Following last weekend’s
epic fail announced $125 billion bank bailout in Spain, the ever present question of “what’s next” has been looming larger than usual this past week. Especially since the details of the bailout are yet to be determined. After all, if an amount of money that could cut Spain’s unemployment rate in half for a year could end up fizzling in under 5 hours, something doesn’t add up. Dramatic policy failures like this often lead to some sort of soul searching and grasping for historical lessons that might apply to the current conundrum. Let’s watch:
Ghost of Nazi Past Haunts Austerity-Gripped Europe: Euro Credit
By John Glover — Jun 22, 2012 2:21 AM CT
The specter of the 1930s financial crisis that culminated in the rise of Adolf Hitler’s Nazi party and the Second World War is stalking Europe.
In May 1931, Creditanstalt, founded in Vienna by the Rothschild banking dynasty and the biggest lender in what remained of the Habsburg Empire, suffered a run. Its collapse after a merger with an insolvent rival sparked a crisis that left Germany and central Europe strewn with failed banks, caused defaults in Europe and Latin America, knocked the pound off the gold standard, and forced the New York Federal Reserve by October to raise its discount rate by 2 percentage points.
“The biggest economic catastrophe of the last century has been, of course, the big crisis after 1929,” Ewald Nowotny, governor of the Austrian central bank, said at a conference this week in Vienna. “I truly can say that when we had the big crisis of 2007 and 2008, it was in the back of the mind of everybody, all of us, every central banker, that we must avoid the mistakes of the 1930s.”
What Harold James, professor of history and international affairs at Princeton University, calls the “vicious cycle” of contagion between banks and sovereigns is spinning today, just as it was 80 years ago. Spain’s 10-year borrowing cost has averaged 6.6 percent this month, more than a percentage point higher than a year ago, after it sought 100 billion euros ($127 billion) to bolster its banks.
The European Union’s accord with Spain, triggered by the collapse of Bankia SA, the country’s third-biggest lender, will leave the nation with debt about equivalent to its annual gross domestic product. Ireland’s 63 billion-euro bailout of its banks pushed sovereign debt to 108 percent of GDP last year from 44 percent in 2008.
“The critical thing now and in the 1930s is that you can’t distinguish between bank and sovereign debt,” said Brian Reading, an economist at Lombard Street Research in London. “As long as banking systems remain national, it doesn’t much matter how international the bank is, local taxpayers are on the hook for it if it collapses.”
Under Germany’s austerity policies in the 1930s, taxes rose, benefits and wages were reduced and unemployment soared, stoking the popular ire that Hitler harnessed. Extremists are gaining ground now as unemployment in Greece passes the 20 percent mark after five years of recession. The far-right Golden Dawn won 6.9 percent of the vote and 18 seats in the country’s most recent elections. France’s anti-immigrant, anti-euro National Front won two seats in parliamentary elections June 17.
Creditanstalt in 1931, like Spain’s Bankia now, was created by mergers with lenders weakened by toxic loans and capital shortfalls. After Creditanstalt failed, the government stepped in to prop it up, fatally hurting its own credit. A run on Austria’s bonds and the schilling ensued, according to Michael Bordo, national fellow of the Hoover Institution on campus of Stanford University in Palo Alto, California.
Yes, the many lessons civilization learned from the economic catastrophes of the 1930’s that led to the rise of fascism — the same ones aggressively unlearned over the past half a century — are apparently getting relearned. For instance, if you’re going to conduct a major bailout of a systemically important bank, make sure it’s actually big enough to get the job done. And if you’re going to do an international big bank bailout for a country, don’t do it in such a manner that the bailout saves the bank but kills country’s credit. Learning from history never gets old
Spain’s borrowing costs hit 12-year high
Rates on 12 to 18-month bonds top 5% as PM fails to persuade eurozone leaders at G20 that bailout is not national debt
Giles Tremlett in Madrid
guardian.co.uk, Tuesday 19 June 2012 10.55 EDT
Spain’s economy continued to ride the bailout rollercoaster on Tuesday as borrowing costs remained at unsustainably high levels and the government paid its highest rate in a dozen years to raise money.
A €3bn (£2.4bn)bond issue proved, however, that Spain could still borrow on the markets — even if interest rates on 12 to 18-month bonds have now risen to more than 5%.
Prime minister Mariano Rajoy, meanwhile, reportedly failed to persuade eurozone colleagues that a bailout of up to €100bn for Spanish banks should not be counted as national debt — a move that would have eased growing pressure for a full bailout of Spain.
“Connecting banking risk and sovereign risk has become very damaging,” Rajoy told fellow world leaders at the G20 meeting in Mexico, according to Spanish reporters who accompanied him.
Although others in Europe would also like to reduce the link between banking risk and country risk, the eurozone finance ministers who decide on bailouts were reportedly against the idea. “The rules do not permit it,” one senior official told El País newspaper.
The €100bn, which is expected to be channelled through Spain’s bank restructuring fund, will increase Spain’s national debt by up to 15%.
Spain is expected on Thursday to state the global figure of how much it will take from the €100bn credit line offered to its banks by the European Union’s bailout fund. That decision would be made after a first — and rapid — round of independent audits of Spain’s banking system.
A decision by the Bank of Spain to postpone a second round of audits from late July until September did nothing to settle market nerves. Yields on Spain’s benchmark 10-year bonds dropped slightly, but still stayed over the crucial 7% rate that many economists consider unsustainable.
Finance minister Luis de Guindos insisted that Spain did not deserve to be paying such a high penalty, claiming that reforms would soon reduce the budget deficit and set growth going again. “The way markets are penalising Spain today does not reflect the efforts we have made or the growth potential of the economy,” he said. “Spain is a solvent country and a country which has a capacity to grow.”
Budget minister Cristóbal Montoro continued to call for the European Central Bank (ECB) to resume buying Spanish bonds in order to keep borrowing costs down — and some analysts saw ECB action as inevitable as fears over contagion in Italy grew.
But others thought it was too late to see off a full bailout of Spain’s entire economy. “It is inevitable,” said Harvinder Sian, of RBS. “The market has made its statement. There has to be a change in the way the Europeans are attacking the crisis.”
Many analysts now consider that the decisions which will shape the future of Spain are no longer in the hands of its own politicians. “The Spanish government is close to exhausting its domestic policy options, with the markets increasingly demanding a game-changing response from the EU/ECB to the latest phase of the crisis,” said Raj Badiani of IHS Global Insight.
Spain: Auditors determine bank bailout could cost as much as $78B in worst case scenario
By Associated Press, Published: June 21
MADRID — Spain’s troubled banks could need as much as €62 billion ($78.6 billion) in new capital to protect themselves from economic shocks, according to independent auditors hired by the government to assess the country’s struggling financial sector, officials said Thursday.
The Spanish government will use the auditors’ report as the basis for their application for a bank bailout loan from the 17 countries that use the euro. With tensions rising over the future of the eurozone, Spain is expected to submit its specific request for outside assistance no later than Monday, said Jean-Claude Juncker, who chairs meetings of zone’s finance ministers.
“We invited Spain to pursue this clear and ambitious strategy, which needs to be implemented swiftly and communicated early,” Juncker said after Spanish Economy Minister Luis de Guindos presented the audit results to the ministers who are members of the so-called Eurogroup.
Deputy Bank of Spain Governor Fernando Restoy noted that this worst-case scenario cited by the auditors was far below the €100 billion ($126.7 billion) loan offered by the eurozone’s finance ministers two weeks ago.
Spain’s banking sector is struggling under toxic loans and assets from the collapse of the country’s property market in 2008. Concerns that Spain’s economy is so weak that it could not afford the cost of propping up its banks has sent its borrowing costs soaring to levels not seen since it joined the European single currency in 1999.
In the auditors’ stress test for the worst-case economic scenario — a fall in gross domestic product of 6.5 percent over the period 2012–2014 — most of the banks were deemed to be in a “comfortable” position, Restoy said.
“We’re not talking about the imperative capital necessities of the banks. We’re not talking about someone urgently needing such and such an amount of capital to deal with their obligations,” said Restoy. “We’re talking about the capital that would be needed if we were to see a situation of extreme tension which is very unlikely to come about.”
“We should keep in mind we are not talking about how much capital an entity needs to survive. We’re talking about how much capital an entity will need to confront a situation of extreme stress,” he added.
Eurozone finance ministers offered Spain a bailout loan of up to €100 billion on June 9. The terms of the loan — for which Spain, rather than banks, will ultimately be responsible for — still have to be negotiated.
The release of the audits probably won’t erase market nervousness about Spain, said Mark Miller, an analyst with Capital Economics in London.
“At face value it looks as if there is a reasonable safety margin given that up to €100 billion is potentially available,” he said. “Having said that, the extent of the economic situation in Spain could even deteriorate beyond what is being described as an adverse scenario.”
Well there’s some good news for a change. Sure, the $125 billion ‘bailout’ of Spain’s banks will be added to Spain’s national debt, potentially driving the country into insolvency. But at least that entire $125 billion probably won’t be necessary. After all, the auditors concluded that only $78 billion would be needed under a ‘worst case scenario’ of a 6.5% fall in GDP from 2012–2014. Spain’s economy shrank at an measly annualized rate of 1.2% in the fourth quarter of last year, so it will take some really bad policies or shocks if we’re going to see that ‘worst case scenario’ come to fruition. For instance, the immediate problem facing Spain is the record high interest rates it’s paying in the debt markets and the threat that it simply won’t be able to stay solvent. So anything that actively encourages ‘the market’ to expect Spain to default could potentially trigger the cataclysmic Spanish default scenario might trigger a ‘worst case scenario’. You know, something like Germany’s Chancellor sending signals that the eurozone’s ‘core’ (which is pretty much just Germany at this point) isn’t serious about addressing Spain’s immediate debt crisis and is ok with a default or even the unraveling of the eurozone. And we all know that could never happen:
June 22, 2012 7:07 pm
Eurozone rift deepens over debt crisis
By Guy Dinmore in Rome and Peter Spiegel in Luxembourg
Leaders of the eurozone’s four largest economies pledged on Friday to back a €130bn growth package and defend the common currency but remained divided over the credit crisis as Germany continued to resist proposals to issue common debt and use bailout funds to stabilise financial markets.
The meeting in Rome was intended to demonstrate a coming together ahead of next week’s EU summit, but ended in disagreement over the need for short-term intervention in the markets and how to achieve greater political and financial union.
At a joint press conference Angela Merkel, German chancellor, declined to endorse affirmations by all three of her co-heads of government — Italy’s Mario Monti, François Hollande of France and Spain’s Mariano Rajoy — of the need to use the eurozone’s bailout funds to “stabilise financial markets”.
“We need to use all existing mechanisms to stabilise markets, to give confidence, to fight speculation,” Mr Hollande said. “This would be an important step,” he added, endorsing a proposal by Mr Monti that the bailout fund should be used to buy the debt of “virtuous” countries on the open market.
Instead, Ms Merkel said Europe needed to respect existing rules and had to work towards common structures to regulate the euro rather than have policies emanating from “17 parliaments each with national sovereignty”.
“If I am giving money to Spanish banks ... I am the German chancellor but I cannot say what these banks can do,” she said.
Yes, there’s no way we’re going to see a repeat of the 1930’s global financial panic. The historical lessons are just too compelling for a repeat of those mistakes:
April 20, 2011, 11:01PM EST
Lessons from the Credit-Anstalt Collapse
Europe is in far better shape than when the Austrian bank failed in 1931, but the risk of a domino effect remains
By Peter Coy
In May 1931, a Viennese bank named Credit-Anstalt failed. Founded by the famous Rothschild banking family in 1855, Credit-Anstalt was one of the most important financial institutions of the Austro-Hungarian Empire, and its failure came as a shock because it was considered impregnable. The bank not only made loans; it acquired ownership stakes in all kinds of companies throughout the sprawling empire, from sugar producers to the new automobile makers. Its headquarters city, Vienna, was a place of wealth and splendor, famous for its opera, balls, chocolate, psychoanalysis, and the extravagant architecture of the Ringstrasse. The fall of Credit-Anstalt-and the dominoes it helped topple across Continental Europe and the confidence it shredded as far away as the U.S.-wasn’t just the failure of a bank: It was a failure of civilization.
Once again, Europe’s banking system, and by extension its social fabric, is threatened by bad loans. What had been slow-moving fiscal disasters in Greece, Ireland, and Portugal have gathered speed in recent weeks despite rescue packages designed to calm markets and prevent spreading the contagion to Spain, Belgium, and beyond. Portugal’s 10-year borrowing costs hit a record 9.3 percent on Apr. 20, up from 7.4 percent just a month before, even as authorities met in Lisbon on an €80 billion ($116 billion) financing package. The higher that creditors drive up interest rates, the more unaffordable the debt becomes-creating the conditions for the very failure they fear. “All of the rescue packages don’t really ensure that we can escape this adverse feedback loop that these countries are being trapped in,” Christoph Rieger, head of fixed-income strategy at Frankfurt-based Commerzbank (CRZBY), told Bloomberg Television on Apr. 19.
The tipping point came early in 1931 when a bank director named Zoltan Hajdu refused to sign off on Credit-Anstalt’s books without a comprehensive reevaluation of the bank’s assets. The bank revealed losses that it kept revising upward as the weeks passed. Depositors withdrew funds. The Austrian government stepped in to guarantee all the bank’s deposits and other liabilities-but that only brought the government’s own creditworthiness into question. “In today’s language,” says Schubert, “Credit-Anstalt was too big to fail, but too big to save.”
Harold James, a British historian at Princeton University, described what happened next in his 2001 book The End of Globalization: Lessons from the Great Depression. “The Viennese panic brought down banks in Amsterdam and Warsaw. In June and July the scare spread to Germany, and from there immediately to Latvia, Turkey, and Egypt (and within a few months to England and the U.S.).” Austria got an undersized loan from the Bank for International Settlements and some help from the British branch of the Rothschild family. But French politicians rejected an international rescue without political concessions from Germany that weren’t forthcoming.
Thus the failure of Credit-Anstalt accelerated the financial panic that turned a recession into a global depression. Economic distress in Austria contributed to the outbreak of violent conflict between socialists and fascists in 1934. Jews became scapegoats. In 1938, Nazi Germany occupied Austria, and Adolf Hitler was received by adoring crowds in Vienna. Albeit indirectly, the failure of Credit-Anstalt helped clear the path for some of the darkest events of the 20th century.
The scariest thing about the Credit-Anstalt default is that it occurred in a small, peripheral country, just as today’s worst problems are concentrated so far in Greece, Ireland, and Portugal, which combined make up just 5 percent of the 27-nation European Union’s gross domestic product. “Austria is a tiny, tiny little place, and you wouldn’t imagine it could set off a chain of domino reactions. But it did. I do see exactly that potential now,” says James.
For that reason, German economist Holger Schmieding says Europe should do everything in its power to prevent or at least delay defaults by national governments. Schmieding, chief economist of the German private bank Joh. Berenberg Gossler, says keeping Greece and others from defaulting for as long as possible-if not forever-will give banks in Germany, France, and other nations that have lent to them the time they need to rebuild their capital so they can withstand the hit from loan losses. The Bank for International Settlements says that as of last September, German banks had over €220 billion worth of exposure to Greece, Ireland, and Portugal, and French banks had over €150 billion worth.
For all of Europe’s bickering over aid to Greece, Ireland, and Portugal, the Continent is more united and financially stable now than in the interwar period. “Unlike Austria in 1931, the euro zone has the resources to bail out the threatened banks without really triggering a full-blown debt crisis,” says Michael D. Bordo, a Rutgers University economic historian. The more Europe takes the lessons of Credit-Anstalt to heart, the less likely it is to make the same mistakes again. The introduction of Schubert’s book begins with the famous line of George Santayana, the Spanish philosopher, who said, “Those who cannot remember the past are condemned to repeat it.” J. Bradford DeLong, an economist at the University of California at Berkeley, thinks Europe has absorbed Santayana’s message-to an extent. “Because we remember the Credit-Anstalt, we will not make that mistake,” DeLong says. “We will make different ones.”