Macro Morsels
Comment of the Day

September 28 2012

Commentary by Eoin Treacy

Macro Morsels

Thanks to a subscriber for this note by R. Harding at Maybank. Here is a section:
Countries who wanted the ECB to intervene must first sign up to a formal aid programme. IMF involvement would be sought and bond purchases restricted to maturities of up to 3 years. The ECB could choose to sell as well as buy bonds - a veiled warning to countries that it might pull the plug if they failed to deliver on their promises.

The conditionality is a big problem because, for example, it could deter countries like Spain where leaders already face voter angst over unpopular austerity measures to sign up for the ECB's rescue plan, rendering it useless. Morgan Stanley rates strategist Laurence Mutkin said the plan was "quite likely" to deepen Europe's recession because it was like asking countries like Spain and Italy "to sign up for a plan that mandates a 'fiscal cliff'."

Nomura economist Jacques Cailloux said that "tough negotiations around the conditionality are likely to destabilise markets further." And, pointing to the biggest negative of the plan, BofA economist Laurence Boone wrote that "emphasis on conditionality [is] even stronger than we had expected (as a minimum, ECCL only way to access ECB buying, IMF involvement desired, both significantly lowering the probability that a country will apply for EFSF/ESM support)."

Eoin Treacy's view It has been my view for some time that Spain will need to request an additional bailout. (Also see Comment of the Day on September 11 th) . The last time round it was allowed to bypass the conditionality that had previously been attached to the Greek, Irish and Portuguese programs. On the next occasion, Spain will probably be forced to sign up to more stringent controls on how it taxes its people and spends the proceeds.

Against this background the ongoing discussions on the shape of the banking union are particularly poignant. At the last summit it was agreed that the process of shifting bank debt onto the sovereign would end and potentially be reversed for countries already in bailout programmes. Banks would in future be bailed out directly by the EU. Since then various creditor nations have been attempting to roll back on that agreement.

The eventual shape of the banking union will have profound effects on the prospects for countries in receipt of bailout funds. Due to the size of the bailouts required by the Irish and Spanish banks a favourable outcome would remove considerable roadblocks on their routes back to recovery. An unfavourable outcome will ensure that high debt/GDP ratios persist for longer than anticipated and they will have to deal with the ancillary effects such as recession, high unemployment, higher taxes and lower spending for longer.

Throughout this crisis a clear distinction between policy and politics has been evident. It is to be hoped that the eventual shape of the banking union will aim to bring this crisis to an eventual close.

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