Eurozone: A crucial January ahead again with existential questions

ECB’s Governing Council as at February 2014. Front row (from left to right): Patrick Honohan, Benoît Cœuré, Sabine Lautenschläger, Mario Draghi, Vítor Constâncio, Yves Mersch, Middle row (from left to right): Carlos Costa, Luc Coene, Christian Noyer, Jens Weidmann, Jozef Makúch, Josef Bonnici, Back row (from left to right): Boštjan Jazbec, Erkki Liikanen, Ardo Hansson, George A. Provopoulos, Gaston Reinesch, Ilmārs Rimšēvičs, Klaas Knot, Peter Praet. Note: Panicos O. Demetriades, Luis M. Linde, Ewald Nowotny, and Ignazio Visco were not available at the time the photograph was taken. (ECB Audiovisual Services).

The EU Bank Recovery and Resolution Directive entered into force as from yesterday 1.1.2015. In theory, from now in the unfortunate event of a failing or about to fail bank in all Eurozone Member States, a resolution or recovery will be conducted under a single rule book, as provided by the above mentioned Directive. As the EU Commissioner for Financial Stability, Financial Services and Capital Markets Union, Jonathan Hill, said: “The Bank Recovery and Resolution Directive equips public authorities for the first time across Europe with a broad range of powers and tools to deal with failing banks… From now on, it will be the bank’s shareholders and their creditors who will bear the related costs and losses of a failure rather than the taxpayer.”

This is a very superficial reading though, of the complicated legislation enacted by a package of EU regulations, instituting Eurozone’s the Single Resolution Mechanism. This is of course, in the broader framework of the European Banking Union. Unquestionably, the most important institution within the legal structure of the bank resolution mechanism is the Single Resolution Board. Very recently Elke König, the former head of the Germany’s Federal Financial Supervisory Authority (BaFin) was appointed in the chair position of this omnipotent Board.

Germany rules the banks

As the European Sting writer Suzan A. Kane pointed out on 18 December, “In other words, the Board has also the power in a given occasion to indirectly pronounce a Eurozone member state as bankrupt, just by putting under a resolution or recovery schemes the systemic bank or banks of the country”. A rough rehearsal of this sad scenario was performed in March 2013 in Cyprus, where the role of Board’s Chair was officiously assumed by the German minister of Finance, Wolfgang Schäuble.

Presently, there is a strong possibility that the just appointed six members of Single Resolution Board may officially embark on the case of the four systemic Greek banks during the coming few months. As things turned out Greece is heading for an early general election on 25 January. According to public opinion polls no political party seems able to gain an absolute majority. It’s possible then, that the country remains politically on the air for months, under a flimsy caretaker government.

Can Greece flop alone?

Currently, Athens has financial coverage under a European Union – European Central Bank – International Monetary Fund support arrangement which expires on 28 February. If this Programme (or Memorandum) is not extended, the ECB will be obliged by its statutes to stop replenishing the liquidity of the country’s four systemic banks as from 1st March. As a result, after that date an abrupt outflow of deposits from the Greek banking system may trigger a liquidity and therefore a solvency problem for the four major Greek lenders. In such an eventuality the entire financial system of the country may come under the authority of the Single Resolution Board for resolution or recovery. Understandably, in a few weeks the Greek exchequer will follow in the abyss.

Then the existential question will surely be posed, if Greece can fail alone without spreading the insolvency virus westwards. If the virus finally spreads, it will force Greece’s Eurozone peers, and mainly Germany, to save her from total bankruptcy for a third time (in 2010, 2012 and possibly now). Over this issue, a crucial discussion is well under way in many European capitals. Eurozone’s top leadership actively ponder the hypothesis, if the rest of Eurozone can be insulated from the Greek disease. The answer may be clearer than in 2010 and 2012, but definitively there is no a convincingly affirmative reply. Nonetheless, there are more dimensions in this affair.

ECB holds the keys

On 22 January the Governing Council of the ECB is to be convened in Frankfurt. On this occasion Mario Draghi is expected to ask his colleagues to extend the quantitative easing policies of the central bank; in other words to print and distribute one more trillion. This time it will be the turn of the Eurozone governments to be directly refinanced, via ECB’s purchases of state debt, reportedly in the secondary markets. This is a measure applied freely by all the major central banks of the developed world in the US, Britain and Japan during the past five years in order to support the real economy recover, start growing again and generate more jobs. It worked so far in the US and Britain.

As everybody knows Germany strongly opposes the printing of money policy in the ECB and with it to finance the fiscal deficits of the Eurozone governments. Berlin insists that austerity and structural reforms are the best medicines for Europe’s stagnation, not the distribution of free money to the ‘imprudent’ spenders of the South. Draghi though seems ready to sidestep the German objections, even in case he achieves a bare majority within the Governing Council. Last December he made it clear by saying “the ECB has taken equally important decisions without unanimity”. In any case the pressure on Germany to accept more quantitative easing mounts.

More pressure on Germany

Peter Praet, born in Germany but participating on a Belgian card in ECB’s Governing Council and Executive Board, said this week that the central bank must definitively buy government debt. In an interview to the prestigious German newspaper Borsen – Zeitung he explained that the ECB is obliged by its mandate and statutes to do that, because inflation is far below the target of around 2%. He went as far as to flatly step over the German objections. Praet said that ECB has to do that (print and distribute free money to governments), even if such action would open an escape door for many Eurozone governments, which are currently unwillingly struggling to cut down fiscal deficits through unpopular structural reforms and stark austerity.

If this will be the case and the ECB starts printing money, Greece can be the first country to be favoured. The presently caretaker Athens government (a coalition of the centre-right New Democracy party and the socialist PASOK) is about to lose a general election on 25 January. This is because it painstakingly managed to turn a double-digit fiscal deficit into a 3% (of the GDP) surplus within a few years, and still Berlin presses Athens for more austerity measures. However, this severe austerity policy, followed by three consecutive Greek governments over the past four years, has finally destroyed the country’s political structures.

It has produced three anti-European political parties, two on the extreme right, the ‘Golden Down’ and the ‘Independent Greeks’ and a left-wing one, the SYRIZA. This last one is actually leading in all and every public opinion poll and is expected to win the 25 January election, but not being able to form an absolute majority government in the Parliament. Understandably Greece is in the worst position, in comparison to all the crisis stricken Eurozone countries.

There are similarly burning political problems in many other EU countries, being caused by high unemployment and fiscal austerity. France is not an exception.

All in all, only an overextended quantitative easing monetary policy by ECB may possibly help Eurozone overcome all that. But the Germans have to understand first, that the other Europeans don’t share their Teutonic principle stating bluntly that only ‘arbeit macht frei’.

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