"Relief from hot weather. Bathing at Rock Creek Park, Washington, D.C."
Ilargi: It's often hard to define with precision when the beginning of an end is reached. In many instances, and certainly in the case of the Euro and its zone, it's really inconsequential. The only thing that truly counts is that after yesterday's contortionist €159 billion Greek bail-out 2.0, there is no way back to a healthy currency, or an economically viable region to use it in, for that matter.
But the markets are up, you say! Yes, of course they are, because they were just handed access, in the form of a "reformed" European Financial Stability Facility (EFSF) to potentially trillions of euros worth of European taxpayers' money. And even though they're well aware that it's all just temporary, for today - and maybe tomorrow- their profits are guaranteed. So of course they're up. For now.
There's no serious investor, however, who’ll dive in for the long, or even the medium, term. The message that emanates from the hastily broken vows and neglected solemn pledges by the major players in Europe does nothing to restore confidence in either Greece, Ireland or Portugal. In fact, it does the exact opposite. If there had been any chance at all that Greece could have paid off its debts, the terms of the present deal would not be what they are. What it all spells, going forward, is increasing volatility. Which suits the most savvy players just fine, thank you.
Europe is, of -financial- necessity, sliding towards a fiscal and subsequent political union (and yesterday was a big step). A union that has zero chance of being accepted by its members. That is how we recognize that this is the beginning of the end. Without the extended powers of the EFSF, an outright Greek default would have been unavoidable. With the revamped facility, there can be a few more months (or is it even just weeks?) of pretending. And then, German, Dutch and/or Finnish voters will hammer it down.
It's still nothing but the same old same old: a severe bout of insolvency that is being treated as if it were as simple case of illiquidity. All bail-outs on both sides of the Atlantic carry this signature. And for good reason: they deal with bankrupt entities, banks in the one instance, countries in the other. Whatever the differences may be, that common feature trumps them all.
The markets -represented where the PIIGS are concerned by the bond vigilantes- are kept satisfied for a vanishingly fleeting moment, and everyone prays the quiet will last. But then it never does. The PIIGS are bankrupt. They will never be able to pay back their debts, and it makes little difference whether these are public or private. There's so much blood in the -Mediterranean- waters (and the Irish Sea) that the sharks are certain to remain where they are, restlessly swimming. There's simply too much money to be made.
The changes to the EFSF are presented by the big kahunas as tokens of strength and solidarity. But they're just a charade. Everybody knows the truth; at least everybody who plays at the big kahuna table, while the ones who don't know are forced to pick up the bill. After all, as Simon Jenkins writes in the Guardian: "Power always wins, so long as it can get someone else to pay".
The US has its own contorted compromise. Bernie Saunders, Senator for Vermont, writes: The first top-to-bottom audit of the Federal Reserve uncovered eye-popping new details about how the U.S. provided a whopping $16 trillion in secret loans to bail out American and foreign banks and businesses during the worst economic crisis since the Great Depression. Not even the EFSF will get that far anytime soon. we may presume.
It's somewhat funny that both sides of Congress and the Senate, as well as the White House, have now spent months rolling over the floors, jockeying for election position in the debate over the debt ceiling. Which, though incomprehensibly large as it already is supposed to become, is nevertheless still smaller than just the secret loans the Federal Reserve has handed out over the past few years alone.
Contorted, convoluted, con artists. They're gutting our futures, and those of our children. We elected -most of- these fine folk. And it's up to us to get rid of them.
Greece to default as EU agrees €159 billion bailout
by Louise Armitstead and Bruno Waterfield - Telegraph
Greece set to lead the eurozone's first-ever default as deal paves way for economic integration.
• Private lenders to contribute €37bn to second Greek bail-out
• Deal paves way for European monetary Fund and economic integration
• Debt interest rates cut for Greece, Ireland and Portugal• Equity and debt markets rise on back of historic deal
• 'We now have a programme and a package of decisions which create a sustainable path for Greece’ - Greek prime minister George Papandreou
Greece is set to lead the eurozone's first-ever default as European leaders agreed that the private holders of Greek debt will take a hit of €106bn (£93.5bn) over eight years. Breaking weeks of deadlock, the heads of the 17 eurozone governments conceded that a "controlled" failure was the only way to prevent the collapse of the single currency and a global financial rout.
As part of the deal Greece will also receive another bailout package - from Europe, the International Monetary Fund and the private sector - worth €109bn. The second bail-out, which follows the €110bn rescue funds agreed last May, will cut Greece’s debt by a quarter. The private sector will provide €49.6bn via a variety of measures in the next three years including a €12.6bn debt buy-back programme. The fresh rescue attempt has been agreed to "decisively improve the debt sustainability and refinancing profile of Greece".
In a bid to prevent the contagion seeping out across Europe, Brussels was granted radical new economic powers that pave the way for far greater economic union between members.
The eurozone's bailout fund, the European Financial Stability Facility (EFSF), was boosted with unprecendented powers of intervention and fundraising. The leaders also agreed to new governance commitments which Nicolas Sarkozy said would lead to greater economic integration. Experts described the deal as a "significant step towards financial integration in Europe".
Releasing the agreement on Thursday night, Herman Van Rompuy, president of the European Council, said: "I am glad to announce that we found a common response to the crisis situation. We improved Greek debt sustainability, we took measures to stop the risk of contagion and finally we committed to improve the eurozone's crisis management."
In Brussels, the governments insisted that Greece was "a uniquely grave situation in the Euro area". In the draft agreement, the 17 leaders agreed that "all other euro countries solemnly reaffirm their inflexible determination" not to default.
However, the leaders moved to stand behind other indebted countries, too. The interest rates charged by the EFSF to the bailed-out countries – Greece, Ireland and Portugal – is set to be lowered to around 3.5pc. The draft document also repeated the commitment of Italy and Spain to lower their deficits while pledging that "Member States will provide backstops to banks as appropriate".
The markets reacted with relief that the deadlock that has paralysed the crisis talks looked set to be broken. Stock markets across Europe rose - some to their highest level for two weeks. In the UK, the FTSE100 rose 0.8pc and the FTSE Eurofirst 300 index was up 1.3pc. The euro was up more than 1pc and rose as high as $1.4401 as traders said that the agreement "took the heat off the ECB for the moment". In the credit markets, the yields on Italian, Spanish and Greek bonds declined sharply.
In Brussels, officials insisted that "all sides" in the crisis talks in Brussels had to concede ground.
The draft document also included agreements to:
- Boost economic growth in Greece, with the deployment of "structural funds" under a European "Marshall Plan". The members said they would "mobilize all resources necessary in order to provide exceptional technical assistance to help Greece implement its reforms".
- To stem the contagion the leaders agreed to lower the interest rates of the loans to the other bailed-out countries of Portugal and Ireland, too.
- For the future, the leaders said they would "commit to introduce legally binding national fiscal frameworks as foreseen in the fiscal frameworks directive by the end of 2012". They will also press ahead with a single European credit rating agency.
In the City there were fears that Britain could suffer from being excluded from tighter union in Europe. But Chancellor George Osborne said: "I think we have to accept that greater eurozone integration is necessary to make the single currency work and that is very much in our national interest…We should be prepared to let that happen."
Last night, while traders waded through the document, experts warned that the agreement would only provide temporary relief. Raoul Ruparel of Open Europe said: "Eurozone leaders have still failed to address the underlying problem of Greek solvency."
Fitch warns Greece of 'selective default'
by David Oakley - FT
Greece faces default after the European Union’s second bail-out for Athens as it includes making bondholders assume part of the cost, Fitch said on Friday. The ratings agency said it would reduce Greece as an issuer of bonds to "restricted default" should plans to roll over debt or implement debt swaps go ahead.
Fitch cut Greece’s rating to triple C on July 13, one of the lowest levels of junk bond status. The programme "of financial support for Greece, as described in the Institute for International Finance proposal issued at the summit will, in Fitch’s opinion, constitute an event of ‘restricted default’," the rating agency said.
"According to the IIF [Institute of International Finance], the proposed debt exchange implies a 20 percent net present value loss for banks and other holders of Greek government debt."
Greek two-year yields tumbled 768 basis points to 26.13 per cent, the biggest decline since the EU and the International Monetary Fund created a €750bn fund to backstop the eurozone in May 2010.
The Greek package agreed on Thursday will consist of €109bn from the euro region and the IMF, while financial institutions will contribute €50bn after agreeing to a series of bond exchanges and buybacks that will also cut Greece’s debt load.
Fitch’s move is a restricted default, in that Greek bonds will not necessarily be downgraded to default, only the country as an issuer.
Monetary union, always unworkable, has set in train a European disaster
by Simon Jenkins - Guardian
The eurozone is edging closer to doomed fiscal union. But sceptics shouldn't celebrate, as the chaos will reach Britain too
At last, a real crisis. The Franco-German salvage operation for the eurozone was inevitable for the simple reason that Armageddon never happens. Nicolas Sarkozy and Angela Merkel patched together yet another "temporary" bail-out for the Greeks, and will do so for the Portuguese and Irish if need be. German taxpayers will pay the Greeks' bills and aid Europe's banks as they continue to profit from 20% interest on their sovereign loans. Power always wins, so long as it can get someone else to pay.
A more intriguing crisis erupts in Britain. The chancellor, George Osborne, showed impressive cynicism in abandoning his opposition to a "two-speed" Europe and demanding that the eurozone move swiftly to fiscal union – with Britain firmly outside. Only such a union, he said, would discipline the debtor nations and thus avoid bank anarchy that would spill over into the British economy. Britain would have no part in any rescue, but it relied on the eurozone to continue on its path to ever closer union.
Cynical Osborne may be, but he is right in his historical analysis. The latest Greek bailout is the moment when continental Europe finds itself forced to transmogrify from a loose federation into a brittle unitary state. If European politics starts to implode and return to xenophobia, manned borders, ethnic cleansings and trade boycotts, that start is now. This is a true turning point.
From the earliest days of European union after the second world war, such a point was the greatest danger. As long as national currencies could move flexibly in a climate of free trade, Europe's extraordinarily diverse political economy could enjoy a "variable geometry". The safety valve of devaluation allowed countries to adjust over time. Their distinctive autonomies and political cultures could survive.
That safety valve is now turning off. Huge subsidies must flow from high-performing to low-performing countries within the eurozone to pay government bills, support projects and finance sovereign debts. In their wake come bureaucratic intervention and fiscal discipline. This means harmonised taxes, harmonised enforcement, harmonised regulation and harmonised government, only distantly accountable to electorates. Once monetary union was introduced, back in 1999, the rest had to follow.
Gordon Brown's greatest gift to the British nation was to face down Tony Blair in 2001-02 and stop him joining the euro. Blair regarded anything anti-European as "hopelessly, absurdly out of date and unrealistic … a kind of post-empire delusion". The euro was to be the culmination of his plan for European supremacy. Brown stopped it. The epitaph on this particular spat is Blair's brief and dismissive reference to the euro in his memoir, as if he was never really in favour. It is a bizarre rewriting of history.
Only a fool could want Europe to return to the divisive feuds and nationalist horrors of the 19th and early-20th centuries. Any student of the Balkans knows that such horrors are never far below the surface. But a monetary union that denies nations the freedom to breathe and adjust their economies in their own way over time runs just this risk of regressive reaction.
Each step towards "ever-closer union" has brought reaction nearer. The Single European Act of 1986 was necessary to police free trade, but the Maastricht and Lisbon treaties put in place the architecture of a federal state that has become ever more rigid and ever more unpopular. The single currency bound the politics of Europe with hoops of steel. Osborne wants those hoops to tighten further, to trap the 17 eurozone countries in a realm of unaccountable federalism, a fiscal rigidity that he must know will eventually snap.
The test will be to destruction. Something must be done to get the Greeks to pay their taxes or the Germans will refuse to pay their subsidies. As Osborne says, eurobonds are needed that would require Germany to stand behind southern states' debts, but this will mean southern states accepting a "German-designed economic policy". Brussels must fix taxation and public spending targets on weaker euro states or bank defaults will wreck Europe's shaky economic equilibrium. Yet already attempts in Brussels to impose uniform corporation tax are tottering. How can a true fiscal union hold?
We have already seen the demands of the Franco-German axis and the IMF furiously resented by ailing countries. The Greeks are rebelling in their humiliation, and the Germans are rebelling in their generosity. Across Europe the old pro-EU consensus is evaporating. The Slovakians have declined to join the euro bailout, accused by the EU commission of a "breach of solidarity", words reminiscent of the old Soviet Union.
The latest Euro-barometer of public opinion shows for the first time that overall distrust of the EU outstrips trust, predominantly so in Britain, Germany and France. Polls show ever fewer countries regarding membership as a good thing, with opposition strongest the farther north we go. It is ominous that the politics of euroscepticism is fusing along old historical lines. When the EU was a sound trading union it was backed in Protestant northern Europe. As it slid into institutional orthodoxy and heavy cross-border transfers, its appeal shifted to the Counter-Reformation south. The high-flown language of Valéry Giscard d'Estaing's first draft of the Lisbon treaty was that of a papal encyclical.
As before the Reformation, the taxing of northern Europe to sustain the subsidies and debts of mother church lasted awhile, but it could not last for ever. German taxpayers may bail out the Greeks, because half the Greeks' debts are to foreign banks. But these taxpayers will not also bail out the Portuguese, the Spaniards and the Italians. The attempted revival of the Holy Roman Empire is doomed. Luther's theses will soon be nailed to the doors not of Wittenberg but of the Berlaymont palace in Brussels.
"Ever closer union" was always a dangerous fantasy, a top-down imperialism forged in the over-fed minds of the cardinals of a pan-European faith. It thought it could deny political reality. Its hubris lay in a belief that somehow monetary union could leave national identity untouched, that a corrupt European parliament could offer democratic accountability enough. Now the good times are over, that accountability cannot validate the awful disciplines that must be imposed on debtor nations.
Vigorous domestic democracy is the one strength of Europe's postwar states. Distant discipline will not wash. Ever closer union falls squarely into the historian Barbara Tuchman's definition of a grand historical folly, "a policy demonstrably unworkable" and widely known as such at the time. It was a policy pursued by Europe's leaders, like so many follies before, as "a love-child of power".
The attempt to impose fiscal union on all Europe will bring its demise. But where Osborne and his brand of scepticism are wrong is in so obviously willing this demise. When monetary union reaches breaking point and unravels in an orgy of xenophobia, Britain will not be immune from the chaos. The pocket Napoleons who embarked on this venture may meet their Waterloo. But Britain's economy is unlikely to escape the carnage.
Eurozone leaders draw up radical plan to safeguard euro
by Ian Traynor - Guardian
Draft agreement at emergency summit provides for vast expansion in the role and powers of eurozone bailout fund
European leaders are poised to take a quantum leap to safeguard the future of the euro and rescue Greece from insolvency by turning the eurozone's 15-month-old bailout fund into a much more ambitious instrument resembling an embryonic European monetary fund. The deal being hatched at an emergency summit of eurozone leaders also looked certain to entail haircuts – losses – for Athens' private investors, increasing the likelihood that Greece will become the first eurozone country deemed to be in some form of default on its sovereign debt.
A 15-point draft agreement being negotiated provided for a vast expansion in the role and powers of the €440bn bailout fund established in May last year. If finally agreed, the package would be the biggest eurozone move since it created the bailout fund, following months of acrimony and dithering that prompted bitter criticism of EU leaders, particularly Chancellor Angela Merkel of Germany.
Currently the fund can only be used as a last resort to rescue a eurozone country whose plight jeopardises the stability of the euro as a whole. Under the radical plan, the fund would be able to intervene on the secondary markets to buy up the bonds of struggling debtor countries, to take pre-emptive or "precautionary" action to nip a debt crisis in the bud by, for example, agreeing lines of credit, to supply loans to struggling eurozone countries which would then use the money to shore up and recapitalise their banks. Such aid would apply, unlike at present, to countries not already in bailout programmes.
The transformation of the bailout fund was directed not so much at Greece as at containing the threat of contagion to other vulnerable eurozone countries, an attempt to curb market uncertainty over the fate of the euro.
If agreed, the rules governing the use of the bailout fund would need to be rewritten, throwing up political problems mainly in Germany and the Netherlands. Senior German government sources, however, said the new regime was acceptable to Merkel who would push it through the German parliament.
As part of a new three-year rescue package for Greece, the summit appeared willing to countenance an effective Greek default, however temporarily and however "selectively" in order to satisfy German, Dutch and Finnish insistence that the country's private creditors had to bear some of the costs of the new bailout by taking losses on their investments.
The draft statement did not put a figure on the investors' losses, but said: "The financial sector has indicated its willingness to support Greece on a voluntary basis through a menu of options (bond exchange, roll-over, and buyback) at lending conditions comparable to public support with credit enhancement."
In an attempt to satisfy the financial markets and the credit ratings agencies that there was no prospect of investors having to take losses elsewhere in the eurozone, the draft agreement said: "As far as our general approach to private sector involvement in the euro area is concerned, we would like to make it clear that Greece is in a uniquely grave situation. This is the reason it requires an exceptional solution."
Senior German and French bankers briefed the leaders on the various models for private sector involvement, proposing haircuts of around €17bn in a second rescue package worth €88bn, with eurozone governments and the International Monetary Fund supplying the other €71bn. German government sources indicated the creditors were writing off 20% of their investments. The €17bn losses, said a paper from the banks obtained by Reuters, "would almost certainly result in Greece entering selective default".
Senior eurozone government sources agreed that a Greek default looked inevitable, but that the summit was prepared to take that risk in defiance of warnings from the European Central Bank. Sources said eurozone leaders believed the default would last no longer than two months.
The Dutch government said that objections to accepting selective default, mainly from the ECB, had been overcome. Jean-Claude Trichet, the ECB chief, has warned that the bank will no longer keep Greek banks afloat by supplying liquidity for defaulted bond collateral. That role would probably shift, at least temporarily, to the eurozone bailout fund.
German government sources said they had received assurances from the international ratings agencies that they would not rush to judgment in declaring a Greek default but would take their time in studying whatever finally emerged and for it to impact on Greece's private creditors.
The eurozone loans would be provided at interest rates of 3.5%, two points lower than currently, while the maturity of loans to Greece would be more than doubled to at least 15 years. There was also good news for Ireland and Portugal whose borrowing costs for their eurozone bailouts would also fall to 3.5%. As well as bailout funds, on top of the €110bn granted to Greece last year, the blueprint was also expected to entail a buyback of Greek bonds.
Taken together, the lower borrowing costs, longer maturities, investor losses, buyback and bailout money were all aimed at reducing Greece's debt burden of €340bn, making the debt sustainable and improving the prospects of Greek economic and financial recovery. On estimates from the European Commission, the package could cut Greece's debt levels by €90bn.
Irish bailout costs to fall by €800 million annually as EU deal agreed
by Arthur Beesley and Derek Scally - Irish Times
The annual cost of Ireland’s international bailout will drop by up to €800 million after euro zone leaders agreed a larger cut than anticipated in the interest rate on rescue loans.
As Taoiseach Enda Kenny declared the conflict with France over corporate tax to be at an end, he said a reduction in the interest rate came without strings attached. "It’s over, c’est fini ," Mr Kenny said in reference to the dispute with French president Nicolas Sarkozy over corporate tax. "I had a very cordial conversation with the French president," he told reporters.
"There is absolutely no change in our position in this regard and the matters that you mention were never even raised at the meeting in any shape or form." However, the Government has reiterated commitments already made to engage constructively in discussions with its EU partners on proposals to introduce a common consolidated corporate tax base in Europe.
The deal to cut the interest rate came during the course of a 10-hour emergency summit at which euro zone leaders agreed to provide a second international bailout to Greece. The €109 billion package for Greece was agreed in the expectation that private creditors will provide an additional €37 billion to the rescue effort on a voluntary basis. This will be funded by euro zone countries, the proceeds of privatisations and the anticipated €12.6 billion benefit of a debt buyback programme.
"What we spend for Europe on this we will get back many times over. It’s an investment for the good of our country and people," said German chancellor Angela Merkel, who has been criticised for the pace of her response to the Greek crisis.
The deal embraces the possibility of a "selective default" being declared on Greek debt, something the European Central Bank resisted for months. However, euro zone leaders have resolved to provide guarantees over any Greek debt which is subject to a default rating. "We are engaged in a voluntary, not compulsory engagement of the private sector, as in line with our original message," ECB chief Jean-Claude Trichet said. "I don’t think the experts who have looked at this consider what has been done would trigger a credit event. We said ‘no’. We continue to say we don’t see that on the cards."
The summit was hastily arranged last week as the sovereign debt crisis threatened to engulf Spain and Italy as Europe sought to avert the spread of contagion from the Greek crisis. "There’s definitely a collective determination driven by a desire to keep things together," said IMF managing director Christine Lagarde.
The reforms will see the annual interest rate on Ireland’s bailout cut by some 2 percentage points to about 3.5 per cent, leading Mr Kenny to predict that the annual benefit to Ireland will be between €600 million and €800 million.
For months, the debate on Ireland’s rate centred on a 1 percentage point reduction. Euro zone leaders have also agreed to expand the powers of the European Financial Stability Facility, giving it scope to extend the maturity of its loan programme and intervene in secondary bond markets to facilitate bond buyback programmes. Mr Kenny said it was now open to the Government to consider using the fund for those purposes.
The Government will press in separate talks with all 27 member states to cut the interest rate on loans issued by European Financial Stability Mechanism, a fund operated by the EU Commission, by a similar amount. Diplomats also said the Government will seek a cut in the cost of Ireland’s bilateral loans from Britain, Denmark and Sweden.
Mr Kenny said the rate cut will underpin Ireland’s debt sustainability, investor confidence and the recovery of the economy. He warned, however, that Ireland still had a "massive" deficit to bridge and that there would no impact on the scale of the austerity measures looming in the 2012 budget. "This won’t have an impact on the budget from that point of view but it will ease the debt burden on Ireland and a saving to the taxpayer," he said.
Siptu president Jack O'Connor said the revised bailout terms would mean nothing unless the Government used the opportunity to promote economic growth and jobs. IMF chief Christine Lagarde is said to have provided strong backing at the meeting for the principle of an Irish rate cut, as did EU Commission chief José Manuel Barroso.
The eurozone’s seminal moment?
by Gavyn Davies - FT
The European summit on Thursday has resulted in a belated, but still impressive, step towards a resolution of the sovereign debt crisis. The measures were clearly more significant than the markets expected, but at the same time they have fallen short of a once-and-for-all resolution of Europe’s debt problem. Several key compromises have been made, notably between the German government and the European Central Bank, and these have removed some previously immovable obstacles to progress.
The institutional plumbing is therefore now in place to resolve the crisis completely. But this still leaves one crucial question: how much money will be sent down the pipes? On that, the summit offered no new guidance.
On February 23, 2009, with pessimism reaching new heights about the sub prime debt crisis, the US authorities unconditionally guaranteed that no systemically important bank would be allowed to fail. In retrospect, that was the moment when a critical corner was turned in the global banking crisis, even though that was not recognised very clearly at the time. Does the eurozone Summit of July 21 represent an equally seminal moment?
In one sense, it does. Since the peripheral debt crisis started in the spring of 2010, the deteriorating situations first in Greece, then in Ireland, then in Portugal, have hugely undermined financial confidence throughout the eurozone. Widening bond spreads have been a signal of financial stress, and have made the solvency problems of the indebted countries worse. For the three most troubled economies, the decisions of the summit should eliminate this negative feedback loop.
The eurozone is now formally committed to filling the Greek financing gap for as long as its government adheres to its budget consolidation programme. Following the "voluntary" default on private debt, almost all of the Greek government’s remaining debts have been taken into official hands.
In the case of Ireland and Portugal, the situation is less clear cut. The eurozone is committed to continue providing financial support until they regain market access, provided they adhere to their budget programmes. These countries "solemnly reaffirm their inflexible determination to honour fully their own individual sovereign signatures", so they are still responsible for standing behind all of the debt they have issued to the private sector up to now. The Greek situation is, rather unconvincingly, described by the heads of government as "exceptional and unique".
So how can problems still arise for the three most troubled economies? In the case of Greece, it could happen because the government fails to stick to the budget tightening which has been agreed. The eurozone would then either have to provide more money, or the Greek government would default on its official debt and possibly leave the euro. That clearly remains a possibility.
For Ireland and Portugal, there is plenty of debt left in private hands, and markets have seen what happens when a sovereign nation reaches the limit of its financing ability – ie sovereign default. But for as long as these two countries remain inside the programme, they will be able to refinance their debt as it falls due, at low interest rates from the European Financial Stability Facility. This means that the markets cannot make the solvency position of these countries any worse by raising bond yields.
Like Greece, these two countries might still be ultimately insolvent, but only if the pain of their budget tightening proves too much to bear inside the euro. This greatly reduces the scope for financial crises stemming from the three most troubled economies, at least for as long as the EFSF has sufficient money to refinance Irish and Portuguese debts. Since it probably does have that money, that represents a major change in the situation.
And we should note in passing that if the EFSF issues bonds to absorb all of this debt, it amounts to a very large issuance of Eurobonds to bail out the troubled economies, which is exactly what Angela Merkel, German chancellor, said she would not do.
What about Spain and Italy? We have known for some time that, as things stand, the EFSF emphatically does not have enough money to deal with these countries. However, the Summit does allow the EFSF to act in advance of these countries needing to enter a financial programme, and to provide more capital if the banking sectors of these countries should need it. As the economist Willem Buiter has said, this means that the EFSF now has a superior gun, but the same amount of ammunition as before.
Until the amount of ammunition is increased, the existential threats to the eurozone stemming from Spain and Italy have not been removed. Sooner or later, the eurozone will have to increase the resources available to the EFSF very substantially, or the markets will once again call its bluff. It will be interesting to see whether any guidance is given on this question after the meeting of eurogroup finance ministers on Sunday.
One last, and more fundamental, thought. The statement by the US authorities on 23 February 2009 effectively ended the financial market panic connected to the sub prime crisis, but it certainly did nothing to end the long term economic problems caused by that crisis. The US is still dealing with them. Similarly, even if the European summit of July 21 has ended the financial crisis in the eurozone, which is debatable, its longer term economic problems remain.
These problems revolve around inadequate GDP growth in many eurozone economies. Paul Krugman correctly reminds us of the scale of the fiscal tightening they now face. On top of that, the Summit may lead to a stronger euro, and may induce the ECB to tighten monetary policy further. That combination does not sound like a great recipe for strong economic growth.
Mrs Merkel said on Wednesday that the summit would represent a big advance, but that there would still be much more work to be done. She’s right.
Greece pledges no let-up on debt, deeper restructuring seen
by Ingrid Melander and Steve Slater - Reuters
- Greek finance minister says no room for let-up on austerity
- Second bailout to reduce Greek debt by 24 pct of GDP
- Temporary Greek default now appears likely
- Analysts question no expansion of rescue fund's size
Greece said a second bailout had bought it breathing space and pledged no let-up in its drive to cut a still-mountainous debt which economists expect to force a deeper restructuring in the future.
An emergency summit of leaders of the 17-nation currency area agreed a second rescue package on Thursday with an extra 109 billion euros ($157 billion) of government money, plus a contribution by private sector bondholders estimated to total as much as 50 billion euros by mid-2014.
The leaders also made detailed provisions for limiting the damage if, as seems likely, credit rating agencies declare Greece to be in temporary default -- the first such event in the 12-year history of the euro. "There is a great breath of relief for the Greek economy and this will gradually pass on to the real economy," Greek Finance Minister Evangelos Venizelos told reporters on Friday. "But by no means, does this mean we can relax our efforts."
Doubts remain about whether the plan went far enough to assure not only Greece's debt sustainability but that of Ireland, Portugal and other debt-burdened nations. The package yielded "more than expected but not enough to make us sleep comfortably", Barclays economists said. They were disappointed that European leaders did not agree to expand a euro zone rescue fund.
Among other steps, the leaders agreed on Thursday to ease terms on bailout loans to Greece, Ireland and Portugal; maturities will be extended to 15 years from 7.5 and interest cut to around 3.5 percent from 4.5-5.8 percent now. But if market conditions deteriorate and a larger European economy -- Italy, for example -- struggles to shoulder its debt burden, the rescue fund could be quickly wiped out.
French President Nicolas Sarkozy said measures agreed at the summit, the fifth this year on the crisis, would reduce Greece's debt by 24 percentage points of gross domestic product from about 150 percent today. That still leaves a colossal debt for an economy deep in recession which does not have the option of a competitive devaluation. What is more, the figures are based on what analysts say are optimistic projections for growth and returns from a sweeping privatisation programme.
"Our estimates suggest that Greek debt/GDP ratios will fall around 25 percentage points over 5 years as a result of these measures but will still be a whopping 120 percent in 2016 even assuming that the full 50 billion euros of privatisation measures are implemented," analysts at JP Morgan said in a note. "We therefore believe that spreads will widen again as short covering dissipates and reality sinks in."
The euro brushed close to a two-week high, prices for Greek, Irish and Portuguese bonds jumped and the cost of insuring their debt tumbled on Friday. But traders said expectations of a larger restructuring down the road were undimmed. The European leaders' promise of a "Marshall Plan" of European public investment to help revive the Greek economy, may help, though details were thin.
The ratings agencies may come out at any time with their likely verdict of default since banks and insurers are likely to write down the value of Greek bonds by around 20 percent, with more losses maybe to follow. "We have long thought that the most likely outcome for Greek bondholders would be that they would take a small haircut first followed by a larger one at a later date. To give Greece a fighting chance they probably need a write down close to 65 percent," said Gary Jenkins, head of fixed income research at Evolution.
Under the bailout of Greece, which supplements a 110 billion euro rescue plan by the European Union and the International Monetary Fund in May last year, banks and insurers will voluntarily swap their Greek bonds for longer maturities at lower interest rates to help Athens.
The region's rescue fund, the European Financial Stability Facility, will be allowed to buy bonds in the secondary market if the ECB deems that necessary to fight the crisis. It can also for the first time give states precautionary credit lines before they are shut out of credit markets, and lend governments money to recapitalise banks -- both moves which Germany blocked earlier this year.
The expanded EFSF role is designed to prevent bigger euro zone states such as Spain and Italy from being excluded from markets because of fears of a weaker country defaulting. The Institute of International Finance, which led talks for the private sector, said their actions would help reduce Greece's 340 billion euro debt pile by 13.5 billion euros.
Derivatives body ISDA told Reuters that the plan would not trigger a "credit event" and payment of credit default swaps contracts -- a form of insurance against default -- because it was voluntary.
The summit accord was based on a common position crafted by German Chancellor Angela Merkel and Sarkozy in late night talks in Berlin on Wednesday with ECB President Jean-Claude Trichet. The ECB relented and signalled it was willing to let Greece default temporarily under the plan, although Trichet told reporters he did not want to prejudge whether that would occur.
Thursday's summit is unlikely to mark a quick or complete resolution of the crisis, however, as Merkel herself acknowledged earlier this week. Many economists believe the only way out of the euro zone's debt crisis in the long run may be closer integration of national fiscal policies -- for example, a joint euro zone guarantee for countries' bonds, or issuance of a joint euro zone bond to finance all countries. Germany has opposed this.
Sarkozy, at least, is looking to more sweeping reforms. He said France and Germany would make proposals by the end of August on how to improve the governance of the bloc, to "clarify our vision of the future of the euro zone". "We have agreed to create the beginnings of a European Monetary Fund," he said of the EFSF's new powers.
Europe steps up to the plate
by Ambrose Evans-Pritchard - Telegraph
Europe's leaders have grasped the nettle. Faced with a spiralling bond crisis in Italy and Spain and the greatest threat to the EU project for 50 years, they have ripped up their bail-out strategy and taken a large stride towards a "liability union".
The three rescued countries of Greece, Ireland and Portugal have in turn been offered a lifeline out of crippling debt-deflation. The tetchy negotiations dragged on for hours, with an irascible Finland at one point demanding that Greece offer the Parthenon, the Acropolis and its islands as collateral for the second €110bn (£97bn) rescue package.
France and its allies abandoned their long struggle to prevent a Greek default, opening the way for the first sovereign insolvency in Western Europe since the Second World War. Objections from the European Central Bank were swept aside. Germany has obtained its fig leaf concession: burden-sharing for bankers.
As a quid pro quo, Germany has dropped its vehement opposition to debt sharing and crossed the line in the sand towards fiscal federalism. It has agreed to turn the eurozone's €440bn bail-out fund (EFSF) into what amounts to a European Monetary Fund, and arguably into an EU Treasury in embryo. The EFSF will be allowed to "intervene in the secondary markets". It may fund "recapitalisation of financial institutions through loans to governments including in non programme countries", code for Italy and Spain. The full weight of the German-led creditor bloc will stand behind south Europe's banking system.
The wording lets the EFSF intervene pre-emptively to cap Spanish and Italian bond yields, whatever the cost of moral hazard. These countries can therefore piggy-back on the AAA credit rating of the EMU core. This was the crucial measure needed to calm nerves after 10-year Italian and Spanish yields punched through the systemic danger line of 6pc last week.
Global markets surged as the details of the EU statement leaked. Credit default swaps measuring bond risk on Ireland and Portugal saw the biggest one-day fall on record. Commission chief Jose Manuel Barroso said politicians and markets had finally "come together" for the first time since the crisis began.
Chancellor Angela Merkel said the goal was to "go to the root of the problems", but she may not find it easy to secure political assent for such sweeping concessions from her own parliament. The accord is a spectacular volte-face. Her mantra until now has always been that "collectivisation of risks" would be a grave error.
The terms overstep a resolution passed by the Bundestag limiting how far she could go in committing Germany to any form of transfer union or pooling of debts. The use of the EFSF as a fiscal fund without treaty authority further complicates a ruling by the German constitutional court on the legality of the bail-outs expected in September. Such changes to the EFSF will require ratification by each of the EU's 27 parliaments. It may require an amendment to the Treaties, greatly raising the bar in Germany.
EU officials hope that a debt rollover plan for Greece can be limited to a short technical default. The ECB has backed down on its threat to reject Greek bonds as collateral. The formula will not be extended to Portugal and Ireland. It is understood that rating agencies will hold fire for the sake of global stability. However, there is no disguising that a major taboo has been broken, even if French leader Nicolas Sarkozy continued to insist that Greece would pay "all its debts". Florian Toncar, deputy chief of the Free Democrats (FDP) in Mrs Merkel's coalition said it was "unthinkable that a state in default could remain in monetary union".
The summit deal will extend the maturity of EFSF loans from seven years to 15 years and slash the penal rate of interest to 3.5pc for Greece, Ireland and Portugal, nearer the fund's own cost of borrowing. Greece currently pays 5pc and Ireland pays 5.8pc. The interest relief brings the EU strategy closer into line with IMF packages, which offset harsh austerity with an easing of the debt burden to allow countries to claw their way back to viability.
The mix of lower rates and a debt restructuring of up to €120bn for Greece changes the outlook dramatically. The EU medicine of austerity without any reflief over the past 18 months has clearly failed. It has taken the country to the brink of civil disorder and caused the debt trajectory to spiral towards 160pc of GDP. The communique called for a "Marshall Plan" to bring the Greek economy back to life. "Greece is in a uniquely grave situation in the Euro area. It requires an exceptional solution," said the draft.
Questions abound. The EFSF is not yet big enough to handle the threat facing southern Europe. "To be credible, the EFSF needs to be proportional to the scale of contagion: we think €2 trillion is needed," said Silvio Preuzzi at RBS. "We are not yet ready to say this is the full stop that ends the crisis." Europe's economic recovery is sputtering out.
Markit's PMI surveys for the eurozone in July showed a preciptious fall to a 23-month low, with "deeper contraction" in the southern bloc. Howard Archer from IHS Global Insight said eurozone growth is "in serious danger of grinding to a halt".
The risk is that Spain and even Italy tip back into recession, with knock-on effects for their debt trajectories. The root of Europe's debt crisis is the gap that has built up over 15 years between North and South, which itself reflects the disparate characters of these countries. This economic chasm cannot be bridged by bail-out funds or loans guarantees.
by Felix Salmon - Reuters
The latest Greek bailout is done — the official statement is here — and it involves Greece going into “selective default,” which is, yes, a kind of default.
I can’t remember a major financial story which has been covered so inadequately by the financial press. All the incomprehensible eurospeak seems to have worked, along with the fact that the deal was announced in Brussels, where the general level of journalistic financial literacy is substantially lower than it is in London or New York or Frankfurt. On top of that, statements are coming from so many different directions — Eurocrats, heads of state, the Institute of International Finance, Greek officials, Portuguese and Irish officials, you name it — that it’s extremely hard to put it all together into one coherent whole.
Oh, and to complicate things even further, most of the day’s discussion was based on various widely-disseminated draft documents which differed substantially from the final statement.
This is a bail-in as well as a bail-out: while Greece is getting the €109 billion it needs to cover its fiscal deficit, both the official sector and the private sector are going to take losses on their loans to the country.
As such, it sets at least two hugely important precedents. Firstly, eurozone countries will be allowed to default on their debt. Secondly, a whole new financing architecture is being built for Greece; French president Nicolas Sarkozy called it “the beginnings of a European Monetary Fund.”
The nature of massive precedent-setting international financing deals is that they never happen only once. There’s lots of talk today that this deal is for Greece and for Greece only, but some of the more explicit language to that effect was excised from the final statement. On thing is for sure: these tools will be used again, in future. They will be used again in Greece, since this deal is not enough on its own to bring Greece into solvency; and they will be used in other countries on Europe’s periphery too, with Portugal and/or Ireland probably coming next.
As far as the public sector is concerned, the European Union will do four main things. First, it will extend the maturities on Greece’s debt from the current 7.5 years to somewhere between 15 years and 30 years: the loans that the EU is currently giving Greece aren’t designed to be repaid, in some instances, until 2041.
Second, the interest rate on those loans will be extremely low — essentially, Greece is getting those EU funds at cost, currently about 3.5%. The EU is also extending these ultra-low financing rates to Portugal and Ireland, so as not to implicitly punish countries which don’t default.
Third, the EU will put together its own stimulus plan for Greece. The phrase “Marshall Plan” was taken out of the final statement, but there’s still talk of “mobilizing EU funds” and building “a comprehensive strategy for growth and investment.” This is vague, of course, but it does at least constitute an attempt to help Greece through a period of very painful austerity.
Fourth, the Maastricht treaty will get resuscitated, with all eurozone countries except Greece, Ireland and Portugal committing to bring their deficit down to less than 3% of GDP by 2013. Paul Krugman is screaming about this, but this was a central part of the eurozone project from the get-go, and clearly the eurozone needs some kind of fiscal straitjacket for its constituent members to prevent the rest of them from running up enormous deficits and then getting bailed out by Germany.
Finally, the EU will provide “credit enhancement” for Greece’s private-sector bonds. This is a central part of the default plan, and it looks a lot like the Brady plan of the late 1980s. The official statement from the IIF, which is representing private-sector creditors in this matter, is a little vague, but essentially if you’re a holder of Greek bonds right now, you have three choices.
- You can do nothing, and hope that Greece pays you in full and on time.
- You can extend your maturities out to 30 years, and accept a modest coupon of 4.5%; in return, your principal will be guaranteed with an embedded zero-coupon bond from an impeccable triple-A-rated EU institution, probably the EFSF.
- You can extend your maturities out to 30 years, take a 20% haircut, and get a higher coupon of 6.42%; again, the principal is guaranteed with zero-coupon collateral.
- You can extend your maturities out to 15 years, take a 20% haircut, get a coupon of 5.9%, and have only a partial principal guarantee through funds held in an escrow account.
The first option is by far the most interesting. No one has come out and said that Greece is going to default on bondholders who don’t exchange their bonds; instead, there’s just a lot of arm-twisting of big banks to do all this “voluntarily.” But that won’t stop the credit rating agencies giving Greece’s bonds a default rating — this is a coercive deal, which clearly reduces the value of banks’ Greek debt. (After all, just look at those haircuts.)
Is it possible for other bondholders — those who haven’t had their arms twisted — to free-ride on the back of this deal and continue to get paid in full? I suspect that it probably is. Which is one reason why this Greek restructuring won’t be the last.
Overall, this looks like a deal which can quite easily be scaled up and used as a framework for future default/restructurings. I don’t know if that’s the intent. But there’s nothing here to reassure holders of Portuguese and Irish bonds — or even Spanish and Italian bonds, for that matter — that they’re home safe. Greece will be the first EU country to default on its debt. But I doubt it’ll be the last.
A boxer who has thrown all his best punches?
by Nils Pratley - Guardian
Markets applauded Thursday's eurozone master-plan, or at least the early sight of it. But don't get carried away. If investors had been awed, the yields on Italian and Spanish debt would have fallen further. On the Italian front, the cost of 10-year borrowing still stands at 5.35% – almost exactly halfway between the just-about-comfortable rate of 4.8% that prevailed in the early months of this year and the call-an-emergency-summit rate of 6% that was seen in the past fortnight. The market, we might say, is saying the eurozone debt crisis is only half solved.
That looks a fair judgment until we have seen the beefed-up European financial stability facility (EFSF) in action and how often it is called upon to perform its new tricks. Establishing the EFSF's ability to act beyond the shores of Greece, Portugal and Ireland is clearly a sensible, and important, move. In principle, the fund should now be able to leap into action if those Spanish and Italian yields threaten to run away – so a sudden, destabilising crisis should be less of a danger in future. And the EFSF will now also be able to recapitalise banks; again, that's an interesting new weapon.
But how big does the EFSF have to be to lower permanently the cost of borrowing for Italy and Spain, and so give those economies a breather? The expanded size of the facility was still unknown at 7pm last night. But even €1.5tn might not be enough if Italian and Spanish bond yields resume their rise and if the EFSF is obliged to buy ever-greater quantities of those countries' IOUs (that's assuming all the member states agree to such a policy – no guarantees there).
How could that risk materialise? If those economies fail to show the longed-for growth over the next few years, and if their debt-to-GDP ratios remain stubbornly high. In that case, even a heavyweight EFSF might start to resemble a boxer who has thrown all his best punches but still can't put his man down. At that point, eurozone leaders would have to embrace the policy they worked so hard to avoid on Thursday – issuance of commonly guaranteed euro bonds.
Bond swap plan is for Greece and Greece only
by Quentin Peel and Patrick Jenkins - FT
Private creditor participation in Greece’s latest rescue programme will be very strictly limited to the Greek crisis and will be specifically excluded as a model for any other eurozone country in financial difficulties.
A proposal for bond swaps for all Greek government debt falling due for repayment up to the end of 2019 has emerged as the central element in the scheme, although the eurozone governments now accept that such a plan would almost inevitably trigger a "selective default" declaration by credit rating agencies.
Agreement on a very strict definition limiting the bondholder participation to Greece was reached by France and Germany on Wednesday night in order to reassure Jean-Claude-Trichet, president of the European Central Bank, enough to relax his outright hostility to any scheme that might prompt such a selective default.
According to the officials, any declaration of default would only be triggered when the bonds were actually exchanged and could be limited to "a very few days". If the declaration were then rescinded, the ECB would be able to resume accepting Greek debt as collateral for providing liquidity to the Greek banks that are the principal private creditors.
Bondholders will have a choice between four options – three bond exchange plans which would take place at a fixed point in the coming months, and one rollover plan which would involve an investor agreeing to reinvest a maturing instrument in a new bond.
The first exchange plan and the rollover would flip existing paper into new 30-year bonds at par value and with interest rates beginning at 4 per cent and rising in 0.5 percentage point increments during the first 10 years to 5.5 per cent. The other two exchange plans – one for 15 years and the other for 30 – would pay higher coupons of 5.9-6.8 per cent as compensation for taking an upfront 20 per cent "haircut" on the value of the bond.
The plan will be backed by an obligation on Greece to reinvest a portion of receipts from the rolled-over or exchanged financing in European AAA bonds, which would act as collateral against default. On average investors would take a 21 per cent hit in the net present value of their current bondholdings.
Although the schemes will be voluntary, the eurozone governments are hoping for a high response from bondholders, with up to 90 per cent participating. A variety of "credit enhancements" to provide an incentive for participation are under discussion, including forms of providing collateral other than a Greek government guarantee to ensure repayment.
The Institute of International Finance, which put the plan together, has signed up support from 30 leading investors including BNP Paribas and Société Générale in France and Germany’s Deutsche Bank and Allianz, the insurer. The IIF said it was targeting a participation rate in the programme of 90 per cent, which would contribute €54bn from mid-2011 to mid-2014 and a total of €135 bn during the period to 2020.
The banks say their participation will also "improve significantly the maturity profile of Greece’s debt", increasing average maturity from six to 11 years. However, the IIF figures put the private sector contribution much higher than the €37bn estimated by the eurozone leaders for the 2011-14 period, and €106bn for the whole of 2011-19. When they include a further €12.6bn to come from bond buy-backs, they put the contribution for the next three years at almost €50bn.
Josef Ackermann, chief executive of Deutsche Bank and IIF chairman, said: "We believe that taken together with the intention of the EU to improve the terms of its financial assistance to Greece, the recently strengthened economic reform program of the Greek government and the additional support of the IMF, this offer can contribute substantially to improving the competitiveness of the Greek economy."
Charles Dallara, managing director of the IIF, added, "With this offer, the global investor community is stepping forward in recognition of the unique challenges facing Greece."
Europe’s biggest banks and insurance companies – the main holders of Greek sovereign debt – have spent the past month trying to find consensus among themselves over how best to take a degree of private-sector responsibility for Greece’s woes. The banks, co-ordinated by the IIF set up a series of meetings – most of them in Rome and Paris – to reconcile their differences, and by early this week they had a compromise plan.
An original French plan to roll over Greek debt maturing between now and 2014 into new 30-year paper and a German-backed proposal for a one-off seven-year maturity transformation both appeared excessively soft on the banks and, with a proposed interest rate of up to 8 per cent on the new debt, excessively tough on the Greeks.
Franco-German axis loses its wheels
by Ambrose Evans-Pritchard - Telegraph
French President Nicolas Sarkozy has swooped into Berlin to secure a "clear, clean and precise response" from Chancellor Angela Merkel to the dramatic crisis engulfing the eurozone. He is unlikely to get one.
French and German leaders typically meet on the eve of crucial EU summits to reach a pact that can be imposed as a fait accompli on their peers. In doing so, they reinforce the Franco-German axis that has been the driving force of Europe’s Project, and leverage their combined power. But this time the chemistry is particularly sulphurous. The Chancellor has not disguised her irritation at being bounced into a summit that she never wanted, and which looks to many Germans like an attempt to ensnare the country in an EU fiscal union and limitless bail-outs.
Germany is still transfering €60bn (£53bn) annually to East Germany 20 years after the fall of the Berlin Wall. No German parliament can agree to any EU formula that might implicitly entail the same ruinous obligation towards non-German countries with eight times the population.
Few dispute that Europe faces extreme danger as the bond markets of Italy and Spain start to buckle. "Nobody should be under any illusion: The situation is very serious", said Commission chief Jose Manuel Barroso. "It requires a response, otherwise the negative consequences will be felt in all corners of Europe and beyond."
But what response? The Franco-German couple do not even agree on the now secondary matter of haircuts for creditors to Greece. Berlin wants explicit punishment of the banks, even if this triggers a Greek default: Paris has laboured day and night to find a default-free solution, fearing a euro-Lehman crisis if Europe starts down that slippery slope.
They are even further apart on the larger issue that overshadows this summit: whether to take the fateful step towards an EU debt union in order to defend Spain and Italy from fully-fledged contagion.
This could be done by issuing eurobonds, or allowing the eurozone’s €440bn bail-out fund to buy Italian and Spanish bonds preemptively, or – the latest favourite of EU sherpas – use of IMF-style flexible credit lines for stronger countries facing turbulence. In effect, this would create a European Monetary Fund. But who pays?
Whatever Mrs Merkel’s preference, she can stray only so far from constraints imposed by the Bundesbank, the Bundestag, her own coalition partners and public opinion. Her popularity rating has already fallen to 36pc, the lowest in five years, chiefly because of her perceived willingness to bend to EU demands.
Otmar Issing, the European Central Bank’s first chief economist and EMU’s most iconic figure, has made it very hard for the Chancellor to justify any of the key options on the table. "The issuance of eurobonds amounts to financial power without democratic legitimacy. We must not forget that Western democracy began through parliamentary control over tax and public spending," he told the Frankfurter Allgemeine, though he might equally have been speaking to the German consitutional court as it prepares to rule on the legality of the EU bail-outs.
Dr Issing said politicians who hope to save EMU by creating eurobonds or other variants "are digging the grave of stable euro", adding that if Greece were allowed to stay in the euro after defaulting it would destroy monetary union.
With such critics speaking out, it may prove hard or even impossible for Mrs Merkel to secure German political assent for any form of transfer union or debt sharing, whatever she promises at Thursday’s summit.
Both eurobonds and the use of the EFSF for mass bond purchases would require EU treaty changes. These would have to be ratified by 27 parliaments, a very slow process. In Germany’s case it would require a two-thirds majority, inviting a political mutiny . Any attempt to evade the treaty process by legal legerdemain would run afoul of German courts. In any case, the headline sums are becoming frightening. City banks are talking of a rescue fund of €2 trillion to €3.5 trillion.
Helmut Kohl, former German Chancellor and father of the euro, has told friends that Mrs Merkel is pursuing a "very dangerous" policy. "She is ruining my Europe," he said. Yet the assumption that Germany would or could efface itself forever was never tenable. The post-War Rhenish order is withering, and Mr Kohl’s Europe no longer exists. This may be the summit where the 21st Century reality at last becomes obvious.
Eurozone: An elusive debt resolution
by Peter Spiegel - FT
As recently as a month ago, it appeared that a second bail-out of Greece would be a relatively straightforward affair. As with previous rescues cobbled together by the European Union and its lending partner, the International Monetary Fund, staff economists would estimate Athens’ financing hole over the next three years (about €115bn), agree a reform programme with the government and start writing cheques.
But instead, European leaders have been drawn into one of the most agonised debates seen since the eurozone debt crisis erupted nearly two years ago. It has sowed confusion in financial markets and pushed borrowing costs for the third- and fourth-largest eurozone economies – Italy and Spain – to 6 per cent, levels some analysts believe are not sustainable.
The confusion stems from the interlocking, and sometimes conflicting, problems facing European leaders.
Greece’s debt burden – expected to hit 172 per cent of gross domestic product next year – is, for example, so large that it may never get paid. Officials cannot acknowledge this, however, for fear of spooking bondholders into believing default is at hand. Similarly, private investors face political pressure to bear the burden of a new bail-out – but among the largest investors in Greek bonds are Greek banks, which would take huge losses (and need more international aid) if their holdings were cut in value.
"Every time we resolve one issue, two more come up," says a senior European official involved in the deliberations.
The conflicting problems are compounded by conflicting institutions. Almost every participant in the debate – Athens, the European Central Bank, the IMF, the European Commission and national capitals – holds different and sometimes mutually exclusive interests.
The Frankfurt-based ECB, for instance, is responsible for making sure Europe’s banking sector remains solvent. But the sector (as well as the ECB itself) holds vast quantities of peripheral bonds – meaning any undermining of their value could hit their capitalisation levels, limiting their ability to survive a Lehman-like collapse. The German government, on the other hand, under pressure from the Bundestag, wants some of those banks to accept less than they were originally promised for their bond investments.
The result: Frankfurt and Berlin are at – increasingly tetchy – cross purposes. Can the square be circled? Officials say if it was easy to do, it would have been done by now.
There is intense pressure on the Germans and the Dutch to drop their insistence that bondholders pay a price, a stance that has held up an agreement and led to most of the market panic. But Berlin and the Hague argue that without bondholder participation a new deal will not be credible, since it will not lower Greece’s overall debt burden.
Around and around it goes. With just a day to go before an emergency summit in Brussels on Thursday, European officials say they will get a deal done in time. "There needs to be a very clear political agreement on all the elements," says the European official. However, the battle to determine the exact nature of that deal will go right to the wire.
Problem 1: The First Rescue Package Was Not Big Enough
Solution European leaders have agreed in principle to a second
bail-out, needed to fill an estimated €115bn hole in Greece’s budget during the next three years.
The first package was too optimistic, particularly on Athens’ ability to return to financial markets to raise money for government operations. Under the current plan, agreed in May last year, Athens was supposed to raise €10.9bn in long-term loans from the bond market in March 2012, and €44.1bn between mid-2011 and mid-2013. With Greek 10-year bonds currently trading with interest rates above 18 per cent, officials have been forced to accept that this is impossible. More bail-out money is needed to fill the gap.
Players Behind the drive for a new bail-out is the International Monetary Fund, whose rules prevent it disbursing aid to a country without ensuring it has all the cash it needs for the next 12 months.
Dominique Strauss-Kahn’s resignation as IMF chief in May complicated matters. Officials say he had indicated he would be more lenient towards the European Union, and would not require it to quickly agree a new bail-out. But John Lipsky, who as IMF interim head had less political room to manoeuvre, pushed hard for a concrete new plan. George Papandreou, Greek prime minister, formally requested another bail-out late last month.
While the eurozone portion of the current bail-out is funded by loans directly from individual countries, the current and new packages are likely to be combined into a single IMF-EU programme totalling as much as €170bn – with the eurozone contribution coming from the European Financial Stability Facility, the €440bn bail-out fund.
Problem 2: German, Dutch And Finnish Voters Are Against Funding Another Bail-out
Solution Leaders in all three countries have pushed for private holders of Greek bonds, mostly European banks, to shoulder part of a second bail-out. The original idea, proposed by Germany, was to persuade them to accept a delay in repayment on the €85bn worth of debt due in the next three years.
A more detailed version of this plan, again backed by Germany, would offer bondholders the chance to swap current holdings for new bonds not due for another seven years. Despite the "voluntary" nature of the plan, rating agencies threatened to rule it a "selective default", as investors would not receive their full returns and officials would probably rely on coercion to win broad participation.
Attention then shifted to a less onerous French-backed alternative, where banks would agree to invest in new Greek bonds as soon as their holdings matured. But rating agencies ruled that this plan would also constitute a default, which sent negotiators for the EU and the banks back to the drawing board.
Pressure for private bondholder participation has been led by Wolfgang Schäuble, German finance minister, and Jan Kees de Jager, his Dutch counterpart. Both governments have promised their parliaments "significant" and "quantifiable" bondholder commitments, despite pressure from bodies such as the European Central Bank to drop the demand.
Leading negotiator for the banks is Charles Dallara, managing director of the Institute of International Finance. In a policy document given to EU leaders last week, he put the French and German plans on a list of possible tacks to which the banks would agree.
Problem 3: Greek Banks Being Dragged Under By The Debt Crisis May Also Lose Emergency Funding
Solution Highlighting the dual nature of the problem, European officials are working on a two-pronged approach. First, they are trying to tailor the bail-out so that any cut-off of European Central Bank funding would be temporary. They are also discussing plans to inject capital into Greek banks.
The most immediate threat is of a Greek default on its bonds, which would trigger an ECB cut-off. For months Greek banks have relied on the ECB for low-cost loans to run day-to-day operations. But the ECB requires "adequate" collateral – and the banks’ primary form of collateral is Greek bonds, which would be nearly worthless if they were in default. Eurozone officials are looking for ways to conjure up to €20bn in guarantees to enable continued borrowing from the ECB. Alternatively, the ECB may allow the Greek central bank, headed by George Provopoulos, to provide emergency loans.
A default would also probably force international lenders to recapitalise Greek banks as one of their other large sources of capital – Greek debt – would be significantly devalued.
Players Jean-Claude Trichet, ECB president, has driven this debate with his no-default stand. Others on the ECB’s governing council have been yet more adamant, since there are signs Mr Trichet could relent if even one of the major rating agencies decides against declaring default on whichever plan is adopted.
All Greek banks would probably need a capital injection if there were a bond default but those with particularly large holdings include National Bank of Greece, with a total of €12.9bn; EFG Europank, with €8.7bn; and Piraeus, with €8.1bn.
Problem 4: Fears Of A Greek Bond Default Have Led To A Run On Spanish And Italian Bonds
Solution Officials will emphasise that the plan to involve private shareholders in a Greek bail-out is aimed at Athens alone. But it could prove tough to convince investors.
To be fair, some of the panic in Italy is self-inflicted, with prime minister Silvio Berlusconi choosing exactly the wrong moment to pick a public fight with Giulio Tremonti, his respected finance minister. But Spain has been hit hard by "contagion" despite its exemplary implementation of reforms, its spending cuts and the overhaul of its banking system.
The cause of investor concern is the debate over Greece. If European leaders have reached the point at which they are actively considering defaults and debt restructurings for Greece, what is to stop them doing the same for Ireland and Portugal – which have also been bailed out – or for Italy and Spain? Moody’s, the rating agency, stated when it recently downgraded Irish and Portuguese debt that the shift in European attitudes towards defaults was a primary motivator in their decision.
Players Moody’s and the other leading rating agencies, Fitch and Standard & Poor’s, will play a significant role in deciding whether EU efforts to convince markets private bondholder participation is limited to Greece is credible.
Italian and Spanish officials believe they have done as much as they can to reassure investors – including rushing through a €47bn Italian austerity programme in recent days – and are hoping a quick decision on the specifics of a Greek bail-out at the Brussels summit on Thursday will end the assault on their sovereign bonds. Mr Berlusconi’s spat with Mr Tremonti continues to cause concern, however.
Problem 5: Athens’ Debt Burden Is Too Big To Be Paid Off
The overall Greek debt burden stands at €350bn. The most significant new suggestion for reducing it is to use the European Financial Stability Fund to finance a large bond buy-back plan – a scheme that could also be adopted by Ireland and Portugal. Although the EFSF does not have the power to conduct such a plan, it could lend Greece the funds to make the purchases itself.
Because Greek debt currently trades significantly below face value, investors would take a "voluntary" loss when selling their bonds in a buy-back – but would at least receive something for their investment. In return, Athens would retire the bonds and cut its debt burden. As Greek bonds are now trading at about 60 per cent of face value, a €30bn buy-back programme could wipe €50bn off the balance sheet.
Germany, which has long resisted this plan, looks ready to concede. It also looks more conciliatory on another point: lowering the rates Ireland, Portugal and Greece pay on their EFSF bail-out loans. Originally, all bailed-out countries had to pay 300 basis points above the EFSF’s cost of borrowing, a punitive rate meant to discourage bail-outs.
Players Mr Trichet has been pushing to use the EFSF for bond buy-backs, and has supporters within the European Commission, especially Olli Rehn, the EU’s most senior economic official. Mr Rehn, backed by José Manuel Barroso, commission president, is also a prime advocate for lower interest rates.
Angela Merkel, German chancellor, and Mark Rutte, Dutch prime minister, would be making a significant climbdown if they backed the bond-buying scheme since they fiercely resisted it six months ago.
Bob Janjuah’s 3 Words
by Neil Hume - FT
Bob ‘The Bear’ Janjuah has filed his last piece before heading off for his summer hols.
The Nomura man is still forecasting a risk-on melt-up over summer (the S&P 500 into the 1,400s by September, 10-year US Treasury yield at 3.4 per cent, stronger commodity price weaker US dollar etc)
But after that he’s very bearish.
(emphasis Bob’s)Quite clearly I see the shorter-term tactical risk-on phase as also setting up a big and painful risk-off phase over the latter part of 2011 and 2012, as positioning and sentiment clearly need to get more bullish before we can get the kind of market weakness I am forecasting.
At this point it is worth repeating something to those looking for a ‘trigger’ to the risk-off phase. I think it’s as simple as 3 words: Weak Trend Growth.Most policymakers and many in the market are still desperately hanging on to the view that trend growth rates in DM (and EM too) have not been impacted materially as a result of the financial crisis. To me the evidence is clearly ‘in’. The only way DM (and EM) policymakers have been able to deliver even barely acceptable trend growth has been through the use of unsustainable policies which put short-term gains first but which clearly create huge longer term risks to sovereign credit quality and which leave a deeply negative scar in the minds of the private sector, which is attempting to de-lever and which knows it is facing the mother of all tax liabilities going forward. The reality is that absent a private sector debt binge (the private sector is not that stupid) and assuming we are coming to or are at the end of the line with respect to policy, then DM trend growth over the next 3/5 years will be in the 1-1.5% range.This I think is the key. Yes, there is too much debt in the balance sheets of the DM economies, particularly at the sovereign, bank and consumer levels. But if we all had confidence that DM trend growth rates could sustainably be 150/200bps higher than my expectation, then these debts would not be a major issue. However, at the kind of trend growth rates I expect to see, debt is a major problem, as are excessive risk asset values, as well as excessive ‘entitlement’ expectations. Once the market is able to see the limits of policy, and once the market is able to see through the excuses (of ‘soft patches’), then it is inevitable that we see a significant re-price lower of earnings expectations, of incomes, of asset values, and a genuine (rather than hypothetical) acceptance that living standards, especially in the DM economies, are going to be materially lower over the next 5/10 years than current consensus expectations/forecasts. EM economies will also see weaker trend growth, but they in general have strong balance sheets, huge flexibility in taxation and labour markets, and very low levels of entitlement expectations. Hence these (and similarly positioned DM economies) will ‘outperform’.
Greece Threatened with Widespread, Long-Term Poverty
by Manfred Ertel - Spiegel
Greece is tightening its belt -- and the number of people living in poverty is surging as a result. Thousands line up in front of food banks and resort to rifling through rubbish bins. The country's financial crisis is rapidly turning into a social one -- while wealthy tax evaders manage to get off scot-free.
This time, the fight for survival last exactly 29 minutes. At precisely 3 p.m., Father Andreas, a 37-year-old Greek Orthodox priest, opens the doors of the food bank in downtown Athens. At this hour, the line of hungry people stretches all the way across the large square outside and into the street. Needy people of all ages are waiting patiently -- pensioners, unemployed people, mothers with children, immigrants, asylum seekers. "We can't let these people starve," the priest says. "They are already suffering so much. They should at least not go without food."
It is a charitable deed. But in just under half an hour, all of the kitchen's 1,200 servings have been taken, causing several dozen people to leave with empty hands and growling stomachs. They can only hope to be among the lucky ones next time.
Katarina was one of the lucky ones. The 44-year-old got her hands on eight servings of a salad made of carrots, potatoes and peas, several yoghurts and a bag of bread -- the only food her family will have today. Katarina is ashamed and prefers not to give her full name. She and her 7-year-old daughter have to take a bus in from a suburb and travel all the way across the sprawling city just to get a warm meal.
Katarina was laid off from her job at a biscuit factory roughly a year ago. Since then, she's been forced to rely on the handouts paid for by what Father Andreas calls "holy money." Katarina says there are no more jobs to be had. "No one will even pay you to stuff mailboxes with advertisements anymore," she says. "Greece is finished."
Spyros Xaplanteris has been coming to the food bank for a year. His shirt is greasy, his trousers tattered. "I'm driven here by need," he say. The 62-year-old lost his job in the storeroom of a Hilton hotel. "It hurts," he says. "But what am I supposed to do? I'm broke."
For weeks, thousands of enraged Greeks have been holding anti-government demonstrations outside Greece's parliament building. They come with bullhorns and banners, and a couple hundred also bring stones and Molotov cocktails. Camera crews from around the world are always there to film them, but they never turn their lenses toward those in the dark back alleys of central Athens.
In recent weeks, the needs of such people have been keeping Father Andreas and his colleagues very busy. Almost all of the 400 parishes in the Archdiocese of Athens have opened food banks like the one he runs. City officials have opened some as well.
His food bank distributes meals three times at day. Up to 2,000 come at noon, another 1,200 in the afternoon, and about another 1,000 in the evening. The workers try to make sure that they don't always supply the same people. Such vigilance is necessary because "the number of needy is skyrocketing," says one volunteer who estimates that the figure has increased by 30 percent in recent months. "But we can't be sure it will stay there," she says.
Most people who come to the food bank are so hungry that they eat their food right there on the square. They hunker down on benches and walls covered with pigeon droppings and drink water from sprinkler hoses.
Choked to Death by Belt-Tightening
Last week, Prime Minister Georgios Papandreou once again succeeded in getting a majority of Greek lawmakers to push through an austerity and privatization package worth €78 billion ($111 billion). In doing so, he was responding to pressure from the International Monetary Fund (IMF), the European Central Bank (ECB) and the European Commission. Indeed, many economic experts see the package's measures as the only way to fend off an imminent national bankruptcy at the last minute -- and the only way to save the euro from an even worse fate.
But is Papandreou saving his country to death? Savas Robolis thinks he is. "People are afraid," the 65-year-old says -- they're afraid of an uncertain future. Employees are particularly scared because they carry an unfairly high proportion of the tax burden. As a professor of economics and social policy at Athens' Panteion University and director of the Labor Institute of the General Confederation of Greek Workers, Robolis knows what he's talking about.
According to his calculations, roughly 930,000 of Greece's 960,000 registered companies have fewer than five employees. Most of these very small companies are "not very competitive," he says, and primarily focus on providing products and services to the 3.5 million private households in Greece. If household incomes sink, consumer demand will automatically fall as well. As Robolis sees it, this would mean a swift end to these small companies because they don't have enough liquidity to tide them over.
"That's exactly what's happened," Robolis complains. Over the last year, roughly 60,000 of these mini-companies have gone belly up, and he predicts at least as many closings in 2011.
'Deeply Unsettling' Developments
In 2010, the number of jobless in Greece rose by 230,000, to reach 14.8 percent. Given Greece's weak social safety net, unemployment is more or less tantamount to social bankruptcy. For example, unemployment benefits are only available for a year at a monthly rate of less than €500. After that, the state offers practically no assistance. Officials estimate that only about 280,000 of the 800,000 people without jobs are still eligible to claim unemployment benefits. This has resulted in a dramatic rise in the number of homeless people -- by up to 25 percent in Athens alone.
According to official data, unemployment is expected to climb to between 17 percent and 18 percent by the end of 2011, but the true figure could be as high as 23 percent. "That would be 1.2 million jobless people," Robolis says. The last time Greece saw something like this was in 1961, when the introduction of modern farming technology put thousands of agricultural laborers out of work.
At that time, the result was a wave of emigration to places like Germany. Robolis thinks the same thing could happen today -- but with one big difference: The people who left Greece in the 1960s were mostly unskilled workers. Robolis fears that the coming wave could be well-educated individuals with college degrees.
Greece has its tourist attractions and agricultural products. But apart from beaches, olive oil and feta, the economy doesn't have much to offer. As much as 70 percent of of Greece's economic output depends on private consumption, according to a recent study of the Friedrich Ebert Stiftung, a think tank with ties to Germany's center-left Social Democratic Party (SPD).
However, according to the study, in the last quarter of 2010, reductions in salaries and pensions drove consumption down 8.6 percent, retail sales shrank by 12 percent and 65,000 stores had to be shut down. Robolis predicts that, by 2015, when the new austerity measures are scheduled to take full effect, the standard of living for employees and pensioners will be 40 percent lower than it was in 2008. "That is deeply unsettling," he says.
Tax Cheats Have Nothing to Fear
Anxiety over current and future hardships is driving many Greeks into the streets. But while the lines continue to get longer outside food banks, many of the wealthy are getting through the crisis more or less unscathed. The average Greek consumer is now forced to pay the third-highest VAT rate in Europe, the third-highest social insurance contributions and the second-highest fuel taxes.
Two-thirds of Greeks regularly pay their taxes as well. Indeed, "contrary to widespread views," as the Friedrich Ebert Stiftung study put it, these taxes are automatically deducted along with social contributions from the paychecks of Greeks employed in both the private and public sectors. It is mainly the small wealthy class that manages to cheat the authorities out of €40 billion in tax each year. That is the OECD's estimated volume of annual tax evasion. The Greek central bank puts the losses at somewhere between €15 billion and €20 billion.
These tax cheats have little to fear. As Panos Kazakos, an Athens-based professor of politics, puts it: "I have never seen a single person put in jail for tax evasion." Robolis adds that the government, which supposedly has no money available for social services, just published a list of companies that owe the state a total of €9 billion in social contributions -- but it does nothing to get that money.
This injustice is what is making people in Greece so angry. The government has promised to change the system. But Robolis no longer has faith in its pledges. "This situation has been going on for 30 or more years," he complains. "They're just trying to protect themselves with these statements."
all right. welcome now sean egan, you're not a rating agency. they haven't done anything about how moody's and others have compensated. they are in bed with them half the time. then do something that's too late. it's almost a self-fulfilling you can make that argument.
you are the best. you crunch these numbers and you don't care what you come up with, you'll tell people what you come up. let me summarize what you side. compensated by who? institutional investors. they want a higher rating because they want to booster their portfolio. some say they want a lower rating because they gate higher yelled. number one we don't know what our clients hold. even if they slipped through that we know what one client did we don't know all the other clients.
this is what you're saying. portugal, ireland, italy, greece, spain and belgium all aren't growing enough to pay their debt service, all could eventually default. first three definitely. second two, we'll see. and when it finally -- no stopping it because even though these bonds, we're seeing hair cuts you're saying of 30% they deserve hair cuts of 90%. that's correct. in fact that's what's not accepted in the market. six months ago people said no way an eu country can default.
now the next question is what is the loss going to be. we think it will be about 90% in the case of greece and about 70% in italy, and portugal. i'm sorry, ireland and portugal. every bank in europe is a zombie bank and doesn't have enough capital? yes. but then you have to take the additional step of finding out whether or not they will get support from their respective governments. in the case of france the history has been they have back stopped their banks.
in germany it's hard to believe that the german government wouldn't support the deutsche bank. the kcuk is far less unclear. the uk banks? absolutely. then the ecb needs to finally be the last, the lender, right and they don't have enough which makes us the final -- we're going to have to bail -- i don't know who bales us out. china. don't know about that. also in terms of the vulnerable banks the way they will be saved is there's equity which will push down the values of those banks.
even though the banks in france might be back stopped by the republican france the equity values will be depressed. you think that the fed is ultimately the lender of last resort to europe. how does that even work? it's working right now. in a couple of different ways. one is a swap line. okay. i broaden it from the fed to the u.s. government because you have the imf support, swap lines and then you have some back stopping. cbs. really the u.s. government is the only one that can move quickly and enforce to solve this problem.
the eu has 3% or 3.5% capital, okay. that's scary. lehman brothers was at that level. ecb can get additional capital but not quickly. they get it from the central banks. but it takes time to replenish the capital and if you take a reasonable hair cut on their back stopping all the deposits of these, what is it three or four countries buying the debt. buying the debt of italy and other countries. normal hair cuts you look at the capital and say it probably isn't enough. is there anything -- so many plans. let's get them down to 90%, gdp ratio.
numerous plans have been put out most of them politically untenable. anything the european union could do right now to stop this? yes. but they don't have the politico will to do it. what would it be. backstop the ecb. in other words, get about another 100 billion euros of additional capital. it probably isn't enough. it would help. the ecb says we'll backstop the deposits of all the periphery countries. we don't think hats the right way to go, by the way, because there's no market discipline if they do that, but that would help.
basically to stop this problem u-need to have a currency print being entity guaranteeing it. there are some structural difficulties, though, in just printing currencies. there's memories of the wymar republic. they put in some structural stops to prevent just the printing of currency. in the '80s the final solution to latin america debt crisis was the brady bonds. why aren't we looking at doing something like that? that probably will be the eventual solution. however there are significant hair cuts associated with the brady bonds.
the u.s. government took the bonds of the south america, transferred it into bonds backed by the u.s. government, but there's some hair cuts so that banks knew where they stood in terms of capital, took take the chargeoffs and the rest. in europe if the banks took any reasonable chargeoffs it would blow through their capital. bear in mind the european banks aren't starting as much capital as a typical american bank in a don't have a steep yield curve to rebuild the capital. basically if you're a bank you can brother very short and invest in three year treasuries and rebuild your capital fairly quickly.
besides cutting your risk what would someone watching you tell us to do? just a person in the markets. depends on what their position is. you know, hopefully they've lightened up and if they are -- you're suggesting an armageddon here. i don't care how they set up the position. we have to lay out what's a likely scenario. what could go wrong. what could change that. institutions are smart. they can figure it out. the bottom line sue have some structural problems. not just in europe but obviously in the united states. the united states has this debt to gdp is on par with portugal, unfortunately.
do you think, back to geithner interview we just listened to with steve liesman , when push comes to shove do you think treasury geithner will let us default on an interest payment. do we have the cash flow to avoid hat? you want to make a distinction between a default and a delay. in other words -- could a delay in payment be possible? it's possible but that's a red herring. the bigger issue in our opinion is adjusting the debt to gdp. you know, there's basically three problems in the united states. one is that this debt to gdp is 100 or so percent compared to canada which is, you might say a true aaa 359.
second thing is you have a dysfunctional government in, can you view it that way. i'll explain ain't second. there's the baby boomers getting, retiring and increase the entitlement payment. the dysfunctional part we have three undeclared wars. the u.s. government's debt has gone from 8 trillion to 14 trillion over the past five or six years. three events are these undeclared war, two from the debt crisis that hasn't been addressed. we haven't solved what got us in this difficulty to start with. you almost make the case you don't worry about -- the issue is the following.
there are people there are people who conflate us not raising the debt ceiling with some imminent, unwillingness or inability to pay the interest rate, to pay tint on the debt and if that happens it will be armageddon. we're more concerned -- actually we cut the u.s. government's debt rating over the weekend. we are first to put a negative watch. we did it march 1st and cut the u.s. government's debt rating over the weekend. we have to. we're in the business to help protect investors.
hopefully the u.s. gets its act together. the most likely course is that there will be an increase in the debt ceiling. but it doesn't address the major issue and that is getting the be debt to gdp down over time. it doesn't have to happen right away. in fact you're better off setting up the process to let it happen over time. just like raising capital for the bank. now is the wrong time to raise them dramatically because it pulls out all the loans, banks don't lend and you exacerbate the problem. we're looking for good management.
thank you. hope to see you soon.
Questions on Holdings at the Fed
by Siobhan Hughes and Michael S. Derby - Wall Street Journal
The Federal Reserve Bank of New York again is facing scrutiny over stockholdings held by a senior official during the 2008 financial crisis.
Then-New York Fed President Timothy Geithner issued a waiver that allowed William Dudley—executive vice president of the regional Fed bank's markets group—to work on the controversial bailout of American International Group Inc. even though he held shares in the company, according to a congressional audit report released Thursday.
The government has been criticized by legislators, investors and others for ensuring that major Wall Street banks including Goldman Sachs Group Inc., which had significant financial exposure to AIG, were repaid in full. The New York Fed, whose role in buying and selling government securities makes it the most powerful of the Federal Reserve's 12 regional banks, played an important role in shaping Washington's response to the crisis.
The waiver allowed Mr. Dudley, a former Goldman economist who became New York Fed president in January 2009, to also work on issues involving General Electric Co., another company that received U.S. assistance, even though he also held shares in that company. Mr. Geithner now is U.S. Treasury Secretary. A Treasury spokeswoman referred calls to the New York Fed.
All of Mr. Dudley's AIG and GE shares have been sold; the New York Fed didn't disclose additional information on the holdings. In a statement, the New York Fed said Mr. Dudley "volunteered to dispose of the shares at predetermined dates, agreed to by the New York Fed's ethics office." The Fed has yet to update its conflict-of-interest policies to "more fully reflect" potential conflicts that could arise in financial crises, the report found.
The Government Accountability Office said the Fed should consider altering its conflict-of-interest policies, including addressing conflicts related to nonbank institutions that participate in emergency programs. AIG wasn't regulated by the Fed before the bailout, and as a result wasn't covered by existing restrictions on investment holdings. AIG shares lost most of their value when the insurer was bailed out in September 2008 and remain well below precrisis levels. AIG declined to comment.
In a statement accompanying the report, Fed General Counsel Scott Alvarez said the Fed would give the recommendation and others "serious attention" to the extent that the issues hadn't already been addressed.
This isn't the first time the New York Fed has faced potential conflicts over financial holdings. Two years ago, Stephen Friedman resigned as chairman of the New York Fed after The Wall Street Journal reported about his dual role at the Fed and as a Goldman director and shareholder.
The Journal disclosed that Mr. Friedman continued to buy Goldman shares after Goldman converted from an investment bank to a Fed-regulated bank holding company in September 2008, when his status as a Goldman director and shareholder was in violation of Fed policy that bars certain Fed-bank directors from being shareholders, directors or officers of commercial banks. Mr. Friedman, who eventually was granted a Fed waiver on the issue, has said he did nothing wrong.
The GAO report, mandated by the Dodd-Frank law, said the New York Fed's chief ethics officer recommended the waiver in part because selling the stock could have put Mr. Dudley in violation of securities laws because of his access to material, nonpublic information about the companies. The ethics officer also cited the critical role Mr. Dudley played at the Fed and a determination that his holdings didn't exceed a $15,000 level under federal ethics regulations.
The potential conflicts identified in the report reflect the unexpected position the Fed found itself in during the financial crisis, as central bankers were forced to move quickly to rescue a range of private institutions. "The world was changing so quickly and so dramatically, they were not able to catch up" and adjust their internal conflict policies, said Tim Duy, an economist with the University of Oregon. Mr. Duy added that "the real failures" at the Fed came before the crisis, when he said it failed to adequately regulate banks and make sense of what was happening in housing markets.
"No one who works for a firm receiving direct financial assistance from the Fed should be allowed to sit on the Fed's board of directors or be employed by the Fed," Sen. Bernie Sanders (I. Vt.) said in a statement. Mr. Sanders had asked for the report, which was mandated by the Dodd-Frank financial-overhaul law.
Mr. Dudley's waiver was granted Sept. 19, 2008, three days after the Federal Reserve Board authorized the New York Fed to help AIG. Other employees were also granted waivers during the crisis, although some were required to sell their holdings, the report found. Without a waiver, "employees were prohibited from working on an emergency program while holding investments that would be affected by their participation in matters concerning those programs," the report said, citing staff from the New York Fed. The GAO report also found the Fed's regional banks relied on outside firms to manage many of the bailout programs, including the $30 billion rescue of Bear Stearns Cos. mortgage-related assets.
The Fed Audit
by Bernie Saunders - US Senator for Vermont
The first top-to-bottom audit of the Federal Reserve uncovered eye-popping new details about how the U.S. provided a whopping $16 trillion in secret loans to bail out American and foreign banks and businesses during the worst economic crisis since the Great Depression.
An amendment by Sen. Bernie Sanders to the Wall Street reform law passed one year ago this week directed the Government Accountability Office to conduct the study. "As a result of this audit, we now know that the Federal Reserve provided more than $16 trillion in total financial assistance to some of the largest financial institutions and corporations in the United States and throughout the world," said Sanders. "This is a clear case of socialism for the rich and rugged, you're-on-your-own individualism for everyone else."
Among the investigation's key findings is that the Fed unilaterally provided trillions of dollars in financial assistance to foreign banks and corporations from South Korea to Scotland, according to the GAO report. "No agency of the United States government should be allowed to bailout a foreign bank or corporation without the direct approval of Congress and the president," Sanders said.
The non-partisan, investigative arm of Congress also determined that the Fed lacks a comprehensive system to deal with conflicts of interest, despite the serious potential for abuse. In fact, according to the report, the Fed provided conflict of interest waivers to employees and private contractors so they could keep investments in the same financial institutions and corporations that were given emergency loans.
For example, the CEO of JP Morgan Chase served on the New York Fed's board of directors at the same time that his bank received more than $390 billion in financial assistance from the Fed. Moreover, JP Morgan Chase served as one of the clearing banks for the Fed's emergency lending programs.
In another disturbing finding, the GAO said that on Sept. 19, 2008, William Dudley, who is now the New York Fed president, was granted a waiver to let him keep investments in AIG and General Electric at the same time AIG and GE were given bailout funds. One reason the Fed did not make Dudley sell his holdings, according to the audit, was that it might have created the appearance of a conflict of interest.
To Sanders, the conclusion is simple. "No one who works for a firm receiving direct financial assistance from the Fed should be allowed to sit on the Fed's board of directors or be employed by the Fed," he said.
The investigation also revealed that the Fed outsourced most of its emergency lending programs to private contractors, many of which also were recipients of extremely low-interest and then-secret loans. The Fed outsourced virtually all of the operations of their emergency lending programs to private contractors like JP Morgan Chase, Morgan Stanley, and Wells Fargo. The same firms also received trillions of dollars in Fed loans at near-zero interest rates. Altogether some two-thirds of the contracts that the Fed awarded to manage its emergency lending programs were no-bid contracts. Morgan Stanley was given the largest no-bid contract worth $108.4 million to help manage the Fed bailout of AIG.
A more detailed GAO investigation into potential conflicts of interest at the Fed is due on Oct. 18, but Sanders said one thing already is abundantly clear. "The Federal Reserve must be reformed to serve the needs of working families, not just CEOs on Wall Street."
Bankers draw fire for letting Englewood homes become magnets for crime
by Antonio Olivo, Dahleen Glanton and William Mullen - Chicago Tribune
Nobody wants anything to do with the rotting, boarded-up house at 6736 S. Honore St. except the squatters and drug addicts who sneak in through the overgrown weeds.
Two years ago, Yohanna Butler and her husband, strapped for cash and frustrated by theft and vandalism, were glad to be rid of the Englewood-area property they had been renting to a tenant when it was set for a foreclosure auction. But, in a practice threatening to keep neighborhoods like Englewood in a tailspin that exacts a cost on the rest of the city, the mortgage holder called off the foreclosure — leaving the house in Butler's name and neighbors with another magnet for crime.
"The bank didn't want to take it back," said Butler, angry that she's being held responsible for nearly $900 in unpaid water bills and other issues at the house. "Why are you letting me keep the house? I don't have any money to take care of it."
Such legal maneuvers by banks, which in many cases either walk away from properties that aren't worth selling or let foreclosure proceedings languish in an overwhelmed court system, have left thousands of dilapidated vacant houses in ownership limbo citywide.
City officials, frustrated by the detective work needed to nail down ownership of abandoned buildings, are pushing legislation that would force mortgage holders to secure and maintain vacant properties until they're auctioned off. The effort is strongly opposed by the financial industry.
"It is a challenge when they're in this holding pattern, this limbo, where the (foreclosure) case is not moving forward, and that happens, repeatedly, every day," said Judy Frydland, who as Chicago's deputy corporation counsel oversees housing court cases involving code violations. "Nine times out of 10, what happens is (the banks) just sit on the mortgage, and everybody is just held hostage to this situation."
In the meantime, eyesores continue to multiply on streets like the 6700 block of South Honore, where nine boarded-up houses and several vacant lots jammed with trash and weeds attract squatters, rodents and crime in a neighborhood once lined with charming A-frame and brick bungalow homes.
At 6723 S. Honore, forgotten strands of Christmas decorations hold fast above a broken porch and plywood-covered windows. The previous owner abandoned the property shortly after foreclosure proceedings began in 2008. But no action has been taken on the foreclosure case since June 2009, leaving the long-gone owner the only party liable for the decaying house.
Across the street, Butler's old house was set to be sold in a foreclosure auction in 2009 after she defaulted on her $116,000 mortgage, court records show. But with Wells Fargo Bank acting as trustee for a pool of investors who bought mortgage-backed securities, the case reversed course when the judge agreed to vacate the foreclosure judgment four months later.
Court documents list Wells Fargo as the plaintiff in the foreclosure case. A Wells Fargo spokesman denied the bank has a direct connection to the property and referred questions to the company that had been collecting payments on the property's mortgage, Aurora Loan Services. That firm's parent company, Aurora Bank in Wilmington, Del., did not respond to requests for comment. Chicago officials are looking for ways to hold the financial institutions behind the foreclosure proceedings of vacant houses accountable for problems they create.
As an example, Frydland cited the vacant South Shore warehouse where two firefighters died last December when a defective roof collapsed. City inspectors had unsuccessfully sought to get the roof and 13 other code violations fixed, but nobody would take responsibility for the building, she said. "There was a lender there. They started a foreclosure," leading the building owners to believe they had lost the property, Frydland said.
But, in 2008, the mortgage holder dismissed the foreclosure case and the building remained vacant and unsold, records show. "They never took any action, and that's what's happening across the board," Frydland said.
A report by the Woodstock Institute, a public policy group, found that in September 2010, there were nearly 1,900 cases in Chicago where foreclosure proceedings were launched by lending institutions, then left unresolved. There were 314 such cases in the Englewood area, the highest concentration in the city. An estimated 3,500 properties are vacant in Englewood and West Englewood, which lost nearly 20,000 people in the last decade.
"For the banks, it's all about the money, it's all about maximizing their profits, so when they're looking at doing a foreclosure, they're trying to figure out if this is going to be a positive investment decision for them or not," said Rebel Cole, a DePaul University professor of finance and real estate who has written extensively about the national foreclosure crisis.
Foreclosure proceedings drag on between 18 months and 2 years in a clogged Cook County court system, which has taken in 92,000 cases since January 2010. The longer an abandoned house in a struggling neighborhood like Englewood sits susceptible to break-ins and other vandalism, the more likely its value is to plummet. That, in turn, makes a bank less willing to go through the effort of selling, Cole said.
"What might have looked like a reasonable decision by the bank to foreclose back in 2008 or 2009, now they may go in and have an appraisal done and say: 'Wow. We're gonna be lucky if we get $20,000 for this property, and it's going to cost us more than that to either board it up or to market it or to just deal with it,'" Cole said.
Because they don't hold title to those properties, the banks are wary of entering the houses to maintain them, said Bryan Esenberg, a real estate manager for Neighborhood Housing Services Inc., which steps in as a city-hired receiver in many such cases. That places much of the burden on Chicago taxpayers. So far this year, the city has spent $5.8 million demolishing 260 vacant buildings, according to the Buildings Department. Nearly $500,000 has been spent boarding up or resecuring almost 400 abandoned houses.
Such costs have fueled a debate between city officials and the financial industry over how to deal with the problem of abandoned houses. Banking industry lobbyists have adamantly opposed a proposed state law that would allow municipalities to fine financial institutions for code violations 45 days after they know a property they hold the mortgage on is abandoned. In Chicago, such fines could be as high as $1,000 per day per property.
The banking industry argues that the solution lies in speeding up the foreclosure process, and it has so far beaten back the Lender Responsibility Act, though the legislation is expected to be revived in Springfield during the fall. "The real problem is the foreclosure process is taking so long, it's letting properties sit out there for a long time and it's not moving through the system fast enough, and, in the meantime, the property becomes, you know, problematic," said Linda Koch, president and chief executive officer of the Illinois Bankers Association, which has lobbied for a requirement that foreclosures take no longer than three months.
In Chicago, a proposed ordinance similar to legislation already passed in Boston and Los Angeles would put additional pressure on mortgage servicers by defining them as "owners" of vacant properties, making them liable for upkeep. The association and other banking groups oppose that measure.
Robert J. Emanuel, a board member for the Illinois Mortgage Bankers Association, warned during a City Council hearing on the legislation this week that the ordinance could result in higher-interest mortgage loans in Chicago With the potential for city fines and lawsuits attached to new loans, lenders will see "greater risk" in the Chicago housing market, Emanuel said. "That message is an unintended consequence of what we're looking at," Emanuel said.
Offering another option, Bank of America recently agreed to give the city up to 100 of the 2,500 vacant buildings it holds the mortgage on. Bank of America has also started to identify vacant and abandoned properties eligible for a fast-track foreclosure process and likely demolition, bank officials said. "It was never our intention nor would it be our intention to" take ownership of any properties, Pat Holden, a Bank of America lobbyist, told City Council members during the same Wednesday hearing.
In Englewood and West Englewood, residents are eager to see abandoned houses knocked down or sold to someone who will care for them. On a recent sunny afternoon, families gossiped on porches near a three-story house at 5640 S. Marshfield Avenue whose front porch was barely visible through a thicket of weeds and other plants. Foreclosure proceedings had started on the house in 2009 and the U.S. Bank National Association won a judgment in September to sell the property. But nothing has happened since, court records show.
The homeowner listed on records could not be reached. But black marker scrawls on the front door that include "No Police Aloud" made clear who is now in possession. "(They're) in there selling drugs," said Tonia Lockhart, 38, who sat in the shade two doors down from what looked like a forest growing around the boarded-up house. "I tell my girls to walk in the street (when they pass the house) because I can't see them from behind these trees."
On the 6400 block of South Honore, Wayne Flowers complained that the abandoned house two doors from him has affected his property values. Flowers, 60, said the property at 6412 S. Honore has become a prostitution den. According to court records, a division of J.P. Morgan Chase had a foreclosure judgment vacated in 2008. "They are quick to take your home and let it sit there while people strip everything out of it, and that's destroying our neighborhood," Flowers fumed.
A few blocks away, the weather-beaten Christmas decorations at 6723 S. Honore glisten in the sun. Jeannettie Merchant-Howard, 51, lives next door. From her window, she has seen drug dealers take over the house, thieves on ladders stripping the building of any valuable metal, and raccoons and rats scurrying between the overgrown weeds.
"Everything next to the sun is in that house," Merchant-Howard said. "I'm scared to go near it. It's like you're living in a cage. You have some sense of comfort when you're inside and you've got your windows down and your doors closed, but the moment you go out, everything changes. It's really uncomfortable."
Can Urban Agriculture Feed a Hungry World?
by Fabian Kretschmer and Malte E. Kollenberg - Spiegel
Agricultural researchers believe that building indoor farms in the middle of cities could help solve the world's hunger problem. Experts say that vertical farming could feed up to 10 billion people and make agriculture independent of the weather and the need for land. There's only one snag: The urban farms need huge amounts of energy.
One day, Choi Kyu Hong might find himself in a vegetable garden on the 65th floor of a skyscraper. But, so far, his dream of picking fresh vegetables some 200 meters (655 feet) up has only been realized in hundreds of architectural designs.
In real life, the agricultural scientist remains far below such dizzying heights, conducting his work in a nondescript three-story building in the South Korean city of Suwon. The only thing that makes the squat structure stand out is the solar panels on its roof, which provide power for the prototype of a farm Choi is working on. If he and his colleagues succeed, their efforts may change the future of urban farming -- and how the world gets its food.
From the outside, the so-called vertical farm has nothing in common with the luxury high-rises surrounding it. Inside the building, heads of lettuce covering 450 square meters (4,800 square feet) are being painstakingly cultivated. Light and temperature levels are precisely regulated. Meanwhile, in the surrounding city, some 20 million people are hustling among the high-rises and apartment complexes, going about their daily lives.
Every person who steps foot in the Suwon vertical farm must first pass through an "air shower" to keep outside germs and bacteria from influencing the scientific experiment. Other than this oddity, though, the indoor agricultural center closely resembles a traditional rural farm. There are a few more technological bells and whistles (not to mention bright pink lighting) which remind visitors this is no normal farm. But the damp air, with its scent of fresh flowers, recalls that of a greenhouse.
Heads of lettuce are lined up in stacked layers. At the very bottom, small seedlings are thriving while, further up, there are riper plants almost ready to be picked. Unlike in conventional greenhouses, the one in Suwon uses no pesticides between the sowing and harvest periods, and all water is recycled. This makes the facility completely organic. It is also far more productive than a conventional greenhouse.
Choi meticulously checks the room temperature. He carefully checks the wavelengths of the red, white and blue LED lights aimed at the tender plants. Nothing is left to chance when it comes to the laboratory conditions of this young agricultural experiment. The goal is to develop optimal cultivation methods -- and ones that can compete on the open market. Indeed, Korea wants to bring vertical farming to the free market.
Nine Billion People by 2050
Vertical farming is an old idea. Indigenous people in South America have long used vertically layered growing techniques, and the rice terraces of East Asia follow a similar principle. But, now, a rapidly growing global population and increasingly limited resources are making the technique more attractive than ever.
The Green Revolution of the late 1950s boosted agricultural productivity at an astounding rate, allowing for the explosive population growth still seen today. Indeed, since 1950, the Earth's population has nearly tripled, from 2.4 billion to 7 billion, and global demand for food has grown accordingly.
Until now, the agricultural industry could keep up well enough -- otherwise swelling population figures would have leveled off long ago. But scientists warn that agricultural productivity has its limits. What's more, much of the land on which the world's food is grown has become exhausted or no longer usable. Likewise, there is not an endless supply of areas that can be converted to agricultural use.
By 2050, the UN predicts that the global population will surpass 9 billion people. Given current agricultural productivity rates, the Vertical Farm Project estimates that an agricultural area equal in size to roughly half of South America will be needed to feed this larger population.
Vertical farming has the potential to solve this problem. The term "vertical farming" was coined in 1915 by American geologist Gilbert Ellis Bailey. Architects and scientists have repeatedly looked into the idea since then, especially toward the end of the 20th century. In 1999, Dickson Despommier, a professor emeritus of environmental health sciences and microbiology at New York's Columbia University seized upon the idea together with his students. After having grown tired of his depressing lectures on the state of the world, his students finally protested and asked Despommier to work with them on a more positive project.
From the initial idea of "rooftop farming," the cultivation of plants on flat roofs, the class developed a high-rise concept. The students calculated that rooftop-based rice growing would be able to feed, at most, 2 percent of Manhattan's population. "If it can't be done using rooftops, why don't we just grow the crops inside the buildings?" Despommier asked himself. "We already know how to cultivate and water plants indoors."
With its many empty high-rise buildings, Manhattan was the perfect location to develop the idea. Despommier's students calculated that a single 30-story vertical farm could feed some 50,000 people. And, theoretically, 160 of these structures could provide all of New York with food year-round, without being at the mercy of cold snaps and dry spells.
The Power Problem
Despite these promising calculations, such high-rise farms still only exist as small-scale models. Critics don't expect this to change anytime soon. Agricultural researcher Stan Cox of the Kansas-based Land Institute sees vertical farming as more of a project for dreamy young architecture students than a practical solution to potential shortages in the global food supply.
The main problem is light -- in particular, the fact that sunlight has to be replaced by LEDs. According to Cox's calculations, if you wanted to replace all of the wheat cultivation in the US for an entire year using vertical farming, you would need eight times the amount of electricity generated by all the power plants in the US over a single year -- and that's just for powering the lighting.
It gets even more difficult if you intend to rely exclusively on renewable energies to supply this power, as Despommier hopes to do. At the moment, renewable energy sources only generate about 2 percent of all power in the US. Accordingly, the sector would have to be expanded 400-fold to create enough energy to illuminate indoor wheat crops for an entire year. Despommier seems to have fallen in love with an idea, Cox says, without considering the difficulties of its actual implementation.
Getting Closer to Reality
Even so, Despommier still believes in his vision of urban agriculture. And recent developments, like the ones in South Korea, might mean his dream is not as remote as critics say. Ten years ago, vertical farming was only an idea. Today, it has developed into a concrete model. About two years ago, the first prototypes were created.
In fact, the concept seems to be working already, at least on a small scale. In the Netherlands, the first foods from a vertical farm are already stocking supermarket shelves. The PlantLab, a 10-year-old company based three floors underground in the southern city of Den Bosch, has cultivated everything from ornamental shrubs and roses to nearly every crop imaginable, including strawberries, beans, cucumbers and corn. "We manage completely without sunlight," says PlantLab's Gertjan Meeuws. "But we still manage to achieve a yield three times the size of an average greenhouse's." What's more, PlantLab uses almost 90 percent less water than a conventional farm.
As a country which has limited land resources but which possesses much of the necessary technology, the Netherlands seems to be an ideal place to develop vertical farming. This is especially true now that its residents are increasingly demanding organic, pesticide-free foods -- and are prepared to pay more for it.
'The Next Agricultural Revolution'
Despommier believes that entire countries will soon be able to use vertical farming to feed their populations. The South Korean government, at least, is interested in exploring the possibility. At the moment, the country is forced to import a large share of its food. Indeed, according to a 2005 OECD report, South Korea places fifth-to-last in a global ranking on food security. Increasing food prices, climate change and the possibility of natural disasters can compound the problem.
These facts are not lost on the researchers in the vertical farming laboratory in Suwon. "We must be prepared to avert a catastrophe," Choi says. Still, it will be some time before vertical farming is implemented on a commercial scale in South Korea. Choi's colleague Lee Hye Jin thinks that five more years of research are needed. "Only then will our vertical farm be ready for the free market," he says.
Gundersen: Black Rain & Japanese Radiation not just Fukushima...
Safety Concerns Cloud US Nuclear Renaissance
by Ullrich Fichtner - Spiegel
Watts Bar 2, the US's newest nuclear power plant, is being built in Tennessee and is expected to go online next year. It has a history of safety concerns that goes back decades. Nevertheless, many local people support nuclear power and are welcoming the reactor with open arms.
Mansour Guity was the chief witness against the American nuclear industry. He crippled entire power plants almost single-handedly. But now the 30-year war he has been waging is coming to an end. They are now putting the finishing touches on the second reactor at the Watts Bar Nuclear Generating Station in the Tennessee River valley, less than 50 kilometers (31 miles) from Guity's house. After construction was stopped more than two decades ago and resumed in 2007, the reactor is now expected to go online next year. Mansour Guity isn't doing too well at the moment.
A few days ago, a massive tornado swept through Tennessee and cut a swath of destruction through Alabama. Hundreds of tornados snapped utility poles like matchsticks and forced authorities to temporarily shut down the Browns Ferry nuclear power plant, a twin of the Fukushima plant. It went into emergency operation during the stormy night and shut itself down automatically.
Guity is familiar with such matters, and he knows what goes on inside nuclear plants when this happens. A nuclear engineer who was born in Iran in 1942, Guity is a disappointed American today. "Time bombs," he says, sounding very bitter. "We are sitting on a bunch of ticking time bombs."
Loss of Faith
The dining table in his large, cream-colored house not far from Knoxville, on the edge of the Smoky Mountains, is covered with paper in large and small packages, newspaper articles, old meeting minutes, and technical reports on cables, weld seams and concrete. It takes a lot of puzzle pieces to assemble Guity's life into a coherent picture, and to understand how a man, with a mixture of professional honor and integrity, took on the biggest energy company in the United States and fell by the wayside in the process.
Guity says that he still has to take 26 pills a day to keep his depression and other conditions under control. It would certainly be too simplistic to blame the nuclear industry for his health problems. Guity is someone for whom the American dream didn't work out. He says that he used to have a lot of faith in this country, but that now he no longer knows what to believe in.
In the 1960s, 1970s and 1980s, he gradually discovered that so many shortcuts were taken, and some of the work was so shoddy, during the construction of the nuclear plants along the Tennessee River that it made a mockery of any notion of nuclear safety. Guity was a nuclear engineer at the Tennessee Valley Authority (TVA), a large, long-established government-owned company that operates the Browns Ferry, Sequoyah, Bellefonte and Watts Bar nuclear power plants. When the plants were built, there was talk of thousands of clear violations of plans and building regulations, with the most serious infractions occurring at Watts Bar.
Not Up to Standard
The plant's two units were built at the same time in the 1970s and 80s. Only Unit 1 was placed into operation, after a dramatic delay, while Unit 2 remained unfinished until construction was resumed a few years ago. If Guity had his way, the entire plant, including both units and everything else associated with it, would disappear from the map as soon as possible.
Inside the plant, rows of thick power cables were bent at such sharp angles that they could be expected to fail at any time. Weld seams were not up to standards along lengthy segments. Concrete walls were too thin. Guity saw all of this with his own eyes, in his capacity as quality manager for the reactor project. The reason Guity still has trouble sleeping at night is his belief that all of these old mistakes and violations can never be completely corrected.
One of the reasons Guity is so upset is that there is no public debate in the United States over Watts Bar, or nuclear energy in general. It is a non-issue throughout the country, even though, according to Guity, there are plenty of reasons that it should be discussed. The United States has 104 nuclear reactors in operation, more than any other country in the world. Many plants are alarmingly dated -- some are 40 years old or even older. Some 65,000 tons of nuclear waste have accumulated over the decades. As unbelievable as it sounds, the country doesn't even have a long-term plan for the storage and disposal of the nuclear waste being generated every day.
If the second unit at Watts Bar, America's last reactor still under construction, really does go online next year, almost 40 years after building work began, parts of the unit will still date from the time when so many criteria were being violated. In fact, no one, not even the TVA, knows exactly the nature and scope of these violations.
The TVA's headquarters is at the highest point in Knoxville, housed in two pale, 12-story buildings that look like upended shoe boxes. The surrounding city has a cozy, provincial feel. When Mansour Guity arrived in Knoxville as a student, the city was much poorer than it is today. His parents had left Iran in the early 1960s, during the regime of the shah, bringing their four sons and one daughter with them.
Guity studied electrical engineering in Knoxville, and when he graduated companies were eager to recruit him and other newly minted engineers. Guity took a job with the TVA, in its nuclear power division. It was 1969, and nuclear energy was still in its infancy. Only a few leftist cranks and fearful dreamers were afraid of it. But Guity recognized its potential.
A decade later, his faith in the technology and in the power of engineers was destroyed. Starting in about 1979, when work was in full swing at Watts Bar, he could no longer ignore the construction defects and began keeping a record of what he saw. His career began to stall about that time.
Guity, whose coworkers had referred to him as "the Ace" until then, was passed over for promotion. He received no raises, and his reports went unanswered, disappearing into the bowels of the company. He was asked to rewrite a particularly dramatic report on defective wiring at Watts Bar. First he was told to turn the 200-page report into a 20-page report, and then he was told that the 20 pages were still too many. It was the early 1980s, and it was an agonizing process for Guity, who kept coming back to the problems with defective wiring.
But the cables, says Guity, are "the nervous system of a nuclear power plant." There are easily 3,000 kilometers (1,875 miles, or about 10 million feet) of cable running though a large plant like Watts Bar. Ultimately, the proper functioning of those cables will determine whether the situation at a nuclear power plant spins out of control in the event of a problem. Guity's reports showed that hundreds of cables had been installed incorrectly at Watts Bar. They demonstrate that the TVA cared very little about regulations.
A Quagmire of Historic Proportions
Guity used official channels again and again to call attention to the problems, but when all of his efforts proved to be in vain, he went public with his findings. In doing so, he triggered one of the biggest scandals in American industrial history, one that essentially continues to this day.
At the time, in 1985, the TVA felt compelled to shut down all of its nuclear power plants for years. Watts Bar 1, which its builders were convinced was ready to go online in 1985, remained shut down and could only be restarted 12 years later, 23 years after its initial construction permit had been issued. A fact-finding commission in the US Congress eventually investigated the entire process.
When the hearings began in February 1986, and Guity and a handful of like-minded colleagues went to Washington to testify in Room 2322 at the Rayburn House Office Building, the TVA had shut down -- or rather, had been forced to shut down -- nuclear power plants worth $15 billion (€10.7 billion). And this was at least in part Guity's fault or, depending on one's perspective, his achievement.
The chairman of the congressional committee spoke of crass mismanagement and a "quagmire" of monumental proportions. The "historic disaster" consisted in the fact that the TVA, for cost reasons, had allegedly planned its nuclear plants incorrectly and built them in a defective manner. But now, as it was argued at the time, it would be very difficult to ever determine whether or not these plants are safe. This question still cannot be answered today, 25 years later.
An American Idyll
It's important to remember where this story unfolded. Seen from the perspective of its narrow country roads, Tennessee is a picture book of rural America.
Small flatbed trucks and rumbling container trucks wind their way through a vast but pleasant forested landscape. Newly built wooden houses are surrounded by perfect lawns and manicured gardens where the American flag is proudly displayed. Outsiders can imagine all kinds of things when they visit the area, but they are unlikely to hit upon the idea that ramshackle nuclear power plants are hidden behind the forest.
Local residents are more or less in the same boat. Their country is so large and vast that even nuclear power plants look like toys in its midst. It seems impossible to imagine that they could ever pose an existential threat. This worldview is on full display at the American Museum of Science and Energy in Oak Ridge. The museum, not far from Watts Bar, is a weather-beaten concrete structure that tells the story of the technical superiority of days gone by.
Oak Ridge was the home of the Manhattan Project, perhaps the boldest research project of all time, which brought together leading physicists and tens of thousands of technicians to secretly build the bomb during World War II. The large complexes surrounding the museum today are referred to as "Y-12," "K-25" and "X-10." Uranium was enriched at these facilities, the bomb that was dropped on Hiroshima was conceived there, and scientists later also developed hydrogen bombs at Oak Ridge.
Missiles and bombs are on display in the museum chambers, where child-oriented models explain the wonderful benefits of nuclear energy. One of the museum's messages is: We built the bomb, so why should we fear civilian nuclear power? The second message is: America is at the forefront of technology and represents progress.
The Watts Bar nuclear power plant is an hour's drive from Oak Ridge, surrounded by a serene river landscape, in a place where catfish are reportedly bigger than normal. James Fry, 55, who spent 13 years driving trucks to New York and Montreal, now runs a campsite in the area. He has been coming to Watts Bar to go fishing for the last seven years. During that time, he says, there were two occasions when he saw a scrap of paper posted on the bulletin board in the parking lot across from the power plant. It was a notice warning people not to eat fish from the river, because of the threat of radiation. Fry doesn't give any thought to the notion that the plant itself could pose a hazard to anyone. "The plant's a good neighbor," he says. "We have no problems."
'Safe, Clean, Reliable and Cheap'
Once, at the end of April, the Nuclear Regulatory Commission (NRC) held an information event on the progress of construction at Watts Bar in a hotel in Athens, not far from the reactor. A sign in the lobby, written with magic marker, identified the public event. It looked like a sign announcing a flea market.
The most conspicuous thing about the attendees was that there were no opponents of nuclear power to be seen. No one stood outside the door with flyers or protest banners, there were no megaphones, and a police presence was not needed. The three or four dozen men in dark suits stuck together, men from both the NRC and the TVA. It felt like the meeting of a club whose members had known each other for years.
"Nuclear energy is a safe, clean, reliable and cheap form of energy production," Ashok Bhatnagar, 55, TVA's senior vice president for nuclear operations, says a few days later. He was 11 when his parents left their native India. Bhatnagar went to college in the United States and worked at Duke Energy in North Carolina for many years. He was intrigued by the TVA, he says, because, as a government-owned company, it is not required to turn a profit but only to do a job that makes sense for the public good.
During our conversation in the plant's visitor center, Bhatnagar, who is wearing a dark blue polo shirt with the TVA logo on it, asks politely about the status of the German nuclear debate. He also makes a few noteworthy remarks about Fukushima.
"The tsunami," says Bhatnagar, "that is, the wave itself, killed 15,000 people. But the radiation from Fukushima hasn't killed anyone yet, as far as we know. The truth is that the systems essentially did exactly what they were supposed to do. I think we have to ask ourselves how much risk we are willing to take. If we wanted zero risk, we would have to resettle half of Asia's coastal cities, because of tsunamis."
Defending Atomic Power at Ladies' Night
Bhatnagar makes no mention of cables, weld seams or concrete. A TVA spokesman will later send SPIEGEL some information about the issue in response to a query. And the spokesman confirms, in a way, Guity's concerns -- namely that there is still some very old material installed and in use in both units at Watts Bar.
The cables installed before 1986, the spokesman writes, were replaced "or tested to ensure they meet standards and requirements." As far as the concrete is concerned, the spokesman added, the Watts Bar 2 structures "were mostly complete" when the current work began in 2007. But this means that Watts Bar 2 is essentially still the same reactor than Guity believes should be torn down, if safety issues are to be taken seriously.
Tennessee is in a part of the country where tornadoes are common and major rivers have a tendency to overflow. There is no hint of such dangers on Fridays, which are "Ladies' Nights," at The Joker, a bar five minutes from the Watts Bar plant. The bar occupies a long building next to a parking lot in the woods. Inside, men sit with their elbows on the bar, drinking pitchers of beer. Many are current or former TVA employees, and some are wearing the polo shirt with the TVA logo.
One of them, a tall, bearded man, has a few things to say about nuclear power. It's ultimately a choice between electricity and candlelight, he says. Anyone who is seriously opposed to nuclear energy should get used to the idea of living in caves again, he says, adding that the Germans will figure this out sooner or later. At 9 p.m., Ladies' Night begins and a group of overweight women fire up the karaoke machine and start singing syrupy ballads.
Anyone who thinks differently in Tennessee, perhaps someone who has environmental leanings, has to come up with better arguments than the anti-nuclear movement's famous slogan: "Nuclear power? No thanks!" Americans, on the whole, are not afraid of nuclear technology, and they still firmly believe that nuclear energy is a reasonable part of a modern society that tolerates a certain amount of risk.
"Everything's completely messed up," says Stephen Smith, a boyish, energetic and good-looking 49-year-old. "But that's the way things go in America. We fill up the Gulf of Mexico with oil, and afterwards we don't even feel that there's reason for a debate." Smith has three children, two grandchildren, a dog and a house on the outskirts of Knoxville that produces as much energy a year as it consumes. The light in Smith's kitchen comes from mirrored shafts in the ceiling, and the water is heated with the electricity generated by 36 Sharp solar panels on the roof.
Only two years ago, a senator from Tennessee unveiled a plan to build 100 new nuclear power plants. A few weeks after the Fukushima disaster, President Barack Obama announced that the government would allow the construction of new reactors. "It sounds like a joke, right?" says Smith. "But it's not. It's our daily lunacy in this country."
The Most Expensive Industrial Ruin in US History
In the 1980s, after Chernobyl, Smith and a few other anti-nuclear activists periodically stirred things up at the museum in Oak Ridge, by walking around with Geiger counters and bringing along Hiroshima survivors, only to be berated as traitors by their fellow Americans.
Smith is no traitor -- quite the contrary. He ran a veterinary practice in Knoxville for 10 years, but his environmental activism continued to expand until he decided to make it a full-time activity in 1999. Today he is the executive director of the Southern Alliance for Clean Energy, a sort of eco think tank with 35 employees and an annual budget of $4 million. "Now the world is my patient," he says, "and it isn't doing very well."
Smith is no longer the sort of activist who fights for a better planet with whistles and banners. He has turned himself into a serious lobbyist, one who is also invited to TVA board meetings. He knows Ashok Bhatnagar, is familiar with his arguments and doesn't even hold them against him. "When I hear Bhatnagar talking about Watts Bar today, I always think: That's exactly what the nuclear engineers in Japan were saying -- two weeks before the tsunami."
Watts Bar, says Smith, is the most expensive industrial ruin in US history. To make matters worse, it's also a scandal with global political implications. That's because in addition to electricity, Watts Bar also produces tritium, which is used to make nuclear warheads. "It's consummate hypocrisy," says Smith. "What we're doing here is exactly what we want to prohibit all other countries from doing. We're mixing civilian and military use. We, not the others, are violating international treaties."
'It Never Stops'
Many aspects of the Tennessee story are hard to believe. Back in the 1980s, when Guity was debating whether to go public with his frightening results, an external agency interviewed 5,200 TVA employees who had worked or were still working on the Watts Bar construction project. The employees voiced 5,081 concerns, including 1,868 with safety implications, of which 79 percent later proved to be justified. For example, about 18 tons of unsuitable material was used in the plant to fill weld seams. In Germany, that infraction alone would probably have led to the demolition of the entire plant.
In America, on the other hand, construction will come to an end at Watts Bar in the coming weeks. Unit 1 was the last US nuclear reactor licensed in the 20th century, and Unit 2 will be the first in the 21st century. Mansour Guity follows every piece of news on progress at the site. He has trouble letting go, particularly as there is always something new happening at Watts Bar.
In March, an employee of a subcontractor was indicted on charges of having fabricated test results on wiring issues. In January, the leading project manager, an Iranian, disappeared overnight, allegedly because of "personal problems."
A few days earlier, the NRC had sent a sharply worded letter to the TVA, citing problems with fire prevention systems and the overall poor quality of the TVA reports. "It just keeps on going," says Guity. "It never stops. Never." Guity, who is in poor health, says that when Watts Bar 2 is finished, he will feel as if they had built a memorial to the defeat of his life.