By Jeremy Warner, telegraph.co.uk, 24 Nov
They need to wake up fast; it’s happening before their very eyes. In its current form, the single currency may always have been doomed, but it has been greatly helped on its way by an extraordinarily inept series of policy errors.
The defining moment was the fiasco over Wednesday’s bund auction, reinforced on Thursday by the spectacle of German sovereign bond yields rising above those of the UK.
If you are tempted to think this another vote of confidence by international investors in the UK, don’t. It’s actually got virtually nothing to do with us. Nor in truth does it have much to do with the idea that Germany will eventually get saddled with liability for periphery nation debts, thereby undermining its own creditworthiness.
No, what this is about is the markets starting to bet on what was previously a minority view – a complete collapse, or break-up, of the euro. Up until the past few days, it has remained just about possible to go along with the idea that ultimately Germany would bow to pressure and do whatever might be required to save the single currency.
The prevailing view was that the German Chancellor didn’t really mean what she was saying, or was only saying it to placate German voters. When finally she came to peer over the precipice, she would retreat from her hard line position and compromise. Self interest alone would force Germany to act.
But there comes a point in every crisis where the consensus suddenly shatters. That’s what has just occurred, and with good reason. In recent days, it has become plain as a pike staff that the lady’s not for turning.
This has caused remaining international confidence in the euro to evaporate, and even German bunds to lose their “risk free” status. The crisis is no longer confined to the sinners of the south. Suddenly, no-one wants to hold euro denominated assets of any variety, and that includes what had previously been thought the eurozone safe haven of German bunds.
Investors have gone on strike. The Americans are getting their money out as fast as they decently can. British banks have stopped lending to all but their safest eurozone counterparts, and even those have been denied access to dollar funding. The UK hardly has anything to boast of; it’s got its own legion of problems, many of them not so dissimilar to those of the eurozone periphery.
But almost anything is going to look preferable to a currency which might soon be assigned to the dustbin of history. All of a sudden, the pound is the European default asset of choice.
What we are witnessing is awesome stuff – the death throes of a currency. And not just any old currency either, but what when it was launched was confidently expected to take its place alongside the dollar as one of the world’s major reserve currencies. That promise today looks to be in ruins.
Contingency planning is in progress throughout Europe. From the UK Treasury on Whitehall to the architectural monstrosity of the Bundesbank in Frankfurt, everyone is desperately trying to figure out precisely how bad the consequences might be.
What they are preparing for is the biggest mass default in history. There’s no orderly way of doing this. European finance and trade is too far integrated to allow for an easy unwinding of contracts. It’s going to be anarchy.
It’s worth stressing here that for the moment the contingency planning is confined to officialdom. This week, for instance, we’ve had the Financial Services Authority’s Andrew Bailey admit that he’s asked UK banks to plan for a disorderly breakup of the euro. He’d be failing in his duties if he hadn’t. Europe’s political elite, as ever several steps behind the reality, still regards the prospect as unimaginable.
They need to wake up fast; it’s happening before their very eyes. In its current form, the single currency may always have been doomed, but it has been greatly helped on its way by an extraordinarily inept series of policy errors.
First there was the disastrous suggestion from Angela Merkel and Nicolas Sarkozy that if Greece didn’t buckle under it might be chucked out. Markets reacted logically, which was to sell bonds in any country that looked vulnerable and chase “safe haven” assets, thereby making it much harder for governments to fund themselves.
The blunder was compounded by attempts to underpin confidence in the banking system by forcing banks to mark their sovereign debt to market. This may only have recognised the reality, but it also destroyed the concept of the “risk free asset”, forcing banks for the first time to apply capital to their sovereign debt exposures. Unsurprisingly, they stopped buying sovereign bonds, again making it harder for governments to fund themselves.
But perhaps the biggest sin of the lot was effectively to render all credit default swaps (a form of insurance against default) on sovereign debt essentially worthless, or void, by making the Greek default “voluntary”.
This has made it impossible to hedge against eurozone sovereign debt purchases, and thereby destroyed the market. Worse, it’s made investors believe that the euro cannot be trusted, that it’ll repeatedly find ways of reneging on contract. That’s the point of no return. This is no longer a serious currency.
