I’ll reiterate that from our perspective, the essential difficulty of the market here is not Greece, it is not the Euro, it is not Hungary, and it is really not even the slow pace of job growth in the latest report. The fundamental problem is that we have not, as a global economy, accepted the word “restructuring” into our dialogue. Instead, we have allowed our policy makers to borrow and print extraordinarily large band-aids to temporarily cover an open wound that will not heal until we close the gap. That gap is the difference between the face value of debt securities and the actual cash flows available to service them. The way to close the gap is to restructure the debt. This will require those who made the bad loans to accept the associated losses. By failing to do that, we have failed to address the essential problem faced by the world, which is that we have created more debt than we are able to service.
A few observations. First, I remain convinced that the other shoe to drop is not Greece or Spain or Hungary, but rather a second wave of major credit strains here in the U.S. related to fresh delinquencies from exotic adjustable rate mortgages.
Second, it is a delusion to interpret economic statistics suggesting an economic turnaround over the past year without factoring out the extent to which that has been driven by unsustainable levels of deficit spending.
I agree with his assessment of the European problem. They are not really willing at this point to engage in any meaningful “restructuring”-in other words they are not willing to get at the root of the problems and only deal in temporary fixes. “Extraordinarily Large Band-Aids” as the writer calls it.
I think that is a fair analogy because the EU has failed to recognize the difference between a liquidity crisis and an insolvency crisis. They are tackling the problem following a lot of the same economic theory behind the TARP Bail Out legislation in this country. Part of the housing meltdown problem was, in fact, a liquidity problem because of the toxic debt backing up and no one bank willing to loan any more money to any other back, risking a financial system freeze up. TARP was only marginally successful in the short term because it did infuse liquid capital into the system, but part of the problem was not merely a lack a liquid capital. (And the simple printing of more money leads to a whole system of other problems like inflation, growing national debt, etc.)
What is happening in Europe is completely NOT a liquidity problem, although that is how they are responding to it. Greece is simply insolvent. Throwing a bunch more money to free up the system is not getting at the root problems. Greece has paid out more than it brings in every year for years, and suddenly the credit sources that have been funding this ongoing “living beyond your means” mentality of the Greek government were essentially about to decline any more charges on the country credit card.
The EU’s solution to this? Instead of making Greece live within its means and begin to actually pay its debts, they infuse the situation with more liquidity. Adding more loan debt to an insolvent national already drowning in debt. True, like any liquidity solution, it bought the EU some time, but now the EU has a precedent of bailing out governments instead of making the hard choice of letting the market play itself out. Now, instead of reforming Greece’s insolvency problem, they have signaled to the rest of the EU that you can create a crisis and the EU will bail you out. No one has any incentive to reign in “living beyond your means” syndrome now.
Greece will be right back into the same position in a few years, and the problem will actually be worse because Germany has placed itself into a position of making loans that will likely never be paid back.