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Author: Carsten Valgreen is a partner in Benderly Economics. Benderly Economics analysts are mainly ex-Danske Bank A/S (CPH:DANSKE) (PINK:DNSKY) economists.

The contention is: The euro-crisis is not out of the woods yet; but the trees are thinning.

  1. The PIIGS countries have done most of the unpleasant, but necessary things:
  1. Spain’s public deficit (before interest payment) in 2009 was 9% of GDP – this year about 3%.
  2. Italy’s public deficit (before interest payment) in 2009 was 1% of GDP – this year a surplus of 3% before interest.
  3. Ireland has gone through a severe internal devaluation and is back on the market despite poor public deficit and severe banking and housing problems.

The effects and extend of structural reform is debatable; but Southern Europe has moved in this direction.

  1. The ECB board has realized that they have to ignore the Maastricht-treaty. A central bank cannot isolate itself from the financial policy. The ECB president Mario Draghi has the majority behind him – presumably – in opening for the member states sale of short term sovereign bonds: Provided they comply with agreements and convergence programs.
  2. The ECB already has a massive sovereign credit risk, due to the sovereign bonds used as collateral in the banks transactions with the ECB. Thus, there is no additional credit risk for the ECB in buying short maturity sovereign bonds on the market – not even in unlimited amounts.
  3. EU is getting a banking union. The Economic and Monetary Union has always had the basic problem that the ECB should put up the liquidity to save a banking crisis, but without the central financial regulatory control that could ensure a proper restructuring. That is coming now.


We are now getting a common banking regulatory standard and an ECB that can guarantee sovereign debt as long as the states comply with some common rules. In effect the ECB is becoming a more normal central bank.

The crisis forces the Economic and Monetary Union member states into a federal fiscal- and monetary policy. The limitations in the unrealistic Maastricht treaty have been/will be set aside.

Whether you like it or not – that will be the result.

I’ve tried summarizing as loyally as I can, but I might have read something different into it. Provided I’m not too far off the mark: The observations and analysis stand in my view.

The Economic and Monetary Union was a treaty signed without reading the small print that should have been there. Normally small print is there for a reason: To avoid foreseeable accidents and avoid hugely expensive litigation.
Europe is learning the hard way that they need to have a common banking standard and compatible fiscal- and monetary policy. Not because the pesky Germans are brutal spoilsports; but because political independence is always limited by the constraints of economic reality.

The huge untaxed deficits will eventually catch up if they are not due to investment which yield a return; but camouflaged consumption. The majority of the debt problems can be overcome with taxation – the money is there – the problem is that those holding the money are rather powerful voters that have been screaming in past decades for more privileges and gotten them. Early retirement to a luxury life might be fair and just; but the goods and services needed to enjoy the demanded living standard have to be provided by somebody that might not totally agree that they should work for free: Either you will have a runaway inflation, as demand from the former unprivileged outstrips supply – eating up the retirement funds – or the retirement funds will suffer losses due to placement in debt that cannot be serviced by the incomes that have incurred the debt.

The banks protestations that this circle can be squared off easily are effectively refuted by attacking the standards leading to the alleged assets. You cannot use “market price” when you have abolished the market. Abolishing the market does not allow you to set the value of your assets to any figure you might please: The debt has to be serviced – or when that isn’t possible – financed. A debt that isn’t serviced is a loss – simple as that.

Eventually there is no other recourse but to estimate the value of the assets the other way round: To what extent can that debt be serviced? As long as the banks can borrow money without interest, the losses can be kept on the books indefinitely. Cutting the free credit to the banks will lead them into immediate bankruptcy, which will incur losses to the depositors (be they private or public).

The private depositors will not pay the losses – they take flight into sovereign bonds (one way or the other), which leaves the public. The public losses can be recovered – by taxation. Perhaps not by the current laws; but then you make some new laws, or ensure the current laws are enforced – or preferably both.
The common EU standards – away from “market value” of assets – of what debt can be serviced will naturally reveal the damages incurred by not only building a dream world, but actually living there. The shareholders “equity” vaporizes and reveals the real losses that have to bridge; financed by the public, until the taxes can be collected.