Angela Merkel started the latest phase of the rolling Euro crisis. She warned that Europe’s taxpayers could not be expected to carry the whole burden of bailing out countries that had borrowed too much. She felt that the bondholders, people and institutions who had lent money to the likes of Greece and Ireland, should lose some of their money. She favoured the heavily borrowed countries scaling back the interest and or capital they repay to their lenders. She also wished to clarify and settle more of the details of the bail out funds, announced in haste during the first phase of the crisis.
This may have been popular with German taxpayers who are very nervous about how much they might have to contribute, but it did not go down well in the bond markets. Irish bond prices fell sharply, forcing up the interest rate Ireland will have to pay for new debt and replacement debt when it wishes to borrow again. Other senior people in the EU realised this was hastening the crisis they were trying to avoid, and eventually put out a statement saying any reneging on the terms of debt would only apply to new debt. It would not apply to debt people,funds and banks already owned
That was a curious way of “reassuring” people. Why would savers want to buy Irish or Greek debt in the future if it no longer has an effective sovereign guarantee that you will be paid all your interest pr0mptly and will get your capital back on the due date? How is it reassuring to current investors to know that when Ireland or Greece comes to borrow again to repay you, they may have to offer much higher interest rate coupons because people will fear the “haircuts” in the interest and capital to come? You can reach the point where the interest rate they need to pay to renew their borrowings is simply not sustainable from their tax revenues.
To many readers the idea that the bondholders should take a hit may seem attractive. After all, they could have worked out what the rest of us worked out, that some Euro area sovereign debt is high risk. There is a simple answer to Mrs Merkel and her theory of bond cuts. If the Euro sovereign renege on their debts people’s pension funds, saving funds, and the banks will lose this money. The Euro sovereign bonds are not all owned by rich people who could afford the losses. The UK taxpayer will be one of the bigger losers, thanks to the Irish holdings in RBS, the state owned bank.
It’s in all our interests that they find a way of avoiding reneging on debt. It is also in our interest for our government to make sure UK taxpayers do not have to subsidise Euro area governments that have borrowed too much. The answer is of course stronger economic growth and a lower proportion of GDP being borrowed by the state. The problem is, to achieve that they probably need a lower Euro as well, something Germany is none too keen on. Maybe if Mrs Merkel makes some more unfortunate remarks it will lower the Euro anyway.