This Time is Different (Again)

this-time-is-different-Eurozone will survive debt crisis intact – FT.com.

The abatement in the eurocrisis has all journalists scrambling to explain why this time is different.

The whole crisis seems to be measured in terms of PIIGS debt yields, and they have improved dramatically since late July. The ECB’s money printing in conjunction with all of the world’s major central banks has created a carry trade for risky assets:

  1. Pledge assets to the ECB (or Fed, or BOJ…)
  2. Receive virtually free money (1% or less)
  3. Buy risky assets paying more than 1% (PIIGS bonds, other garbage)
  4. Use risky assets to borrow even more money and repeat.

This carry trade has forestalled the inevitable by creating a new asset bubble to replace the one that popped causing the Great Financial Crisis. Eventually, no matter how much money is placed into the financial system, the markets will fall bringing this house of cards down. No one can tell you when this will happen.

Europe has two major problems that have not been resolved by gobs of cheap cash. First, huge imbalances have built up in the system along a roughly north-south divide. Nothing has been done to fix these imbalances. There have been some cosmetic changes, but the FANG is much more productive than the PIIGS, yet, both groups share the same currency.

Germany’s weak euro is helping to maintain growth, while Spain’s and Greece’s strong euro is slowly strangling them to death. This problem could be alleviated by internal transfers from the FANG to the PIIGS, but the FANG have shown no willingness to part with their hard-earned money.

In order to save the euro, all of these countries will have to agree to become joint and severally liable with each other for government debts, banking deposit scheme and a bank resolution plan. Anything less will keep the euro is a weakened, Nash equilibrium with potential catastrophic consequences.

While the headline reads, “Eurozone Will Survive the Crisis Intact,” the journalist actually writes, “But this correspondent at least forecasts that in 12 months time the eurozone will still have 17 members, including Greece,” which is much different.

Until the FANG decide to open their wallets, the crisis will continue at a simmer only a black swan away from boiling over.

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