eurozone crisis

Michael Steen

The dust has yet to settle on the Bundesbank’s fight with the ECB over bond-buying, but this has not stopped Germany’s central bank from taking on another heavyweight global financial institution: the International Monetary Fund.

BuBa’s monthly report, published on Monday, includes a whole chapter entitled: “The IMF in a changed global environment.” It becomes clear fairly quickly that eyebrows are being raised in Frankfurt at some elements of the IMF’s stance in the eurozone sovereign debt crisis, where the Fund has taken on its own lending and acted as a member of the “troika” of IMF, ECB and European Commission officials advising on bailouts.

“By taking on excessive risks, the IMF would gradually transform from a liquidity-providing mechanism into a lending institution,” the bank says on the first page of its 15-page discussion. “Such a transformation would neither accord with the legal and institutional provisions of the IMF agreement, nor with the fund’s financing mechanism or its risk control functions.” Read more >>

Claire Jones

Courtesy of the Irish Times:

How many euro area finance ministers does it take to change a light bulb? None – there is nothing wrong with the light bulbRead more >>

Ralph Atkins

The European Central Bank distanced itself on Tuesday from the Swiss National Bank’s plans to combat the overvalued franc by linking it to the euro. With the SNB likely to acquire substantial piles of euro assets as a result of its intervention, one fear is that it will worsen tensions in eurozone debt markets by buying only AAA bonds. Italy’s spreads versus Germany would rise further.

But maybe it would be in the SNB’s interest to help the ECB? By buying lower quality bonds, the Swiss central bank could display a level of recklessness  that might convince financial markets of its determination to do whatever is necessary to weaken the franc. Moreover, given the franc is now linked to the euro, the SNB has a greater interest in a stable eurozone. “What would be great now would be if the SNB bought €50bn in Italian bonds – it would be good for everyone,” quipped one trader.

A senior Portuguese banker has said that the European Central Bank pressed the country’s lenders to stop increasing their use of its liquidity – setting in train events that led Lisbon to ask for a bail-out this week.

António de Sousa, head of the Portuguese Banking Association, said that the message from the ECB and Portugal’s central bank not to expand their exposure to ECB funding further came a month ago. Read more >>

“It is necessary to refer to available funding mechanisms in the European framework.” This, grimly, from Portugal’s finance minister Fernando Teixeira dos Santos, according to Portuguese paper Journal de Negocios. Portugal is also holding talks on a bridging loan with the EU.

The news follows a punitive auction of 6-month bills today, at which the cost of debt to the government rose to 5.11 per cent, up from 2.98 per cent a month ago for comparable debt. More than €4bn longer-term debt is due to expire in April, leaving the central bank with a significant shortfall if it cannot issue new bonds at manageable levels. Today’s auction strongly suggests this would not be possible.

Answering a set of questions in writing, the finance minister said, via Google Translate:

Business: Portugal must now ask for help as they appeal the bankers and economists in general? The debt that you have to pay in a year do not worry you?

Fernando Teixeira dos Santos: The country has irresponsibly pushed a very difficult situation in financial markets. Given this difficult situation, which could have been avoided, I think it is necessary to refer to available funding mechanisms in the European framework as appropriate to the current political situation. This will require also the involvement and commitment of major forces and political institutions.

JDN: How do you assess the results of the auction today, particularly with regard to interest rates?

 Read more >>

Sovereign bondholders received the worst news possible from eurozone policymakers yesterday: a dire combination of confirmation and uncertainty about the key issue of bondholder rights from the ESM term sheet, which sent yields up on all sovereign debt seen likeliest to restructure (read: Greece, Ireland and Portugal).

(Note: All that follows is subject to a rubber-stamping confirmation at meetings Thursday-Friday. It is unlikely any details will change.)

First came confirmation that the eurozone would in theory allow a member state to restructure their debt. (You’d have been forgiven for thinking eurozone bail-outs to date, such as Greece and Ireland, were specifically intended to prevent such an outcome.)

Second came confirmation – at long, long last – that sovereign bondholders will lose protection on their investments. (It is likely in practise that this means a sovereign bond will become worth less if its issuing government receives aid. It is hard to see what other forms of “involvement” – emotional support? – would be expected of bondholders.) Read more >>

It would be better for sizable eurozone bail-outs to occur after July 2013. This is the implication of a strange state of affairs in Brussels: namely that policymakers have agreed how to fund the future ESM to its full value, but not its predecessor, the EFSF.

Only about €250bn of the existing €440bn European Financial Stability Facility is available to bail out beleaguered eurozone sovereigns. This is because the fund wants to lend with an AAA rating, but several contributing eurozone sovereigns are rated lower. Increasing the rating is achieved, in effect, by overcollateralising each loan. Now it has been agreed to increase the lending capacity of the EFSF, but no word yet as to how. Apparently, further overcollateralisation has been ruled out: according to Citi’s Jurgen Michels, the lending capacity of the eurozone’s transitional measures (currently the EFSF and EFSM) shall never exceed €500bn.

The ban on further overcollateralising the rescue fund might seem odd, since that is partly the solution agreed for the European Stability Mechanism. Read more >>

If it is approved, the nascent agreement reached in the small hours of Saturday morning will address many of the symptoms of the eurozone’s disease. Note, though, that the fundamental issue of bond haircuts was not addressed. Euro leaders’ hard work leaves them on target for what was a very tight March 24/25 deadline. Measures include:

  • Increase the effective lending capacity of the EFSF from ~ €250bn to €440bn. The Fund already had €440bn at its disposal in theory, but needed to hold back a proportion in order to issue AAA-rated debt. Discussions are ongoing on how to achieve this.
  • Give the EFSF the right, “as an exception”, to intervene in primary debt markets – though with such strict conditionality that some analysts say this will make little effective difference. The right, which will extend to EFSF successor, the ESM, is not a full substitute for the ECB’s bond-buying programme, since the ECB buys bonds in both the primary market (government auctions) and secondary market (resale of already-issued bonds).
  • Lower the rates charged by the EFSF on bail-out loans to take into account debt sustainability of recipient countries. Rates should remain above facility’s funding costs and in line with IMF pricing principles.
  • Specifically, for Greece: reduce the interest rate on rescue loans from 5.25 to 4.25 per cent and increase the average maturity of Greek bail-out loans from 4 to 7.5 years.
  • €500bn funding confirmed for the ESM, EFSF successor.
  • Further explore the idea of a financial transaction tax.

 Read more >>

Strong demand for today’s eurozone bond issue, priced at a yield equivalent to 2.89 per cent. Hardly surprising. For exactly the same risk profile as German bonds, you get half a percentage point extra payment per annum for your money. (48 basis points, to be precise.)

The news is being greeted as a vote of confidence in the eurozone. Likewise, Japan’s pledge to buy at least 20 per cent of the bonds was treated as an offer of support. Klaus Regling, EFSF chief, said: “The huge investor interest confirms confidence in the strategy adopted to restore financial stability in the euro area.” But does it? Really?

Surely hard-headed profit-seeking is a more plausible explanation? After all, a vote of confidence would be investors buying Portuguese, Greek or Irish bonds; whereas here they are buying bonds backed in full by Germany. The legal framework of the EFSF makes clear that member states are each independently liable for debt issued, up to their maximum commitment. The only exceptions are countries currently “stepping out” (Greece; Ireland) and those that have not yet signed up in full (recent euro-joiner Estonia). See the table below. Read more >>

Phew. Portugal can still raise money in the debt markets, €1.25bn of it today in an auction of two bonds, the 5- and 10-year. Relief all round. But the country probably had a helping hand to keep yields below the all-important 7 per cent level, despite the ECB’s public interpretation that the good result implies a market change of heart (Carlos Costa, quoted by Reuters).

Yields on the 10-year bond actually fell since the last comparable auction in November. Today the weighted average yield, which is the cost of debt to the government, was 6.719 per cent, down from 6.806 per cent in November. Surprising, perhaps. But then the bid-to-cover (demand ÷ agreed sale) picked up considerably at this auction. It has typically trailed at just under 2; today it was 3.2. It is likely some taxpayers, unwittingly, have just bought some Portuguese debt. Read more >>