France: The socialist candidate turns out to be a socialist

President Hollande has begun to show his true stripes. It turns out he wasn’t kidding, and meant what he said during the election. You may recall that we were confidently told that there was little difference between Hollande and Sarko besides personality (Sarko mercurial, Hollande stable), and that once in office, Hollande would follow in Sarko’s prudent footsteps.

Au contraire.

Instead, he turns out to be an honest, naive little man (just like he looks). Like Nixon with Vietnam, he had a secret plan to solve the riddle of the eurozone: he would gather together all of the needy in the eurozone and order Merkel to guarantee a joint eurobond. He flew to Berlin and demanded a eurobond. Angela said no. He flew to Camp David and caucused with Club Med, ganging up on Merkel to make her relent. He made a grand entrance at the recent Brussels summit, walking in with Spain, leaving the Chancellor to walk in alone.

We are now being told by the media that all of this has been for home consumption in France, and that it is not to be taken too seriously. I see no reason to think this. I think that Hollande is quite sincere, and that he does not see a double-dose of austerity as the eurozone’s salvation. He believes that growth via greater fiscal unity is the only way out.

He may be right, but it’s not going to happen. He wants the eurozone to issue a bond with the joint and several guarantees of its members. As the guarantee is several, it means that the German people will agree to guarantee (assume) the debt of all of the other members, including Greece, Italy, Spain, Portugal, Ireland and--yes--France. Good old AA- France.

As a former rater, I will point out that when a guarantor guarantees something small, it gets his rating. But when it guarantees something enormous (like a continent) it gets a blended rating. That means you have to calculate standalone ratings for each country, multiplied by each country’s weighting (GDP or whatever). It also means that the guarantee has to be credible and irrevocable, which this one is unlikely to be.

But that aside, there is no way that Germany is going to become a part of a large mediocre sovereign credit that they do not control. Even in 1789, no one asked New York to guarantee the debts of the other twelve states. (New York was a good credit once).

To allow Hollande to save face, Merkel has said that she will “study” the idea of some sort of a joint bond. The SDP opposition has criticized her for being intransigent on this. But that is completely disingenuous. If the shoe were on the other foot, they’d do what she’s doing. The SPD is German long before it is socialist. (Most of Germany’s recent structural reforms were implemented by the SDP under Schroeder.)

All of this would be light opera if Europe were not teetering on the edge of the abyss. Right now, big decisions have to be made. Since there won’t be a deus ex machina from a German bailout, what can be done to save the eurozone? To what extent, if any, will Germany contribute to an enhanced ESM? To what extent, if any, can the Bundesbank be persuaded to provide unlimited liquidity to troubled banking systems? Will or won’t the ECB directly buy the bonds of the peripherals?

And, in Hollande’s own yard, whither French austerity? His first act as president was to lower the retirement age from 62 to 60, a pretty clear signal that he is not afraid of reversing engines.

So we now find that Hollande is not a sheep in wolf’s clothing, but indeed a wolf. At the very moment when the French people must decisively signal that they are Northern European, they have elected a man who prefers to hang out with the deadbeats in Club Med.

And the media is still telling us how awful Sarko was, and what a nice man Hollande is. I hate to say it, but the people of France have made a very serious mistake. They will realize that before the end of the summer.

Wrong again!

A week ago I swore that Greece was on the verge of exploding. Once again I was directionally correct but premature. I underestimated the degree to which the EU will do anything to keep Greece afloat. The EU blinked and released bailout funds to allow Greece to recapitalize its banks, allowing the ECB to resume its “normal” lending operations. Catastrophe averted.

The EU would like to keep Greece alive until the Greek election next month. If an austerity government can be formed, the EU can continue to disburse funds as agreed. It is anybody’s guess how the election will turn out; it is pretty unlikely that it will be possible for any government to implement the agreed austerity policy. I do not think that a military coup is likely now; that would come later, after complete chaos. The military is not chomping at the bit for such an opportunity.

As long as the EU continues to disburse bailout money and the ECB continues to fund Greek deposit outflows, disaster is postponed. But already today, the Bundesbank has begun to make unhappy noises:

"Greece is threatening not to implement the reform and consolidation measures that were agreed in return for the large-scale aid programmes. This jeopardises the continued provision of assistance. Greece would have to bear the consequences of such a scenario".

The Bundesbank is saying that the game is up unless the new government is foursquare in favor of the agreed “reform and consolidation measures”.  Today’s media contains speculation about this weekend for the “Grexit”. I wouldn’t expect it until the voters have spoken in June. The current caretaker government doesn’t have the authority to do anything besides holding the next election. So we should have a few weeks of respite.

It might be worth noting what the bond market currently thinks about the weak sisters in the eurozone. The market has priced the bonds of Cyprus and Portugal for default (Caa), and prices Spain and Italy as speculative (Ba). Cypus has not yet asked for a bailout, but it will have to do so or follow Greece out of the euro. Portugal will stay alive as long as the government sticks to its austerity plan.

Greek explosion imminent, I swear

I’ve called it prematurely for over two years, but now I am pretty sure that Greece is about to go under. This is for two reasons: (1) the run on Greek banks is accelerating; and (2) the ECB has reportedly begun to turn off the liquidity spigot for a number of Greek banks because they are hopelessly insolvent.

When the lender of last resort cuts off a bank facing a run, the bank is dead and will shortly default on its deposits. While the Greek central bank and the Greek government will do whatever they can to prevent bank failures, the remorseless arithmetic is decisive, because neither Greece nor its central bank can print euros. It appears that the ECB is now playing the game of chicken with the EU: If you want us to prevent a Greek collapse, then recapitalize its banking system with EU money.

I’m sure that the EU wants to prevent a Greek collapse, but I don’t see where they can get the money to recap Greek banks. That is a fiscal job for the government, not a liquidity job for the ECB. The Greek government isn’t going to get an open line of credit until it implements the austerity plan already agreed to. And it can’t implement the austerity plan because there won’t be a Greek government until a month from now, if then.

So unless the EU blinks, Greece won’t be able bail out its own banks, and they will have to close their doors. Once one Greek bank defaults on its deposits, all banks will be subject to massive wholesale and retail runs. This means that Greece will have to impose a deposit freeze pretty quickly. But the only way to reopen the banking system is with a currency Greece can create, which means leaving the eurozone. (This decision will have to be made by an unelected government without a parliamentary majority; how convenient for Greek politicians.)

Leaving the eurozone will necessitate not only redenomination but also default upon all external debts denominated in euro, which Greece can’t pay. Greece has the choice of repudiating its foreign debt or denominating it in drachma at par, and then paying it off Zimbabwe-style. Either way, it will totally screw the ECB and the rest of the eurozone. Their collapse will cost Europe something between EUR 500 and 900 billion. A small country, but a big price tag.

Greece is facing a “hard constraint”: bank insolvency and illiquidity. This is not a problem that can be resolved by negotiation, riot, or military coup. It can only be resolved by leaving the eurozone and massive external default.

I have to assume that the focus of attention in Brussels and Frankfurt now is deciding whether to push Portugal off this same cliff, since it is inevitable, and maybe Ireland too. They have to build a firewall around Spain because Spain is too big to fail. The Spanish firewall will have to involve the ECB, because only the ECB has unlimited resources in euro. The EU can help to recapitalize Spanish banks, but it can’t stem deposit outflows; only the ECB can do that. This will require an endless three-way conference call between Paris (Hollande), Berlin (Merkel) and Frankfurt (Draghi and the ECB board).

This crisis comes at an awkward time for France, which has taken its first step down the Greek anti-austerity road.  The people of France have voted against austerity and in favor of growth. They are going to get austerity.

Greek elections: Bad news for French socialists

I don’t know if Greece matters anymore. It has already defaulted on most of its debts, and aside from its debt, who cares what happens to it? It could just be another bankrupt Balkan (as it has been many times before).

The Greeks just voted in national parliamentary elections, and did not give a majority to the major parties which sought to pursue continued bailout money in exchange for fiscal reform. Even in coalition, it appears that New Democracy/PASOK cannot form a government. Without a government, it’s hard to see how parliament can implement the fiscal measures which are a condition of more bailout money.

Assuming that Germany sticks to its guns, it looks like the money pumps will be turned off next month, and Greece will have to start paying its bills in neodrachma or some such scrip. Short term, this will lead to utter chaos and financial collapse (Russia, 1998).

There are several possible financial implications of a Greek collapse: (1) it could serve as an object lesson to the rest of Club Med to get its act together; (2) it could spook the debt markets and cause funding crises for Club Med; (3) it could scare Europe into mounting a major exercise to ring-fence Club Med including both the ESM and the ECB; or (4) no impact at all, with Greece being viewed as another bankrupt Balkan.

My money is on #2: that it would alert the markets to the fact that the alternative to austerity is financial collapse (not growth, pace Krugman), and that Club Med is getting tired of austerity (which has only begun to be felt). The ECB has unlimited firepower to fight back against the markets, but the Bundesbank just reiterated today that this is not an option. At this point, Germany wants to wash its hands of all things Greek, and would be happy to see Greece settle Titanic-style to the bottom of the Mediterranean.

If I am right (that Greece will blow up next month), it will mean that M. Hollande’s honeymoon will be very brief. Unless he can say something quite dramatic in the next few weeks, such as “I hope no one really believed what I said about austerity”, he will learn that the bond market is not your friend.

Personally, my contempt for Hollande and the French left is so strong that I am hoping for the worst.

End China's human rights abuses now!

The history of American foreign policy is not a fun read. As long as America’s foreign policy objective was continental conquest, all was well. But that ended in 1846, when the US conquered New Spain and pushed the British out of the Pacific Northwest. Since then, it’s been one embarrassing blunder after another. (Please point out to me to the part in the Constitution about Puerto Rico.)

Today, in my opinion (and Donald Trump’s) we have one major foreign policy problem: Not Iran or Korea, but China, or to be more specific, the Chinese trade imbalance. As in, we buy their exports and they buy our debt obligations.

For the purposes of this discussion, I will ask the reader to stipulate that the hollowing out of America’s manufacturing base by the Chinese is a bad thing for our economy, and that a principal cause of the imbalance is China’s mercantilist currency and policies. (These policies are probably in China’s interest, but not ours.)

China supports the export sector and discourages imports by overvaluing the RMB versus the dollar and the euro. In addition, they pose innumerable and inscrutable nontariff trade barriers to US manufactured goods.

All US administrations and both political parties have agreed that US policy must be aimed at inducing China to float the RMB to float and for it to be made convertible. (In other words, there should be a free cross-border market in RMB and RMB-denominated financial assets.)

But the US has never actually stuck it to the Chinese, despite twenty years of whining and pleading. Why is this?

The reason is that the Chinese are smarter and wilier than we are. Diplomatically, China makes Britain look like Belize. China has been engaged in active diplomacy for 3000 years, and they have the written records to prove it. They had diplomats before the dawn of European civilization.

The Chinese are masters of the art of distraction. To analogize: Let’s say that I have built my house on my neighbor’s property line, and he knows it and is not happy. What do I do? Well, if I’m China, I park my cars on his grass, give loud parties, and paint my house purple. When he knocks on my door to complain, I make sure that he plenty to complain about. He’s so worked up over the parked cars, the loud music and the horrible paint that he never gets around to the property line issue. (The Soviets were pretty good at this sort of thing too.)

In China’s case, they know that we are steamed up about the disappearance of our manufacturing industry. So what is their response?

They pay the Kims to build rockets, make big explosions inside their mountains, and to move “fuel rods” around. If things die down, they ask the Kims to fire at villages, fishing boats and submarines, or to shoot at tourists, or border guards.

The Chinese have great fun watching as Jimmy Carter and Hillary Clinton shuttle back and forth to Beijing to deal with each new Chinese-manufactured Korean “crisis”.

China also claims the entire South China Sea, and builds aircraft carriers and stealth fighters to protect them, causing regular “incidents” with foreign craft.

China demonstrates her ability to shoot down satellites.

She makes friends with Iran and vetos sanctions so that we wil use our “diplomacy” to induce them to go our way.

She plays games in Africa in order to keep the CIA busy.

And finally, and most diabolically, China create human rights abuses in her own country, just as the Soviets did. Instead of saying “let’s talk about trade imbalances”, we play into their game by saying “let’s talk about human rights in China”. That is precisely what they want to talk about, because it has no economic consequence and it distracts our fruit-fly-like attention span.

You cannot win when the other guy says “do what I want or I’ll torture this puppy” when he has 1.2 billion puppies to torture. You cannot win this game. We say that we do not negotiate with terrorists, pirates or hostage-takers because it only encourages them. And yet we have spent decades negotiating with the Chinese about taking their own people hostage.

American diplomacy in China should be one note: trade, and then trade, followed by trade. Not DPRK, not the Spratley’s, not weapons systems or satellites, not Iran, not Africa and certainly not Chinese human rights.

And we can also play their own nefarious games. Don’t bloviate about trade because it is a waste of time; just take hostages. Accuse them of  WTO violations, impose countervailing tariffs and antidumping duties. When they complain, close the Bank of China in New York for two months for foreign exchange irregularities and money laundering. When they complain about that, expel 500 “diplomats”, 1,000 “students” and 5,000 “businessmen” for spying. When they complain about that, turn off all of their satellites for 12 hours by “mistake”. Have the longshoremen close our Pacific ports (like they’re doing already). There is no end to the ways that we can harass China.

I am not up on the legislative activity on China, but I do know that Senators Lieberman, Schumer and Graham periodically introduce punitive legislation in connection with “currency manipulation” which they always allow themselves to be persuaded to withdraw. Passing their bill  (25% tariff) would certainly be a start. This should not be a partisan issue.

France can't afford Francois Hollande

The people of France will choose their next president on May 12th. 

While presidential elections are always important in France (because the right/left policy divide is so pronounced), this time it is particularly consequential. France will be choosing between market credibility and “social justice”. 

Sarkozy, on the right, represents the policy of fiscal austerity and bond market credibility, while Hollande offers greater social welfare spending and confiscatory taxes on “the rich”. There is nothing new about such a debate, and normally this election would be business as usual.

But it isn’t business as usual, because of France’s decision in 1999 to ditch the franc and adopt a foreign currency, the euro. France has committed what economists call “original sin”: she has financed her national debt in foreign currency. Like a Latin American country in 1982 or an Asian country in 1997, she has placed herself at the mercy of foreign creditors.

France sacrificed her monetary sovereignty to get greater European unity. Now, instead of worrying about the external price of the franc, she must worry about the attractiveness of her debt to eurobond investors. A weak currency is a problem; unmarketable debt is a catastrophe.

If, in the midst of the euro crisis, the people of France demonstrate that they prefer more social welfare to bond market credibility, they will soon have neither. The consensus view among the punditocracy is that either candidate will have to pursue austerity and that, should Hollande take a step down the socialist road, the markets will push him back.

But markets have memories, and once a new yield plateau is set for French bonds, it could prove quite difficult to convince the market that France = Germany as a credit. Should the people elect Hollande, at this conjuncture in history, no rational investor would ever again view France as the same as Germany. (Even the German socialists are austere.)

So, as a thought experiment, let’s think about what it would mean for the world if France became a “story credit”, a name that appeals to some investors’ tastes but not others. First of all, it would be bad news for the rest of Club Med, since they are even worse credits. It would make it harder for Portugal, Spain and Italy to market their debt. it would probably force Europe and the IMF to rescue Portugal and Spain. No one can rescue Italy (too big), and the cost of rescuing the entire Club Med (France, Italy, Spain and Portugal) staggers the mind.

There is only one way to avoid a Second Great Depression, and that is for each member of Club Med to do its part in building bond market confidence, and for the ECB to do its part as the lender of last resort. At present, the signals coming from the borrowers are mixed, and the ECB continues to engage in metaphysical debates about its mandate. Germany and the Bundesbank continue to insist upon austerity from all eurozone members.

We are looking at a multi-piece orchestra in which each player must be flawless. For France, of all European countries, to be the one that blows the false note, would be a very negative event. We’ll know in a couple of weeks.

Final terms of the Greek bailout

Below is the partial text of the statement issued by the Eurogroup concerning the conditions required of Greece in order to obtain its second bailout. As you will see, this document is unprecedented in the modern era in its degree of intrusiveness. It reads very much like a document handed by a victorious government to a defeated one, providing “terms” for surrender.

In essence, Greece has been placed in receivership, with the Eurogroup Task Force acting as receiver. Greece is requited to change laws, to admit “observers”, to submit its finances to external inspection, to give priority to debt servicing over all other uses of revenue, and to change its constitution in order to enshrine this priority in perpetuity.

It is hoped that such Draconian terms will be sufficient to persuade the parliaments of the Northern League (Germany, Finland, Netherlands) to pass the bailout legislation.

This document will only have curiosity value a year from now, when it has long been forgotten by everyone involved. But it is worth reading now, nonetheless.

Greece must achieve the ambitious but realistic fiscal consolidation targets so as to return to a primary surplus as from 2013, carry out fully the privatisation plans and implement the bold structural reform agenda, in both the labour market and product and service markets, in order to promote competitiveness, employment and sustainable growth.

To this end, we deem essential a further strengthening of Greece's institutional capacity. We therefore invite the Commission to significantly strengthen its Task Force for Greece, in particular through an enhanced and permanent presence on the ground in Greece, in order to bolster its capacity to provide and coordinate technical assistance.

Euro area Member States stand ready to provide experts to be integrated into the Task Force. The Eurogroup also welcomes the stronger on site-monitoring capacity by the Commission to work in close and continuous cooperation with the Greek government in order to assist the Troika in assessing the conformity of measures that will be taken by the Greek government, thereby ensuring the timely and full implementation of the programme.

The Eurogroup also welcomes Greece's intention to put in place a mechanism that allows better tracing and monitoring of the official borrowing and internally-generated funds destined to service Greece's debt by, under monitoring of the troika, paying an amount corresponding to the coming quarter's debt service directly to a segregated account of Greece's paying agent.

Finally, the Eurogroup in this context welcomes the intention of the Greek authorities to introduce over the next two months in the Greek legal framework a provision ensuring that priority is granted to debt servicing payments. This provision will be introduced in the Greek constitution as soon as possible.

Greece is standing on the trap-door

The media is filled with stories about the coming Greek depression, supposedly unprecedented in the modern era. This would come as news to millions of central and eastern Europeans who lived through the painful transition from communism to capitalism only twenty years ago.

What sets Greece apart is not the degree of economic adjustment required to resume growth, which is certainly less than was required in eastern Europe. What distinguishes Greece is the degree of mental adjustment required. Unlike the eastern Europeans, the Greek people have no desire to make the transition from socialism to capitalism. This transition is being forced upon the Greek electorate by Greece’s total loss of credit market access. Greece’s credit cards are maxed out and it needs to find a real job making things that foreigners will pay for, not subsidize.

It is instructive to observe the Greek public reaction to national bankruptcy. Anger, disbelief, bargaining, denial, and, of course!, destructive rioting. No comprehension that the government has run out of money, only loud demands for “social justice”. Not one politician is advocating structural reform on the lines of what Poland implemented in the nineties. They seem to think that there is an alternative to radical change.

Either Greece will accept and implement the austere terms of the EU bailout, or the government will be unable to pay its bills next month. Either way, the Greeks will be forced to change their way of life, and pronto.

Greece is currently running twin fiscal and current account deficits of 10%, which are being financed by the ECB (via the banks). One year from now, perforce, both of these numbers will be zero (excluding foreign charity). Greece’s budget and current account will both be balanced, because it will have no one left to borrow from. The ECB window will be closed by then.

This adjustment will occur because of a collapse in aggregate demand. (The adjustment will necessitate a collapse in aggregate demand.) Government, businesses and households will be forced to reduce spending due to “hard budget constraints”. The prices of domestic nontradables will fall, especially real estate values which will probably fall by 90%. (There will be no privatizations in the absence of a legal system). Wages not controlled by the government or labor contracts will fall as the safety net is removed and the necessities of life force people to emigrate or find work. Unemployment will approach 40%, while unemployment benefits are reduced or eliminated. The defense budget will be cut, with the obvious implications for domestic stability: it is hard to fire colonels in countries like Greece.

What I have outlined is not a risk; it is a certainty.

One would have to believe that such an object lesson would be a major blow to European social democracy and a boost for austerity-minded politicians such as Merkel, Sarkozy, Monti, and Cameron. It will be interesting to see which comes first: Greek collapse or the French presidential election. If Hollande wins, he will have a memorable presidency.

Germany plays with Greece

If you believe what you read in the paper, Europe is on the verge of yet another Greek rescue package intended to prevent default next month when EUR ~14 billion in Greek government bonds become due.

The deal has the following elements:

1. Greece (all parties) agrees to an austerity diktat issued by the Eurogroup (formerly known as the Troika). The parties must sign and parliament must pass enabling legislation this weekend. No dawdling this time.

2. Private-sector bondholders agree to a debt swap in which they receive worthless paper in exchange for worthless paper with a higher fictitious face value. All bondolders must agree or else holdouts will be forced to exchange, resulting in an involuntary default. This deal has been “almost done” for weeks. The deadline is Monday.

3. The Eurogroup will lend Greece either EUR 130 or 145 billion in order to keep it afloat for the rest of 2012 (if you believe in the Easter Bunny).

The psychology here is interesting. The Germans are in an emotionally conflicted position. Bailing out Greece is a small price to pay for European financial stability. But the whole exercise sticks in the German craw, especially since the Greeks will sign anything and do nothing. One part of the German mind wants to get the bailout over with and move on, while the other part wants to push the Greeks over the cliff and watch their well-deserved demise.

This conflict is visible in the prescriptive language of the diktat. The exasperated tone is reminiscent of Austria’s ultimatum to Serbia in 1914 (another case of German frustration with the crafty Balkan mentality). It is a kind of Prussian wishlist of Greek good government reforms, with a utopian flavor:

* A reduction of 22 percent to the minimum wage, currently at 751 euros per month gross, with an additional 10 percent reduction to the basic salary for young people aged under 25.
* A freeze on the minimum wage of three years.
* A freeze on all salary raises until the unemployment level is reduced from its current 19 percent to under 10 percent.
* A reduction in the pensions of employees of state companies OTE telecoms and Public Power Corporation by 15 percent, as well as of seamen by 7 percent.
* Placing in the labor reserve scheme 15,000 state employees by the end of 2012, with the target of reducing general government employment by 150,000 by the end of 2015.
* The reduction from six months to three of the period over which collective sectoral labor agreements continue to be in effect after their expiration. If a new labor agreement is not drawn up in this period, the sector in question will be bound by the basic national standard, without, however, forfeiting benefits for years of service, job hazard, children and education.
* Collective sectoral agreements will have a limited duration of three years, while existing contracts with a 24-month duration will expire in one year from now.
* A reduction in contributions to the IKA Social Security Foundation of 2 percent effective immediately, and an additional 3 percent in 2013.
* A review by end-June of the special salary status of judicial employees, state doctors, diplomats, and police and military personnel.
* The sale by end-June of scheduled share packages in the following state-owned companies: Public Gas Corporation (DEPA), gas distributor DESFA, Hellenic Petroleum (ELPE), betting agency OPAP, the Attica and Thessaloniki water and sewerage companies (EYDAP and EYATH), and the International Broadcasting Center.
* The abolition of permanency for employees at state-owned companies and banks.
* The restriction of tax exemptions, simplification of the value added tax and property tax structure.
* The closure of 200 tax offices across the country by the end of the year.
* The hiring of 1,000 more tax auditors, to bring their total number by the end of April to 2,000.
* Eliminating the extension of payment terms for overdue taxes and social security contributions.
* A further reduction in military spending by 0.15 percent of GDP.
* The recapitalization of Greek banks through common shares with limited voting rights and through contingent convertible bonds.

Quite a list, no? All that’s missing are German gendarmes stationed at Greek customs posts. Does the list bear any relation to Greece’s future budgetary policy? No.


None of this will happen. The Greeks know this and the Germans know this. But it is intended to provide sufficient political cover for the Bundestag to pass the bailout legislation, which Merkel's coalition will ensure.

The bailout will go through and the Greek saga will last a bit longer. To the extent that any aspects of the diktat are implemented in fact, we will have more ITV footage of the usual riots, etc. I would not expect the Papademos government to fall, because the parties and the army want to have nothing to do with these measures. The parties want to return after the explosion, not before.

Clowns at play

Is there anything that the EU could have done or could yet do to make the euro crisis worse?

• Begin by stating that an obviously insolvent Greece is actually just fine and those who disagree don’t understand Europe;
• When Greece can no longer borrow in the market, admit that it has a temporary problem that can be fixed by a touch of austerity plus a generous portion of Brussels happy talk;
• Concede that, in addition to pinch of austerity, Greece may need substantial official loans to finance its huge deficits “until it regains market credibility”;
• Make sure that such loans are small, late, and contingent on ever-tighter austerity targets;
• “Restore” market confidence by asserting that default by a eurozone member is unthinkable and that such bonds are risk-free;
• Announce that any further bailouts must include partial bond default (“private sector involvement”) and that no one should have ever seen them as risk-free;
• When Italian and Spanish yields rise to junk-bond levels, announce that future bailouts will not require public sector involvement, adding that neither Italy nor Spain actually require bailouts;
• As eurozone government bond pricing becomes increasingly affected by market-access and credit-risk concerns, denounce market participants who raise these issues;
• As eurozone government bond prices steadily fall, invent accounting schemes that prevent eurozone banks from having to show mark-to-market losses

Which brings us to the latest, and most humorous development: the assault upon the rating agencies for beginning to reflect in their ratings the scale of the stresses facing eurozone governments and banks.

There are three prongs to this assault:
1. Accusations of incompetence, irresponsibility, and “foreign influence”;
2. Another attempt to create a “European” rating agency to counter the malign anglosaxonism of the Big Three; and
3. The push for regulations to prohibit the publication of irresponsible and/or disruptive ratings.

The first prong (jawboning) is the usual Brussels Orewellianism, which market participants ignore. The second (a European rating agency) is a 25-year old chestnut that has reared its head many times. The idea is that a tame house-agency would produce different market outcomes than the current system. A good analogy is that by controlling the weather bureau one can control the weather. It also ignores the continued existence of the Big Three and their uncontrolled opinions.

The third prong, ratings blackouts, would reduce market disruption during periods of sovereign stress:

“Some members of the [European] parliament are in favour of banning publication of negative ratings," Wolf Klinz, a German Liberal member of the European Parliament said. "Some of the socialists and conservatives say it's a good thing to have the option to ban the publishing of ratings if they do come at the wrong moment," Klinz told Reuters.
The original blackout proposal was intended to cover only publication of negative ratings of countries receiving bailouts. But some politicians could now go further and ask for publication to be banned if it comes at an 'awkward' moment for the country concerned.  (Reuters, 2/17/12)

This is the option that I find most humorous. I very much doubt that this proposal will ever actually be implemented, but I wish that it would be, as an object lesson in market behavior.

The idea is that, when a country is in negotiations for a bailout or is otherwise under stress, the EU would promulgate a decree temporarily banning the publication of any rating opinion on the country. Thus, the agencies would issue press releases stating:

The government bond rating of France has been temporarily suspended in accordance with the EU’s blackout order. Until such time as the blackout period is lifted, we will have no rating opinion with respect to France’s government bonds.

During the blackout, French bonds would, by law, be unrated by any recognized agency. Since many institutional investors are not permitted by their clients’ guidelines to hold unrated bonds, the blackout directive would cause market chaos.

I do not mean to imply that the EU has exhausted its options with respect to further exacerbating the euro crisis. Within the next month, as the Greek bond default negotiations proceed and as Italy seeks to issue billions in bonds, we will entertained with many more such gaffes, blunders and magic tricks.