Greasing the skids

Greece, somehow has bamboozled the EU into giving them handouts.  After being allowed into the Euro back in  the 1990's, the Greeks managed to paper over their humungeous deficits by floating bonds.  Somehow, a bunch of sucker banks, mostly in Germany, was stupid enough to buy the bonds, thinking that they would get paid back on time.  The Greeks kept the illusion going by using the proceeds of the latest bond sales to the roll over old bonds. 
  This scam finally unraveled and every one, even the sucker banks, stopped buying Greek bonds, or making loans to Greece.  At this point, the Greeks owned so much money, that allowing them to default would cause intense pain thru out Europe.  The sucker banks cried that a Greek default would bankrupt them.  So, the EU decided to bail the Greeks out, a bit.  They demanded that the Greeks clean up their act, balance their budget, lay off the enormous number of Greeks on the Government payroll, and tighten up tax collection.  In return for promises to reform, the EU would give the Greeks enough money to pay the interest on their debts.  Which means that the sucker banks can carry their Greek loans as assets on their books.  If the Greeks stop paying, then sooner or later, the sucker banks would have to declare a whacking big loss.  A loss big enough to put a number of them out of business. 
   This stop gap situation may come unraveled this spring.  The Greeks have to hold national elections and the polls all show a new populist party Syrisa about to win outright.  Syrisa  is threatening to scrap all the promises of reform, and stop paying on Greece's foreign debt.  At which point the EU handouts will stop. 
   What happens to the EU and the Euro is unknown, but the Europeans are worried about it.  The Greeks will have to figure out how to live within their means.  They may decided to drop out of the Euro so they can print their own money, as much as they need, to meet payroll.  They may not, because all Greeks with any kind of money, in Euros, will be against the idea.  Dropping out of the Euro, would mean everyone's Euros would turn into Drachma, and then the Drachma would drop 50% or more against the Euro.  In effect, every Greek gets a real close haircut.  No one wants that. 

What caused Great Depression 2.0

According to The Economist that is.

1.Banks made risky, in some cases ridiculous loans and mortgages because the risky loans paid high interest rates.  When the risky loans defaulted, the banks were stuck.

2,  Regulators like the Federal Reserve failed to crack down on risky loans 'cause every one was making so much money doing it.

3.  Low interest rates, caused by a lot of thrifty savers in China 9 ( the savings glut) drove down world wide interest rates.  The Economist thinks this was a bad thing because investors looking for a better rate of return invested in "dodgy"  (clever British-ism that) securities.  In my view low interest rates are a good thing because it makes it easier for consumers to finance houses, cars, vacations, whatever, which is good for sales.  

4.  Banks and investors lost "trust" in one another.  They began to worry about "counterparties" (borrowers) defaulting, and so began to refuse to lend to the riskier of them.  Another way of stating this, is banks and investors finally wised up a little bit and began to evaluate the risk in what they were doing.

5. Letting Lehman Brothers go bankrupt.  This scared the bejesus out of  everybody in finance, causing them to stop lending.  " Non financial companies, unable to rely on being able to borrow to pay suppliers or workers, froze spending..."   This is pure imagination.  "Non financial companies"  (manufacturers for example)  never borrow to meet payroll.  They make payroll from sales revenue.  If sales dry up, they lay off workers.  They never borrow to pay suppliers, they just pay them late.  Ideally you can turn parts into product and sell the product within the 45 days you have to make good on a purchase order.  If it takes longer, the supplier gets paid later.  If sales dry up, you stop ordering parts.
  As far as I am concerned, they should have let some more companies go bankrupt.  Each bankruptcy teaches finance weenies that when they are not careful, they too can loose their jobs. 

6.  Letting the PIGs (Portugal, Italy, Greece) run up such huge current account debts, otherwise known as borrowing.   Nobody ( including the Economist) understood that joining the Euro means you can no longer print money to pay your debts.  Used to be a Greece could print a lot of money, the value of the money would fall, and so the amount of borrowing was automatically kept within sane limits.  Once they went on the Euro, they could no longer print their own money, and when the loans came due, they could not pay them. 

The Economist's plan to save the Euro

The Economist, for those of you unfamiliar with it, is a weekly news magazine based in London.  It has good world wide coverage, tells it fairly straight, and thinks it knows all the answers. This week they opine upon a fix for the Euro crisis. Here is their solution.
1.  Create an EU bank regulator that would operate an EU wide version of deposit insurance (like the American FDIC), along with setting regulation about bank capital, winding up the affairs of failed banks, and have the money to "recapitalize" (otherwise known as "bailout")  shaky or broke banks.  Give this new agency control of the existing European bank rescue funds.  Hopefully the EU regulator would shield banks from national government pressure to lend to national government favored industries or buy national government bonds. 
2.  Create "Eurobonds" backed by all the Euro countries.  Unsaid, but understood by bond buyers is that Germany pledges to make Eurobonds good.  Use the proceeds from Eurobond sales to make loans to countries that no one else will loan money to, like Spain and Italy.
"All that is required is for over indebted countries to have access to money and for banks to have a 'safe' euro-wide class of assets that is not tied to the fortunes of one country."

As the Economist sees it, German backed Eurobonds would be as good as American T-bills.  Dead broke governments would not have to clean up their acts so soon.  Out of the goodness of their hearts the Germans extend their excellent credit rating to the rest of Europe.  Angela Merkel is the only person standing in the way of this financial nirvana.  Shame on her.

I got another plan.  Let the stupid banks go bust.  Let the dead broke counties reduce their spending now, rather than after they run out of other people's money.

Perhaps Europe can't pull the US economy down

Interesting charts in today's Wall St. Journal.  It shows US exports to Europe to be only 1.2% of US GNP.   That means the entire continent could disappear from the face of the earth and we would only loose 1.2% of GNP in export sales.  To be real, Europe won't disappear completely, worst that can happen is it drops into recession and it's US imports drop off somewhat.
   Somewhat larger, Eurozone banks make loans to the US equal to 10.5% of  US GNP.  If things get bad enough in Europe, and enough Eurozone banks fail, that lending can dry up.  But so what?  We have plenty of banks over here, and we can print as much money as well like to fund loans.
   In short, a Euro meltdown won't hurt us nearly as much as it hurts the Europeans.  Of course plenty of US politicians are already pointing fingers at Europe to explain miserable US growth rates.  How can you tell when a politician is lying to you?   When you see his lips moving.