“SuperFed” to the Rescue…But for How Long?

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The world’s major central banks have come together to shore up eurozone bank finances.

The major European banks have been promised enough dollar liquidity to last until the end of the year.

So eurozone banks have a 3 month reprieve.

The Federal Reserve, via the European Central Bank (ECB) and other foreign central banks…

Has agreed to currency swaps with major banks to guarantee dollar liquidity for the strained economies of Europe.

Eurozone still in danger

Those economies include not just the weak peripheral eurozone countries, but the core eurozone nation of France.

This is--I suppose--the good news…

Financial stocks have rebounded from their lows…

And the stock market indices are up for two days in a row.

But let’s be honest, there is a huge problem…

And that is, the debt crisis is not going to go away.

It will still be there in January, 2012.

The emergence of the “SuperFed” actually shows that the crisis was not being solved…

It is a symptom how big the problem is, not a solution to the problem.

Remember, the main debt problems were in Greece…

And then it was probably Portugal, too…

But both of those crises could be handled by the ECB…

As long as Italy and Spain didn’t have any problems…

But then, they did.

Then it was the PIIGS countries as whole, with Italy, Spain and Ireland all having problems with their sovereign debts…

And now we know that French banks are wobbly from holding too much of that bad debt…

So the good news is that European banks are safe—for the moment.

But the bad news is that the emergence of the “SuperFed” really means that the debt crisis has effectively spread throughout Europe.

There is real fear that European banks will not be able to access enough dollars because of their frail balance sheets riddled with bad debt…

And that this frailty will spread to other banks around the world.

Not a long term solution

This action by the Fed and other central banks is only a short-term fix for a long term, structural problem…

It cannot be a long term solution…

And it is reasonable to conclude that a Greek default is baked into the calculation…

Interbank lending is very low…

And overnight deposits at the ECB have grown.

Both of these conditions mean that European banks themselves have no confidence in…the European banking system…

Money doesn’t flow as freely; credit tightens, causing less confidence in banks, tightening credit…

And they should know….

Such fear ultimately takes away economic confidence…

And contraction speeds up in the economies, deepening the crisis.

That is why the Fed’s action is so critical, and at the same time, so worrying.

The last time this occurred was in 2008, when the Fed loaned more than $600 billion to foreign central banks…

These measures were meant to be very temporary, but are becoming longer term in nature…

So what does it all mean?

It means that the current financial system in Europe—which includes the euro—is economically unsustainable.

Just as the massive deficit spending in the US is unsustainable…

Both activities give short term relief to structural problems…

Which will have huge political and economic implications.

The emergence of Eurobonds

In much of Europe—Germany to be precise—the idea of bailing out Greece by creating Eurobonds is unpopular with the man on the street…

But is more acceptable to the business community who understand that it would dilute the impact of the debt crisis throughout Europe…

As well as provide a way to pay the banks back, perhaps in full, for the bad debt...

And most likely, reign in over-leveraging by the debt crisis culprits.

There would be other benefits as well, but some real costs, too.

And basic political changes would have to be made.

Because right now, the Eurozone is a monetary union…

But the emergence of a Eurobond would mean the establishment of a fiscal union in the Eurozone.

Too big to fail?

What does this mean?

Well…

As I noted here a few months back…

It means that national budget decisions in all Eurozone countries would be made for them…

Essentially, it would mean a loss of financial decision making at the national level, and would put it at the supra-national level…

This option would be the “Plan B” that George Soros and ECB President Jean-Claude Trichet were discussing over the summer…

And the outlook?

It’s true…

The eurozone debt crisis may well be “solved” by the emergence of a Eurobond structure…

At least in the short-to-medium-term…

But there’s a major long term problem with it…

A Eurobond can really only exist if all eurozone members cede political and fiscal power to the eurozone authority…

This will result in a radical decrease in national sovereignty in eurozone countries.

Fiscal decisions and ultimately political decisions—they are not really separable—would cease to be made at national levels…

But would this be a long term solution?

In theory, it sounds plausible…

Eurobonds would be anchored to the greater financial stability of the Eurozone itself.

In that sense, Eurobonds look like a viable solution, since the spending habits of Greece would be managed by a eurozone authority…

So it would work, right?

I don’t think so, and here’s why…

Cultural differences in peoples and nations will still persist.

People and nations are different from one another.

That is called diversity…

And even though on paper it may make sense, cultural ways of life and historical suspicions and grievances will not simply go away.

Peoples and nations have differing viewpoints on how to live and fiscal priorities that cover all areas of life and politics.

The poorer nations will begrudge richer nations telling them what to do via their greater economic clout…

And richer nations will resent having to “carry” the poorer ones year after year…

Look at the riots in Athens right now, at the thought of Germany telling them how to run their country…

But, in the near future, I think that some form of Eurobond—and European fiscal and political integration will probably occur…

Which will really mean exchanging today’s debt and currency crises for tomorrow’s political crises…

And when that happens, the European “Union” will have become…

Too big not to fail.

And those are…The Gorrie Details.

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