As European officials haggled over the latest solution to Greece’s debt crisis last month, Jean-Claude Trichet circled the 1,200 year-old marble throne of Charlemagne in the German city of Aachen.
Hours before Moody’s Investors Service raised Greece’s default risk to 50 percent on June 1, the European Central Bank president gazed at the symbol of unity used by the Holy Roman Empire’s founder and 30 of his successors. The next day, Trichet called for “historical perspective” when addressing the turmoil afflicting Europe’s common currency.
In his final four months in office, Trichet, 68, is battling politicians he sees as too ready to ignore the lessons of history and contemplate a Greek default, threatening the euro project he helped create in three decades at the pinnacle of global finance. With Greece’s fate still in play, Trichet may need to show similar resolve to August 2007 when he opened liquidity taps after the collapse of three BNP Paribas SA funds.
“In the same spirit he showed at the start of the crisis in 2007, Trichet’s the only one talking about big initiatives,” Jim O’Neill, chairman of Goldman Sachs Asset Management, said in an interview. “Others are happy to try and keep it together, whereas Trichet wants a more durable, longer-lasting union. It will come but I wouldn’t assume the path isn’t messy.”
As German Chancellor Angela Merkel flirts with solutions to the Greek crisis that rating companies say would amount to a default, Trichet says leaders can’t repeat the mistakes made by U.S. officials when they let Lehman Brothers Holdings Inc. fail.
“No credit event, no selective default, no default,” he said at a press conference in Frankfurt yesterday.
That warning underpins the vision he has set out of the future after he leaves in four months, that the euro needs economic union and a finance ministry if it’s ever to work.
An architect of the euro’s founding treaty, Trichet has led the fight against a global credit rout that started in the U.S. subprime market and morphed into a European debt crisis. On Aug. 9, 2007 he broke off his vacation to pump 94.8 billion euros ($136 billion) into markets just days after then Treasury Secretary Henry Paulson said the mortgage crisis was “contained.”
On May 7, 2010, Trichet travelled to Brussels as Europe’s debt crisis threatened to rip the euro apart, and warned politicians about the dangers of dithering on creating a bailout fund. He stretched the mandate of his own institution, allowing the ECB to buy government bonds even though the bank’s policy makers were split on the matter.
“Without the involvement of the ECB, it’s unclear how leaders would have found a solution,” said Juergen Michels, chief euro-area economist at Citigroup in London. “Trichet delivered a quick response while politicians were watching the situation deteriorate in paralysis.”
Now Trichet says that the credibility of the ECB, and by extension the euro itself, must be defended and is signaling that the ECB would have to consider preventing banks from using Greek debt as collateral in its money-market operations if the nation defaults. While his stance initially forced a retreat from Merkel, the German government hasn’t yet abandoned the idea of allowing Greece to extend the maturities on Greek bonds, a move that could trigger a default.
“The ECB is in an increasingly difficult and dangerous situation,” said Nick Kounis, head of macro research at ABN Amro Bank NV in Amsterdam. “There’s hardly any room for rates, they already stuffed their balance sheet with a lot of periphery bonds and used the option of providing unlimited liquidity. They don’t want an intensifying financial crisis in the first place but what’s even worse is to be short of weapons.”
Bond purchases by the ECB and the region’s national central banks mean they could face losses of up to 10 billion euros, one eighth of their capital, in the event of a Greek default, according to calculations by UBS AG economist Stephane Deo in London. A further danger to the ECB’s balance sheet is posed by the Greek collateral parked with the central bank by financial institutions during money market operations.
“The risk in a case of a Greek default would be that Greek banks default as well, leaving the ECB with the collateral,” Deo said.
Trichet’s tussle with governments is coming to a head as politicians try to craft a second Greek bailout that is both partly funded by bondholders and avoids triggering a default.
Merkel’s officials on July 6 revived a proposal for a swap that would involve a voluntary exchange of Greek debt against bonds of longer maturity. A German official conceded it would create a credit event albeit for a short period.
Another plan would see banks and insurers roll over at least 30 billion euros of Greek bonds, a move which could give the ECB some room for maneuver. While Standard & Poor’s said July 4 that it could brand the step as a “selective default,” Fitch Ratings signaled on June 15 it would likely steer clear of slapping a default rating on Greek government debt.
The ECB typically uses the best credit rating from four companies -- S&P, Fitch, Moody’s Investor Service and DBRS Inc. -- to determine the quality of collateral it accepts. In addition, the ECB has suspended its rules for Greece, potentially giving Trichet the final say over what to do with Greek collateral. DBRS doesn’t currently have a public rating on Greece.
For now, Trichet is telling governments the ECB has done all it can to help Greece and they need to step up to the plate.
“We are not the decision makers and we do not want to substitute for decision makers,” he said yesterday. “We are not the actors. The governments and authorities are the actors.”
Leaders will have to decide how far they are willing to gamble and rely on Trichet accepting the hand Fitch has offered and bending the rules again as he did for Greece in May 2010 just four months after saying he wouldn’t do so.
“The ECB will play hardball,” said Jacques Cailloux, chief European Economist at Royal Bank of Scotland Group Plc. “Trichet has made his position very, very clear, he hasn’t left anyone in any doubt and my gut feeling is that European leaders will not take the risk of frustrating him and the ECB further.”
Trichet learned his trade climbing the ranks of French politics after graduating from the Ecole Nationale d’Administration, a breeding ground for future leaders. As the French Treasury’s international affairs chief in 1985, he chaired the Paris Club, the group of sovereign creditors that rescheduled debt for governments from Russia to Latin America.
Extolling the German mantra of low inflation and budget discipline to France’s elite as head of the French Treasury and, later, as central bank governor, Trichet led France into the euro in 1999. That set him up to succeed Wim Duisenberg as second ECB president and ushered him into the inner circle of international policy making.
“Jean-Claude has been a pillar of the global financial system for a full generation,” former U.S. Treasury Secretary Lawrence Summers said on June 19 in Kiel, Germany. “He’s seen and done it all, with his unique combination of high rectitude, keen insight and great diplomacy.”
While Trichet has established investors’ respect for the currency’s stability, he will have to leave it to somebody else to lead the euro out of its biggest crisis yet. When he retires in October, it will fall to Mario Draghi to shape the ECB’s response to Greece’s crisis that may still shatter the common European project.
“It’s unfortunate for Trichet that he didn’t retire earlier,” said David Owen, an economist at Jefferies International Ltd. in London. “In general, history will write him up as being a very good ECB president. But he hasn’t resolved the crisis.”
For Trichet, the splits and delays that have hobbled European leaders’ response to the Greek crisis in the past 18 months highlight a design flaw in the euro and called for the creation of a unified finance ministry. Trichet may be conscious of the legacy of the rule of Charlemagne, who left an empire that was divided by his bickering successors within three decades of his death.
Receiving the Charlemagne Prize for services to European unity on June 2, Trichet dared governments to give up at least some of their sovereignty to prevent a repeat of the region’s current financial turmoil.
“Economic and Monetary Union is itself an unprecedented achievement in the history of sovereign nations -- a goal to which generations of Europeans have aspired,” he said. “It is vital that all nations engage fully in the European historical endeavor and look with confidence to the future.”