The implications of the crash of 2008 have made one thing very clear. China has emerged as the engine of growth in the world. The US became the land of sub-prime loans, and Europe is the land of finely dressed paupers. The Europe of today is not the Europe of old.
When the economic crash came, it took a second Marshall plan, with the US pouring trillions of US dollars into European banking subsidiaries, helping to prop up the western economic system.
The reality is that European bankers did not have the capital to cover the trades they held on their books. Risk management is Risk management. You only have to look to the rogue French trader for context of the risk management controls in place during the build up to 2008.
A full two years have passed, and the only area in the world where the economic storm is still unfolding is in Sovereign European finances. The US has many economic issues of its own, but let’s be honest. The US Treasury, with access to the Federal Reserve system as it stands today, has a self funding structure unlike that to which the EU has access.
The EU understands it doesn’t have access to real capital on the scale that the US Fed/Treasury do. Ergo, they’ve raised their deposited capital to 10 Billion Euros from its earlier 5 Billion. Yes, those are real numbers.
The E.C.B. said the increase in capital to €10.76 billion, or $14.2 billion, from €5.76 billion, the first such increase in 12 years, would help it to better offset risks as the volume of its financial activities grew.
“The capital increase was deemed appropriate in view of increased volatility in foreign exchange rates, interest rates and gold prices as well as credit risk,” the E.C.B. said in a statement.
The ECB is running at triple digit leverage internally. While they can try to print money, they do not have a US Treasury equivalent bond. It is each state for itself. This is what is causing a run on the yield in their weaker states. The lack of a Euro bond to support the overall EU governments borrowing needs. The triple A rated states of Europe do not want to subsidize the overall borrowing costs of the less rated ones.
If you look at the bail out of Ireland, so far the only money that has been disbursed is to the Irish Retirement funds. In fact, Europe is trying to get everyone, including the IMF, involved. It’s quite simple. Europe is not properly capitalized to keep up the lifestyle it demands. There is no quick solution to a shortage of an estimated 5 trillion or more of new real capital. That is my estimate.
So now it is China’s turn to pour its cash reserve resources into buying European bonds from the failed economic states that make up the EU experiment. They are expected to purchase up to 6-18 Billion in PIIGS debt in the near term. This is happening exactly as Switzerland places Portugal on the do not buy list.
This action was taken in such a way as to apply their debt for margin on swaps. It’s a very intentional slap in the face, and one not needed when the real volume of trading in their bonds in Switzerland is considered. It was, however, a very public form of disavowing a struggling financial neighbor, and one that will not be forgotten.
If Switzerland, which needed capital from the US Federal Reserve, is intentionally preying on its weakened European sisters, things will get interesting quickly. This is the same Switzerland which lost $30 Billion dollars buying Euro’s, while shorting themselves last year, so anything is possible.
If Switzerland is intentionally affecting the bond markets by having their banks short the debt, and then a pulling of the swap markets for effect, it won’t last long. These kinds of events heat up quickly, once the actions become noticeable.
Ironically, it appears that the Irish collapse happened about the time that Switzerland was putting Irish debt on the do not buy list internally. As a Zerohedge article by Bruce Krasting pointed out, this smells.
The European bluff and bluster of 2008, was to cover up the fact they were broke. Every international action taken by the two world economic super powers (US & China) since has been to prop up the floundering, and now failing, European state.
While the US provides currency swap lines with the ECB, China is bidding up the bonds of European states that can’t sell their junk debt in the open market anymore. The jig is up, and Europe is the epicenter for the reality of tomorrow.
You only have to look to the “REAL” actions taken by the US Federal Reserve during the crisis. While US Banks, Insurance, Money Markets companies & Automotive industry’s were going BK seemingly overnight, the US Fed was pouring Trillions into Euro institutions to keep them alive.
We are not talking about Billions in loans, we are talking about Trillions in liquidity provisions. The amount provided was equal to the US national debt at the time. This is not an insignificant amount of liquidity. There was no nation but the US, which could have provided it to the world at the time. Not China, Not the Middle Eastern Nations. Only America could.
So how does Europe fix its finances? It has to do to its banks what the US did with GM and Chrysler to name two… It has to kill the equity holders of the banks. It should convert the Junior debt holders to equity, and only the Seniors continue to stay on the bond side of the balance sheet. This is why these bonds were rated SENIOR when they were issued.
The system needs a reset. Debt needs to be converted to equity if the system can’t afford to continue to roll its debt.
It will be interesting to watch reality unfold in Europe in the next year or so. They have had their Bear Stears moment, but they have not had their BIG WEEK yet.