from the persistent and growing divergence of the CAB current account balances among Eurozone trading partners and the lack of effective intra-Eurozone balance-of-payments adjustment mechanisms like those you might find in the US. 

Mariana Abrantes de Sousa 
PPP Lusofonia