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Something strange happened today, November 30th. Six central banks standing behind six endangered banking systems -- where 4 of them (namely USA, Eurozone, U.K. and Japan) have never been so strained -- decided to act in unison.
They have all agreed to provide cheaper dollar funding to the European Central Bank - so that it can now provide cheaper dollar loans to cash-strapped European banks. What a show of solidarity!
Or, was that rather an act of despair disguised as magnanimity? We will certainly know the answer in a few months, or less.
In times like these it always helps to look at the facts and separate them from fantasy. With the exception of Canada and Switzerland (assuming the highly-debatable “non-contagion” as a premise) all other central banks are encumbered with national megabanks that are overleveraged and, in many cases, insolvent. In simple terms, that means that these banks carry liabilities that cannot be met from their current capitalization levels. Recapitalizing them through private equity appears, at this point in time, not feasible all over the world. Just ask Europeans or Americans for some pointers.
So, what do the governments that have presided over this situation do instead ? They ask their respective central banks to buy them more time by resorting to obscure and largely-suspect techniques neighboring in the realm of Quantitative Easing. How is that going to help them deleverage? Go figure.
Never mind that it has been tried twice already in the US with little to show for it, or that it has been tried in many other countries since the Great Recession -- including the euro zone -- with similar results. The Western Banking world seems to think that time heals all wounds. The funny thing is that I would go along with that axiom if it weren't for my conviction that “this time is different”. (sorry Professors Reinhart & Rogoff, no pun was intended on my part ..)
What is different this time around is that we have huge and intricately interconnected global banks, with trillions of Dollars or Euros in their balance sheets that can no longer be rescued by their national systems which had franchised them to exist in the first place. The empowerment system behind these banks is broken.
The “too big to save” cliché has now come to haunt the governments that have tolerated such huge banks to balloon under the nose of their very own central bankers. Relying on bank nationalizations as “insurance” doesn't apply here anymore, because these banks have outgrown the fiscal capacities of the nations that have warranted their existence. Welcome to the era of “incapable nations” in a very confused financial world !
At stake here is a country's right to have a banking system, with an adopted currency, as a proxy for its economy. What does sovereign debt mean if countries can no longer stand behind their banks?
- What does sovereign debt mean in the euro zone where a single currency denoting economic integration contrasts with the fiscal disunion of its member countries ?
- What does sovereign debt mean for Greece that has a government whose fiscal incapacity is blatantly obvious ?
- What does sovereign debt mean for the UK whose banking assets exceed by 300% the nation’s GDP, making as a result nationalizations an unlikely rescue outlet in case of more trouble?
- What does sovereign debt mean for Japan whose government indebtedness, long thought unsustainable, is still resting on an export economy with deflating demographics ?
There is one exception in this group grope that stands out: the USA. If its economy could be invigorated to create jobs and growth, then its government deficits may come under control faster than others. Its demographics and productivity are favorable, if not even enviable.
But that requires fiscal policies that compensate for the profligate monetary policies of the last 30 years. Without acknowledging that reality and taking corrective steps, its sovereign debt will be facing much of the same questions of those in the desperate line-up of sovereign nations.
