COLUMN-EU must choose its lies wisely: James Saft

(James Saft is a Reuters columnist. The opinions expressed
are his own)

By James Saft

HUNTSVILLE, Ala, December 14 (BestGrowthStock) – You can lie to
taxpayers or you can lie to creditors, European authorities are
learning, but doing both at the same time is very hard.

The proposed policy that current senior creditors to
troubled states will not face losses on their loans but future
private lenders will be forced to share in losses with
taxpayers is so irrational, so bound to fail that it falls out
of the realm of economics and into the ambit of brain injury.

European Union member states will this week hold a summit
at which they will create a permanent fund to lend to troubled
members under co-called strict conditions of fiscal

At the very same time, leaders of the 27-country European
Union will sign on to a pronouncement by euro zone finance
ministers saying that private lenders will have to share the
pain, on a case-by-case basis, of any sovereign debt
restructuring after 2013.

So let’s recap, because this is truly bizarre: Lenders to
Ireland or the other troubled states won’t take a hit now but
if they stick around until 2013 then they will take losses
along with the taxpayers. Oh yeah, and the current round of
bailouts are aimed at seeing Ireland and Greece through the
next couple of years, at which point it will become extremely
dangerous to lend to them, as their economies will have shrunk,
their debt burdens bloomed and private lenders will be on the

To add to this, the European Stability Mechanism, the name
of the new fund, will be senior to all creditors except the
International Monetary Fund, meaning that in the event of a
bankruptcy it would be paid first. Ratings agency Fitch looked
at this provision and quite rightly said that it might lead to
lower ratings on shaky euro zone sovereigns.

The only way you could make this policy mix work was if you
could find a very rich lender with no ability to conceptualize
the future. Hmm, let’s see a rich entity with limited ability
to fully imagine a future state – it must be the European

Few private lenders will stick around, they will sell their
bonds and the only buyers will be the EU or ECB, which itself
as it understands this predicament is hugely unwilling to play

Germany and France are both so unwilling to both have
principles and pay for them that they are refusing to act on
proposals for common European bonds and are expected to resist
moves to increase the size of the European Financial Stability
Fund, the vehicle now being used for bailouts.


Germany and France in October began to insist that private
creditors would share the pain, thus touching off the current
euro zone mini-crisis and bringing forward the ” rescue” of
Ireland. I say bring forward because most rational observers
realized that Ireland could not pay the debts of its banks,
despite having pledged to do so.

Private creditors knew that Ireland is insolvent, as is
Greece and very likely Spain, but also knew that since there is
no escape hatch from the euro and no apparent will to end the
union or bring down insolvent banks that their loans were
reasonably safe.

German and French taxpayers know this too and are not
happy, as it means their tax money will be flowing to the
periphery for years to come. Hence, German and French tough
talk and insistence that private creditors will pay in future,
which in turn forces investors to act on their analysis of
insolvency and sell.

Private money is quite happy to keep funding a bankrupt
entity but only so long as the moral hazard play, the implied
guarantee from on high, is still in force.

Why then haven’t spreads on weak euro zone bonds risen even
higher? Well, besides the fact that the European Central Bank
is actively buying, it is the fact that investors can’t quite
believe that the European Union is serious.

They know that getting out will be a disaster and a
humiliation but that forcing private creditors to take haircuts
could cause a banking crisis. So, no haircuts and no reckoning.

Investors are betting, at least for now, that the EU is
lying to taxpayers, or to itself, rather than to them.

My guess is that we go on like this for a while; periodic
crises that force the EU to pledge ever more money to member
states without ever acknowledging that they are insolvent or
forcing their private creditors to swallow losses.

That ends only if one of three things happens; the market
decides that it won’t lend to Germany and France anymore, the
weak nations revolt from austerity or the taxpayers of Germany
and France decide that euro-geddon is better than picking up
every check.

(At the time of publication James Saft did not own any
direct investments in securities mentioned in this article. He
may be an owner indirectly as an investor in a fund. For
previous columns by James Saft, click on [SAFT/])

COLUMN-EU must choose its lies wisely: James Saft