Friday, April 30, 2010

TBTF Hits the Euro Zone - Acropolis Now

I am close to canceling my subscription to The Economist. Today's leader (not yet online) calls for swift and decisive action to bail out the Greeks despite their obstinate refusal to do anything about the root cause of their massive (115% of GDP) debt. I am typing the money quote (can't link it yet):
What then is to be done? The mounting crisis - and the fact that Greece will almost certainly not pay everybody back on time - will renew some calls to abandon it. That would spell chaos for Greece, European banks and other European countries: the effect would indeed be Lehman-like. hence the necessity, even at this stage, of a show of financial force, linked to the construction of a stronger firewall between Greece and Europe's other shaky countries. The priority for European policy-makers is to do the same as governments eventually did with the banks: to get ahead of the crisis and to convince investors that they will spend whatever is necessary.
In other words, invoke To Big Too Fail, again. The leader goes on to argue that for the Germans, this is not an act of charity, but of self interest. I say hogwash, because the crisis is that of moral hazard. Unless some nation or some large bank is allowed to fail and suffer the consequences, we are doomed to permanent bailouts. The Greeks to date have refused to take any significant action that would prevent a recurrence of their current predicament. KT is again spot on with today's analysis:

Greece has borrowed money until they can't service their debts. Also, they aren't competitive in the world market - their wages are too high relative to what they have to sell. You can tell this because they have huge trade imbalances. Greece is insolvent - that is, it's not that they need a loan to carry them through bad times, it's that they don't make enough money to make their loan payments. Bailing them out now will just sign you up for another bailout later.
Here in America we see this thinking in the supposed financial reform introduced by that paragon of fiscal rectitude, Chris Dodd. Dean points out the institutionalization of TBTF in the U.S bill in his excellent recap of the Heritage Foundation analysis. A snippet:
Creates a protected class of “too big to fail” firms. Section 113 of the bill establishes a “Financial Stability Oversight Council,” charged with identifying firms that would “pose a threat to the financial security of the United States if they encounter “material financial distress.” These firms would be subject to enhanced regulation. However, such a designation would also signal to the marketplace that these firms are too important to be allowed to fail and, perversely, allow them to take on undue risk.
When are we going to get it. The bailouts just keep coming because .... we just keep doing bailouts. STOP!

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