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European Debt Plan: Leveraged Poison.

  • Written by Syndicated Publisher 453 Comments453 Comments Comments
    October 20, 2011

    Tim Geithner and all the Euro “big bazooka” clowns want the EU to use leverage on the EFSF to “increase firepower”. However, leverage works both ways as I have pointed out on numerous occasions for numerous reasons. Leverage amplifies gains as well as losses and leverage will cost France its AAA rating.

    Ambrose Evans-Pritchard says the same thing in A leveraged EFSF is pure poison

    Big snag. If Europe’s leaders do indeed leverage their €440bn bail-out fund (EFSF) to €2 trillion or €3 trillion through some form of “first loss” insurance on Club Med bonds – as markets now seem to assume – the consequences will be swift and brutal.

    Professor Ansgar Belke, from Berlin’s DIW Institute, said any leveraging of the EFSF would be “poisonous” for France’s AAA rating and would set off an uncontrollable chain of events.

    “It counteracts all efforts made so far to stabilize the eurozone debt crisis, which are premised on the AAA rating of a sufficiently large number of strong economies. In extremis, it would probably cause the break-up of the eurozone”, he told Handlesblatt.

    My take on the rating game is France Risks AAA Rating on EFSF Leverage; Spotlight on Portugal, the Next to Fail

    Is Leverage Even Constitutional?

    Poison or not, there is a far more basic question at hand: Is a leveraged EFSF even constitutional? What about insurance and other proposals?

    Once again I have already suggested the proper answer is “no”, as noted in Germany’s Top Judge Throws Major Monkey Wrench Into Leveraged EFSF Machinery, Demands New Constitution and Popular Referendum for Further Powers

    However, Eurozone dunderheads simply will not take “no” for an answer so the question comes up again, and again, and again, and again (in many ways shapes and forms).

    Parliamentary Bailout Committee May Be Unconstitutional

    Der Spiegel reports Parliamentary Bailout Committee May Be Unconstitutional

    A new panel of lawmakers set up by the German parliament to reach quick decisions on the release of rescue funds from the European Financial Stability Facility (EFSF) may be in breach of the German constitution, a study by the parliament’s research unit has shown.

    The panel is intended to ensure that parliament has a say in the release of funds from the EFSF, following a Constitutional Court ruling last month which said the parliament must be involved in measures to bail out other euro-zone member states.

    The nine-member body, to be selected from the parliament’s budget committee, is to approve bailout decisions with the necessary speed and confidentiality to avoid fanning financial market turmoil.

    New Challenge Could Be Launched at Highest Court

    But the study, undertaken by legal experts and commissioned by a member of parliament from the opposition center-left Social Democrats, Swen Schulz, has cast doubt on whether the panel will preserve an adequate degree of parliamentary sovereignty on budget decisions amounting to billions of euros.

    “Delegating this authority to a special body shifts responsibility onto a small number of people and obstructs the involvement of all members of parliament in the parliamentary process,” the study says.

    Schulz is now considering taking the matter to the Constitutional Court, which is Germany’s highest judicial authority. “A nine-member panel can’t replace the Bundestag in such an important question,” he says.

    Jackasses Never Give Up

    To repeat what I said yesterday in Smoke Clears, Fog Lifts, Revealing More Smoke and Fog; Sell the “No-News”; Point by Point Synopsis of the Merkel-Sarkozy Plan …

    Five-Point Plan

    In the works for the summit is a five-point plan to

    1. Foresee a solution for Greece
    2. Bolster the firepower of the 440 billion-euro ($611 billion) EFSF
    3. Recapitalize banks
    4. Push to boost competitiveness and consideration
    5. European treaty changes to tighten economic management

    Point Number One: Greece

    Greece will default and it will be a hard default. The Yield on 1-year Greek bonds is hit a new high of 176% today, currently at 172%.

    Merkel and Sarkozy have no plan for Greece other than to keep Greece in the Euro and that is not up to Merkel and Sarkozy, but rather up to the citizens of Greece.

    Moreover, the smaller the haircut, the bigger the burden on Greece and the more likely Greece leaves sooner rather than later.

    Point Number Two: Bolstering the Firepower of the EFSF

    Let’s assume Nouriel Roubini, Tim Geithner, and everyone else pitching “firepower” nonsense gets their way. Let’s boost the EFSF to $2 trillion. Better yet, let’s talk “Big Bazooka” and boost it to $40 trillion.

    Can Roubini, Geithner, Merkel, Sarkozy, or any of the EU clowns tell me exactly where $40 trillion will come from? Here is the answer: They can’t.

    Moreover they cannot tell us where $2 trillion will come from either because all these plans for boosting the EFSF are against the German constitution, not that any of the EU jackasses care.

    So let’s assume the jackasses get their way. Exactly what good will $2 trillion do? Will the ECB just print the money and give it away? Will citizens put up with another $2 trillion highway robbery plan to bail out the banks and bondholders?

    Point Number Three: Raise Capital

    Banks are resisting mightily. Moreover, where does the capital come from? If from banks and bondholders, expect to see shareholder dilution. In fact, expect to see shareholder dilution regardless where it comes from. Is the stock market priced for that?

    Sovereign debt ratings will sink like a rock if nations start bailing out the banks, yet again.

    Point Number Four: Push to Boost Competitiveness

    I happen to agree with this point. It is necessary. However, look at the pushbacks against austerity programs. Expect more pushbacks, in every country.

    More importantly, even if there was substance to the plans (there isn’t), and even if the “non-plans” were implemented (assuming Merkel and Sarkozy had plans that other nations would adopt), it would take years, not months to produce results.

    Point Number Five: European Treaty Changes to Tighten Economic Management

    Jackasses never give up. Point number five is proof.

    Look at the difficulties just to get the latest EFSF to pass. It brought down the government of Slovakia. Perhaps the clowns manage to get away with boosting the “firepower” of the EFSF (illegally of course), but they still have to come up with the money.

    However, getting 17 nations to agree to treaty changes has no chance at all. The German courts alone would stop it without a voter referendum and new German constitution.

    Fog Behind the Fog

    Thus, there is absolutely no substance to the Merkel-Sarkozy 5-point plan. There is only fog behind the fog, just as there was with the G-20 summit.

    More Fog Rolls In

    That a “New Challenge Could Be Launched at Highest Court” simply adds more fog until there is a ruling.

    Given that “leveraged poison” and resolution by “Merkel Committee” are both piss poor ideas, everyone should hope a challenge is issued and sustained.

    Mike “Mish” Shedlock
    http://globaleconomicanalysis.blogspot.com

    From Mish’s Global Economic Trend Analysis: Leveraged Poison; Jackasses Never Give Up; More Fog Rolls In.

    Images: Flickr (licence attribution)

    About The Author

    Mike Shedlock / Mish is a registered investment advisor representative for SitkaPacific Capital Management. Sitka Pacific is an asset management firm whose goal is strong performance and low volatility, regardless of market direction.  Visit Sitka Pacific’s Account Management Page to learn more about wealth management and capital preservation strategies of Sitka Pacific.

    You are currently viewing my global economics blog which typically has commentary every day of the week. I am also a contributing “professor” on Minyanville, a community site focused on economic and financial education.  Every Thursday I do a podcast on HoweStreet and on an ad hoc basis contribute to many other sites.

    When not writing about stocks or the economy I spend a great deal of time on photography and in the garden. I have over 80 magazine and book cover credits. Some of my Wisconsin and gardening images can be seen at MichaelShedlock.com.
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