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Will EuroBail Make Things Better or Worse?   May 7th, 2010
EuroBail fund could make matters worse       


More observations...

Preliminary news late tonight is that leaders of the EuroZone are promising to "take whatever steps are required" to protect the stability of the area, and will setup a "crisis fund" (i.e. bailout fund) for members to "dip into" in emergencies.

During a late-night summit in Brussels, the 16 heads of the single currency countries said they were ready to take whatever steps were required to protect the stability of the euro area.

The leaders agreed to set up a crisis fund for all members to dip into in times of financial difficulty...

German Chancellor Angela Merkel said the "stabilization" fund would send "a very clear signal" to market speculators to back off.

So Europe is going to do anything it needs to do (including printing Euros and devaluing them?) and it will set up a permanent bailout fund for countries to "dip into"... and this is supposed to give the markets confidence and send a clear signal to "back off?"


But while this might calm the markets for now, what will be the parameters to determine if a country will be allowed to dip into that bailout fund? Won't accessing that fund immediately be a red flag to markets that the country is in trouble which will make it even more difficult for that country to access the credit markets thereafter? If so, won't that mean that the country will then be dependent on that bailout fund? Will the fund be funded with real money contributed by member countries, or will it be funded with printed money?

And doesn't this reduce the incentive for individual countries to immediately get their fiscal house in order? With the advent of this permanent bailout fund, Euro countries can continue on their reckless and unsustainable ways until they're shut out of the credit markets. Only when they have to resort to "dipping" into the EuroBail fund will they finally be pushed to make the tough decisions--at which point there may be riots in the streets, like Greece, and it may be difficult or impossible for them to reign in spending and get their spending in order.

The fact that Euro countries will know there's a guaranteed bailout fund waiting for them to "dip" into will encourage them to not take their problems seriously.

This measure seems to be a stopgap measure to give European countries (such as Portugal and Spain) time to get their house in order. Indeed, they're also promising "to speed up the process of reining in their national debts." They better. Because even if this EuroBail fund calms markets for now, it's effectively plugging a hole in a dam with duct tape unless they solve the underlying problems which are excessive debt and high deficits (and actually the duct tape might stand a better chance of working).

    Update 5/9/2010: A report in the Wall Street Journal is saying about the same thing two days later: That this is, at best, a temporary reprieve and not a solution.

    "The uncertainty, however, also surrounds how these measures are going to be paid for and how further debts will be treated," said Michael Woolfolk, senior currency strategist at Bank of New York Mellon in New York. "The austerity measures still do not seem to be politically feasible long-term. And there are still the lingering concerns about Portugal and Spain. This is unlikely to provide anything more than a temporary reprieve from the current instability."

Personally, I for one am just about sick of talk of bailouts and they don't give me confidence. A one-off bailout of Greece is bad enough. But, in my opinion, a permanent bailout fund for all Euro countries to "dip into" does not inspire any confidence whatsoever.

My instincts tell me that this is the European Union playing chicken with the credit markets. It's a question of who will blink first.

This might calm the markets for now, but the markets already have their eyes on Portugal and Spain. If the permanent EuroBail fund is funded with just about anything less than the anticipated bailout amount needed for Portugal and Spain, I don't think the markets will be impressed for very long. Likewise, if immediate improvements aren't made in the finances of questionable countries, the EuroBail duct tape is going to eventually fail quite spectacularly.

All that matters is countries getting serious about getting their spending under control. If they were to get serious on Monday, the EuroBail fund wouldn't be necessary. And if they don't get serious about it really fast, the EuroBail fund won't save them anyway.

But we'll see what details the European leaders hammer out over the weekend and how the markets react on Monday.

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