Photo: Bloomberg TV
Stock markets around the world rallied hard on Friday on news that euro area leaders had made substantive progress toward addressing the problems of the euro crisis at the latest euro area summit.Citi chief economist Willem Buiter, however, does not share their enthusiasm. In fact, some of the developments may have been detrimental.
The European Stability Mechanism (ESM), Europe’s new bailout fund, is expected to furnish the majority of the money needed for eurozone bailouts going forward. However, it has yet to be ratified by all of the euro area’s member states.
Leaders agreed this weekend that in the case of the Spanish bank bailout, the ESM will not have senior creditor status, meaning that taxpayer money used to fund the bailout will not be first in line to be recovered in the event that Spanish banks end up defaulting on their debt.
Buiter writes in a note to clients today that “many key necessary conditions for preventing a break-up of the [euro area] remain unfulfilled”:
- The time it’s going to take to implement the changes discussed this weekend is terrifying. Buiter points out that euro area leaders will need to jump through a lot of hoops in order to get these done, writing that it could take a year for the agreed-upon proposals to be implemented. And we’ve seen the speed at which markets have forced politicians’ hands throughout the ongoing crisis.
- Pan-European institutions like the European Commission are being given increasing power without any democratic accountability to the people. Buiter writes, “We already have a serious issue with the new Fiscal Compact, the Growth Compact, the Six Pack, the Two Pack, the ESM, etc, because these agreements, arrangements, and institutions greatly increase the power of the European Commission without a commensurate increase in democratic control, whether by the European Parliament, national parliaments, or by having the President and possibly other members of the Commission elected through some process that enhances their legitimacy.”
- Revoking the ESM’s senior creditor status will make it tough to raise additional bailout funds. Buiter says that although this is being viewed as a positive by markets right now, down the road it will be difficult to get the core countries like Germany, Finland, and the Netherlands to agree to chip in additional money without guarantees that their taxpayers will be safe. And at any rate, according to Buiter, much more money will be needed – including to bail out the Spanish and Italian governments, which could be very soon.
Buiter elaborates on that third concern, suggesting that the idea that ESM could lose explicit senior creditor status in future eurozone bailouts might not be such a good thing:
We understand the concern that creating effectively senior debt – senior debt that may end up representing a large share of the total outstanding debt – may act as an impediment for private investors to invest in EA government bonds, but we consider a higher yield on the effectively subordinated debt to be a price worth paying for reducing the risk that bailout fatigue in ‘donor’ countries could ultimately derail the rescue efforts.
Either way, the debate over subordination and senior creditor status of the ESM may be moot. European leaders have already demonstrated in the case of the Greek sovereign bailout that they are willing to rewrite the rules with regard to such concerns as they see fit when in times of crisis.