They came first for Greece and I didn’t speak up because I wasn’t Greek. Then they came for Ireland and I didn’t speak up because I wasn’t Irish. Then they came for Portugal and I didn’t speak up because I was German. Then they came for me, and no one was left to speak up.
With apologies to Martin Niemoller, Europe’s debt crisis is getting worse, not better. The European Central Bank’s milquetoast bond-buying efforts have done diddly and squat to prevent borrowing costs from soaring to levels that mean each new sale of securities drags euro region governments closer to the bankruptcy courts.
If the ECB is serious about backstopping bonds -- and that’s a big if, since it’s pretty easy to envisage the Frankfurt crowd cheering yields higher with “go baby, that’ll teach them for their fiscal indiscipline” -- tinkering at the edges by bidding for a Greek bond here, an Irish security there, isn’t the way to go.
Instead, the central bank should expand its armory to include the most potent weapon the sorcerers of financial alchemy have concocted to date. By crying havoc and letting slip the dogs of derivatives, European policy makers could prove their commitment to averting default, restoring some sense of order to the government bond market and maintaining the integrity of the common currency project.
Credit-default swaps could be employed as a battering ram to bludgeon away the bond vigilantes. By offering insurance against a failure to pay by selling default swaps to anyone who wants to buy, the ECB could stand in the market and change the price of money much more tangibly than the 72.5 billion euros ($95 billion) of bond purchases it has implemented since establishing its debt support program on May 10.
For example, it currently costs about $105,000 per year to insure $10 million of AAA-rated French government debt for five years. That’s the most expensive ever, triple the cost since the start of the year, as the debt crisis infects even Europe’s most creditworthy nations.
By offering unlimited insurance, the ECB could drive down the cost of swaps with each successive trade it does with a default-wary bondholder (or naked-short-selling, pesky speculator) -- and it could do the same for Greece, Ireland, Portugal and the rest of the euro members. Underwriting euro-region debt by offering cash protection against nonpayment via the tried and tested mechanism of guaranteeing to take defaulted bonds and pay out their face value could be a game-changing vote of confidence in the ability of euro nations to keep their debt promises.
Of course, it will never happen. Joint and several guarantees are anathema to Germany, which still has the tiller of the Good Ship Euro. The ECB is already up to its eyeballs in trashed euro debt; a default-swap program would expose it to billions more euros in potential losses. While the likes of Germany and France may say that euro nations will never default, getting them to put the ECB’s money where those pledges are is a different matter.
The only stick beating Germany into line on the bailout packages is the dread that its banks will be left holding worthless government paper, should Greece and Ireland and their fellow profligate borrowers fail to make good on their debt commitments. If its leaders continue to badmouth bondholders, no amount of central bank support will prop up debt prices.
The ECB bought the least amount of debt in almost two months last week. It purchased just 603 million euros, down from 2.667 billion euros the previous week. Those halfhearted efforts have failed to cap borrowing costs; Greek 10-year yields have climbed more than 4 points to almost 12 percent since the program started, while Irish yields have jumped to 8.6 percent from 4.7 percent, and Spain’s borrowing costs have soared to 5.5 percent from 3.9 percent.
The creditworthiness of euro nations continues to melt. Just three more cuts, and Ireland will have metastasized into a junk-rated borrower at Moody’s. Spain may lose its Aa1 grade at the rating company, while Standard & Poor’s is reviewing its assessments of Ireland, Portugal and Greece.
No wonder the euro is the world’s worst-performing major currency this year, also dragging down the Danish currency, which is pegged to it. While that’s great news for German exporters, it’s hardly evidence of investor faith in the economic and financial policies being pursued in the common currency bloc.
A year ago this week, this column suggested that letting Greece default would be preferable to a bailout. As more countries come under fire, with Ireland already forced to seek aid while Portuguese and Spanish yields are screaming in pain, the options available to the guardians of the euro project seem to be narrowing to just two choices: let the project collapse, or force the weaker members to cede all fiscal sovereignty to Frankfurt. The endgame must come soon.
(Mark Gilbert, author of “Complicit: How Greed and Collusion Made the Credit Crisis Unstoppable,” is the London bureau chief and a columnist for Bloomberg News. The opinions expressed are his own.)
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