Thursday, November 24, 2011

Here comes the run

That sucking sound you hear is the Big European Bank Run.

Right now there are four bank runs occurring in the eurozone: (1) the bond market has closed to many eurozone banks, and their maturing bonds cannot be refinanced; (2) as bank risk committees lower their eurozone concentration limits, interbank and counterparty exposures are being cut or eliminated; (3) wholesale depositors (money funds, investors and corporations) are prudentially reducing their  eurozone limits; and (4) retail depositors in Greece, Italy, Portugal and Spain are either cashing out their deposits into euro notes, or transferring them outside of the eurozone, to Switzerland or beyond.

At the acute level, all (retail and wholesale) depositors fear a deposit freeze in the critical countries, which is by now inevitable for Greece, and very likely for Italy, Spain and Portugal. Greece will need to freeze deposits soon, because Greek depositors aren’t stupid. They know that, once your euro deposit has been frozen, it will emerge on the other side as drachma-denominated wallpaper. Once Greece announces its freeze, the heat will be on for the rest. Those who freeze will, of course, have to leave the zone. You can’t unfreeze back into a currency that you don't print.
At the subacute level, creditors are wary of all European banks with exposure to the critical countries. Despite the fact that most such banks are too big to fail, credit committees are loathe to rely exclusively upon such contingent promises.

Although so far all of my forecasts have been directionally correct, my accuracy as to timing has been poor; I expect things to happen faster than they do. This has been because I overestimate the market’s speed of reaction, and I underestimate Europe’s ability to come up with endless fudges (such as eliminating collateral standards at the ECB). Nonetheless, I predict that Greece will have to freeze by year end, which should prompt the cascade of events resulting in the breakup of the eurozone.

As we know from similar such situations in the past, the authorities in the frozen countries may seek to force the repatriation of offshore deposits. For this reason, prudent eurozoners will follow long-established tradition by moving their funds far away, using dummy corporations as well as cash in numbered boxes. And the truly prudent will want these caches denominated in anything but euros, which may explain why 10-year Treasuries now yield a whopping 1.9%.

No comments: