There was fairly unanimous agreement that the most recent EU summit did some good, if for no other reason than it offloaded some of the risk for bank bailouts off of sovereign governments. The real innovation was that the European bailout fund would be able to lend directly to the banks, rather than tying only the bank’s sovereign in with it. This was expected to lower borrowing costs and add stability to the system.
Funny story: that reading was apparently untrue:
“I need to make clear what the ESM can do: the ESM is able–if one were to decide ever on such an instrument–to take an equity share in a bank. But only against full guarantee by the sovereign concerned… What you have is that it cuts out the effect of that loan on the debt-to-GDP ratio of the sovereign. Does it still remain the risk of the sovereign or [does it go to] the ESM? It remains the risk of the sovereign.”
With this blind quote in the Wall Street Journal from an anonymous European official, the successes of that EU summit have unraveled. Borrowing costs in vulnerable Euro nations are soaring again, as markets recognize that the sovereign remains on the hook.
Eurozone governments’ hopes of putting off any hard decisions on bailouts until after the summer holidays came under strong pressure today as Spain’s cost of borrowing broke through the 7% threshold despite provisional agreement on €100bn in European rescue funds.
The Eurogroup, finance ministers from the 17 single currency countries plus officials from the European Commission, meet in Brussels on Monday evening to try to put flesh on the bones of an EU summit deal, hailed as a breakthrough at the time, 10 days ago that brought only a short respite for the embattled Spanish prime minister, Mariano Rajoy.
The summit resolved to break the invidious link between failing banks and weak sovereigns by agreeing to use eurozone bailout funds to recapitalise banks directly and not via governments, to avoid pushing up debt levels. But since the summit, creditor eurozone governments have backtracked on the pledges amid furious debate and rancour over what was actually agreed and how the accord will be implemented.
Adding to the problems is Germany’s insistence that direct bank lending can only transpire after a banking union, and Finland’s vow to pull out of the Eurozone entirely if they must continue to finance the troubled sovereigns of the south.
So all the work of the summit has basically disintegrated. Parts of Europe remains a basket case, because the countries cannot agree on what needs to be done. They won’t integrate into a United States of Europe and they won’t blow up the Eurozone and end the currency union, which is unworkable without that integration. Those are really the only two choices.