The Euro Zone Sovereign Debt Crisis: Testing the Limits of Solidarity. Presentation to the IA BE

Transcription

1 IA BE The Euro Zone Sovereign Debt Crisis: Testing the Limits of Solidarity Presentation to the IA BE Jean Deboutte 14 June 2011

2 Table of Contents Section 1 Introduction Section 2 Diagnosis Section 3 Remedies Section 4 Some considerations Section 5 Conclusions Page 2 2

3 Introduction Euro zone debt crisis Debt in US (92%), UK (80%) and Japan (223%) just as high, but not a crisis situation Euro framework was (and is) incomplete Solidarity : two opposing views AAA-countries : remain competitive, public finances in order. Other countries: provide for help for those in trouble. Leadership in solving the crisis is contested (Council, EC, ECB, ) Page 3 3

4 Table of Contents Section 1 Introduction Section 2 Diagnosis Section 3 Remedies Section 4 Some considerations Section 5 Conclusions Page 4 4

5 Diagnosis Greece Ireland Portugal average growth 2.7% 5.4% 1.8% 2010 growth -4.5% -1.0% 1.3% 2011 growth -3.5% 0.6% -2.2% Gen. Gov. gross debt % 96.2% 93.0% Gov. deficit % -32.4% -9.1% Gov. deficit % -10.5% -5.4% Current account bal % -0.7% -8.8% Unemployment rate % 13.7% 11.0% 10-year yield (current) 15.9% 10.6% 11.12% Source: European Commission Spring Forecast 2011 Green: (relatively) positive Red: (very) negative Page 5 5

6 Diagnosis: Greece s financing costs are unsustainable since Q Yields on 10-year Greek government bonds / % 8 25% 20% 15% 23 April 2010: Greece request % 1 2 5% 0% 01/ / / / / / / / / / / / / / / / / / / / / / / / / / / / /2011 Page 6 Greece 2 year Mid Yield Greece 5 year Mid Yield Greece 10 year Mid Yield Greece 30 year Mid Yield Relatively limited spreads (1) followed by higher ones (2) due to deteriorating budgetary figures prompting talks about helping Greece. Very high spreads, inversion yield curve (3) forcing the definitive decision about aid for Greece (and creation EFSF), yet spreads remain high (4) before easing somewhat (5). Nothing seems to be able to stop spreads getting higher and the yield curve inverting further (6: declarations Merkel/Sarkozy, 7, 8) 6

7 Diagnosis: Ireland s funding got into trouble since the end of Q Yields on Irish government bonds / % 12% 21November 2010: Ireland's request 10% 8% 6% 4% 2% 0% 01/ / / / / / / / / / / / / / / / / / / / / / / / / / / / /2011 Ireland 2 year Mid Yield Ireland 5 year Mid Yield Ireland 10 year Mid Yield Ireland requested financial assistance from the EFSF/IMF on 21 November 2010 Yet yields only briefly declined, and the yield curve finally inverted in Q Page 7 7

8 Diagnosis: Portuguese financing costs unsustainable as from mid Q Yields on Portuguese government bonds April 2011: Portugal requests assistance / / / / / / / / / / / / / / / / / / / / / / / / / / / / /2011 Portugal 30 year Mid Yield Portugal 2 year Mid Yield Portugal 5 year Mid Yield Portugal 10 year Mid Yield Portugal requested financial assistance from the EFSF/IMF on 7 April 2011 But yields continued to increase, and here too, an inversion of the yield curve occurred recently. Page 8 8

9 Table of Contents Section 1 Introduction Section 2 Diagnosis Section 3 Remedies Section 4 Some Considerations Section 5 Conclusions Page 9 9

10 Remedies: the EUR 80 billion loan facility agreement for Greece Greece requested bilateral loans from the other Euro Zone Member States on 23 April On 8 May 2010, the Council decided to give the requested aid. Yet, by that time, negotiations between Euro Zone Member States about the scope and form of the aid were already ongoing for months. Bilateral loans were considered to be possible under the EU treaties (though this has been constitutionally attacked in Germany). Member States contribute according to their subscription in the ECB Capital. Loans are granted in conjunction with funding from the IMF (in total 30 billion euros). Interest costs EURIBOR 3 months bp (<= 3 years) or 400 bp (> 3 years) + costs. Until now, all loans had a maturity of 5 years, which was also their maximum allowed. A grace period of 3 years applied. Page 10 10

11 Remedies: the EUR 80 billion loan facility agreement for Greece (2) Gross amounts borrowed to Greece under the EU facility amount to EUR 38.4 billion to date. Another EUR 18.1 billion will be added in the remainder of Belgium participated for EUR 1.52 billion. The Intercreditor Agreement provides for States opting out when their own funding costs are too high. Ireland and Portugal consequently do not participate any more. In addition, Slovakia never participated. Page 11 11

12 Remedies: the European Financial Stability Facility and the ECB By the time Greece asked and received aid, interest rates on Irish and Portuguese bonds, as well as those on all non-aaa countries had spiked. During the week-end of 8/9 May 2010, it was decided to set up a mechanism that would be able to provide for EUR 500 billion of financing for troubled Euro Zone members in the course of the next three years. EUR 440 billion would be provided by a newly created European Financial Stability Facility. The European Financial Stability Mechanism (EUR 60 billion) and the IMF would provide for 250 billion. So together there was talk about a 750 billion rescue package. The other Euro Zone Member States would guarantee the amounts borrowed by the EFSF. Belgium committed itself for EUR billion (3.47%). In addition, the ECB decided to start intervening in the secondary bond markets. The EFSF has been incorporated in Luxemburg on 7 June Page 12

13 Remedies: the European Financial Stability Facility and the ECB (2) Member States expected that their own debt ratio would not be influenced any more in this way when a country would receive funding. However, on 27 January 2011, Eurostat decided that each country s debt would be increased by the guarantees it effectively would give on the amounts borrowed by the EFSF. The EFSF was indeed not considered to be an institutional unit. Recently, Eurostat seemed to have reconsidered its decision: now only the amounts effectively transferred to the member states would influence the debt ratio of the other member states. Page 13 13

14 Remedies: the European Financial Stability Facility (Ireland package) Ireland requested financial assistance on 21 November It was granted on 28 November billion euro Ireland: 17.5 IMF: 22.5 EFSF*: 22.5 EFSM: 22.5 (*): together with bilateral loans from UK, Denmark and Sweden The program covers three years. Loans will have an average maturity of maximum 7.5 years. Page 14 The EFSF s inaugural borrowing operation (maturity 2016) on 25 January 2011 resulted in 5 billion euro, borrowed at 2.89%. Ireland received 3.6 billion euro (maturity 2016) with an effective lending cost of 5.9%. 14

15 Remedies: the European Financial Stability Facility (Portugal package) Portugal requested financial assistance on 7 April It was granted on 8 April billion euro IMF: 26.0 EFSF: 26.0 EFSM: 26.0 The program covers three years. Loans will have an average maturity of maximum 7.5 years, with a margin of 208bp for the EFSF. Page 15 15

16 Remedies: problems with the European Financial Stability Facility Initial target: to be able to borrow 440 billion euro with a AAArating and to lend a comparable amount. Not possible: only 250 billion or so can be lent. The remainder has to be kept into the Facility in order to preserve the AAArating. As from end 2010 onwards, calls for an extension of the EFSF. One wishes to make it clear that even a country like Spain can access the facility. 24 March 2011: effective lending capacity to 440 billion euro. But no details yet. 24 June 2011: the Council is expected to agree on the amended EFSF where each country should guarantee 165% of each loan. Page 16 16

17 Remedies: a definitive solution (the European Stabilisation Mechanism) October 2010: Merkel and Sarkozy mention the need for a definitive solution post mid But the private sector should from that moment onwards participate (PSI). In the subsequent months, it also became clear that the ESM would have a preferred creditor status like the IMF. Markets reacted negatively. 24 June 2011: the Council is expected to agree on the Treaty establishing the ESM (based on the term sheet of 24 March 2011). The latter will be sufficiently capitalized (80 billion euro initial, 620 billion callable) and will function without guarantees. Capacity: 500 billion euro. Pricing of loans in line with IMF: funding cost + 200bp/300bp. Private sector involvement especially if solvency (and not liquidity) problem. Introduction of Collective Action Clauses (CACs). ESM could exceptionally intervene in primary bond markets. Page 17 17

18 Remedies: Rewriting conditions on Greece s loans (and further aid?) 15 June 2011: it is expected that the amendments of the 80 billion euro loan facility agreement will be signed: - redefining maturities existing loans to 10 years - grace period becomes 4.5 years - margin becomes 200bp/300bp. Decisions about further aid for Greece (access to the EFSF) are also expected for 24 June. But Germany and some other countries want to see some kind of private sector involvement: - Vienna initiative - Voluntary debt rollover - Soft restructuring? Page 18 18

19 Table of Contents Section 1 Introduction Section 2 Diagnosis Section 3 Remedies Section 4 Some Considerations Section 5 Conclusions Page 19 19

20 Some considerations: 1. The German stance In 2010, the German debt-to-gdp ratio increased by 9.7%: - Of this, 0.2% was due to the financing of Greece. It is frequently admitted that Germany may dictate the conditions, being the most important lender/guarantor: - Yet basically, it is taking part for 27.1 per cent in each operation, whereas its share in the EA16 GDP was 26.9 per cent in A stricter application of the Stability and Growth Pact would have reduced the moral hazard they are fearing: But in , Germany got away with the violation of the Pact. Page 20 20

21 Some considerations: 2. Contagion effects ASW-differentials with Germany (10s) The Belgian spread is highly correlated with the Spanish and Italian spreads. Page 21 21

22 Some considerations: 2. Contagion effects (2) 800 Correlatie spreads Portugal-België t.o.v. Duitsland And also with the high-beta periphery: the Pearson correlation is over June 2009 June 2011 Page 22 22

23 Some considerations: 3. Spain Greece Ireland Portugal Spain growth 2.7% 5.4% 1.8% 2.6% 2010 growth -4.5% -1.0% 1.3% -0.1% 2011 growth -3.5% 0.6% -2.2% 0.8% Gen. Gov. gross debt % 96.2% 93.0% 60.1% Gov. deficit % -32.4% -9.1% -9.2% Gov. deficit % -10.5% -5.4% -6.3% Current account bal Unemployment rate year yield (current) -11.8% -0.7% -8.8% -4.5% 12.6% 13.7% 11.0% 20.1% 15.9% 10.6% 11.12% 5.21% Source: European Commission Spring Forecast 2011 With the exception of its unemployment rate, Spain is doing better on most indicators Page 23 23

24 Some considerations: 3. Spain (2) Yields on Spanish government bonds /01/2009 5/02/2009 5/03/2009 5/04/2009 5/05/2009 5/06/2009 5/07/2009 5/08/2009 5/09/2009 5/10/2009 5/11/2009 5/12/2009 5/01/2010 5/02/2010 5/03/2010 5/04/2010 5/05/2010 5/06/2010 5/07/2010 5/08/2010 5/09/2010 5/10/2010 5/11/2010 5/12/2010 5/01/2011 5/02/2011 5/03/2011 5/04/2011 5/05/2011 Spain 2 year Mid Yield Spain 5 year Mid Yield Spain 10 year Mid Yield Spain 30 year Mid Yield Yields have moderately increased, and the yield curve looks normal Page 24 24

25 Table of Contents Section 1 Introduction Section 2 Diagnosis Section 3 Remedies Section 4 Some Considerations Section 5 Conclusions Page 25 25

26 Conclusions Greece s errors are its own, but this is not the case for the other troubled countries. Yet moral hazard and punishment are the dominant thinking. Even if amounts involved are limited compared to bank rescues. Rescues did not lower interest costs so far Private sector involvement and preferred creditor status raise questions SGP does not treat private debt Are we getting closer to European bonds? Page 26 26

27 May you live in interesting times ( the Chinese Curse ) Page 27 27