“You can only stop downgrading Greek bonds when it gets to 100% haircut, and we’ve seen this gradual write off of Greek debt over time - 30% haircut, 50% haircut, 70%, and now the 30% that’s left is getting stretched over 30 years and torn in such ways that it’s not really worth 30%.
“I think that the real problem here is that the recent Fitch downgrade highlights the fact that we keep bailing out Greece time after time after time, and yet none of this is really making any difference to Greek fundamentals, and Greece is actually getting in a worse and worse situation all the time. If you ask the people on the streets in Greece, they don’t seem to feel that their situation is improving.
“Greece has got one of the longest lasting and deepest recessions in history now. This has been going on for three years and we’ve got a really sharp rate of contraction every year, and yet all that’s happening is that the ECB and EuroZone core are saying that we need more contraction and more austerity, but there comes a point where it’s just impossible to keep reducing people’s standard of living any further and to keep applying more austerity. As we’ve always said, that will end up being the breaking point.”
Greece should have left the Euro three years ago, so should Ireland, so should Spain, so should Italy, In fact, probably everybody except Germany should have left the Euro and then it would not be the Euro, it would be back to being the Deutsche Mark. The reason that they did not is because politicians generally will always make the easy choice, and usually that means they won’t make the right choice. We have seen that, not just in Greece, but all over Europe and in America. In all these places, people have kicked the can further down the road and into the future. The problem is that every time they kick the Greek can now is not really travelling that much further down the road.
It only seems a couple of months ago we were talking about the last Greek bailout, and we will be here again in a couple of months talking about the next Greek bailout, and because the problems have got that much bigger and because the problems all the other EuroZone countries have got bigger and bigger as well, it has just increased the chance that once something goes wrong with Greece, it goes wrong with the entire EuroZone. People said that Greece was never going to default, but I think it is now widely accepted that Greece has defaulted in effect because it cannot afford to pay back the debts it has got.
Italy and Spain are not at the haircut stage yet. The haircut is the second stage of it. If you look at the EuroZone crisis, we think there are a number of stages. The first stage is when you cannot go and raise enough money. When you get shut out from the capital markets, you cannot raise the money you need to keep paying the bills. We first saw that happen with Greece and Ireland, then with Portugal - it could not go the capital markets and its debt was entirely being bought by the ECB, no one else.
Italy and Spain have also got into that same situation. What happened in December is very interesting because the first round of the LTRO, which is basically the ECB doing quantitative easing, what we saw there was that the ECB went and forced half a trillion Euros into the market. It basically went and put that cash into the market and it bought bad assets, bad bonds and bad sovereign bonds, and that had an interesting effect because at about the same time, there was roughly the same amount of money that was being parked with the ECB every single night on overnight deposits by banks who just did not trust any other banks in the Euro system.
Paul Gambles gave a great example, “If you are a French bank and you have got a surplus of cash at the end of every night, normally you would go and lend it to another French bank that has a deficit of cash over night, and they will pay you an overnight interest rate on that. We got to the stage in December where French banks did not trust any other French banks, so they were putting their surpluses on deposit with the ECB. When LTRO number one came out in December, this influx of half a trillion Euros of credit into the system from the ECB also encouraged the banks to actually go and put their own money back into the system. They realized that if the ECB was putting half a trillion Euros of cash in there, then the banks were all going to be able to survive a little longer, so half a trillion at that stage actually had the impact of about a trillion Euros, which is why some people were surprised at the extent of the impact that this had on the capital markets - we saw a really strong capital market rally.”
With diminishing returns, each time you do this, it becomes less and less affective each time - the periphery should now abandon the ill-fated Euro project. Better late than never!