Sunday, October 30, 2011

October 30 2011: Reviving the Department of Subsistence Homesteads

Dorothea Lange The Wayfarers May 1937
"Mother and child of Arkansas flood refugee family near Memphis, Texas. These people, with all their earthly belongings, are bound for the lower Rio Grande Valley, where they hope to pick cotton." Photographed for the Resettlement Administration.

Ashvin Pandurangi:

First Diamond in the Rough: Reviving the Department of Subsistence Homesteads

I am pleased to present the first article submission to TAE Community’s "Diamonds in the Rough" project, which you all voted to explore! In this submission, Joanna Bailey delves into the history of FDR’s Department of Subsistence Homesteads, created during the Great Depression as a part of his New Deal economic program, and outlines how it could be revived and put to use for local communities and/or regions in the near future.

We are, of course, living in very unique times, and the path we take will differ in significant ways from that taken in the 1930s. Even if the DHS cannot be revived as envisioned by FDR, though, its elements can still be adopted by communities and help play a critical role in the ways these communities choose to respond to systemic collapse in upcoming years. Joanna does an excellent job of explaining how these developments could take form and sustain themselves in a clear and concise manner.

Before getting to her submission, I would like to take notice of the three unique Diamonds that were also polled, but were not chosen to be explored further. The originators have generously submitted additional links and details on their ideas. So here are the runners-up Diamonds in the order of total votes received:

1. Jim Jackson: Planting fruit trees and shrubs in large numbers on private and public land - Just Fruits and Exotics (provides an exceptional level of information about the plants and how to care for them)

2. Bill Hoyer: Optimal nurturing from conception through birth and childhood - Optimal Nurturing Summary (reference the works of Joseph Chilton Pearce, James Prescott, John Bowlby, Gabor Mate, Suzanne Arms, Robbie Davis-Floyd)

3. Michael James (contact: newpartycanada at gmail dot com): Tectonic Mitigation Stress Strategy - Detailed Description of Idea

Thank you to all of these guys for participating in and contributing to TAE Community's Diamonds Series. Keep voting for the subsequent choices!

Now, without further ado, here is Joanna:

Joanna Bailey:

Reviving the Department of Subsistence Homesteads

The Original Department of Subsistence Homesteads

Between 1933 and 1935, President Franklin D. Roosevelt’s New Deal created thirty-four communities under the Division of Subsistence Homesteads (DSH). The DSH, funded at $25 million, pledged to organize pilot programs showing how the country could benefit from semirural neighborhoods with part-time farming.

Each project would be initiated at the state level and administered through a nonprofit corporation. Successful applicants would be offered a combination of part-time employment opportunities, fertile soil for part-time farming, and locations connected to the services of established cities. DSH director Milburn L. Wilson stated:

"A subsistence homestead denotes a house and out buildings located upon a plot of land on which can be grown a large portion of foodstuffs required by the homestead family. It signifies production for home consumption and not for commercial sale. In that it provides for subsistence alone, it carries with it the corollary that cash income must be drawn from some outside source. The central motive of the subsistence homestead program, therefore, is to demonstrate the economic value of a livelihood which combines part-time wage work and part-time gardening or farming."

When word of these projects reached people desperate for a lifeline out of the poverty and turmoil brought on by the Great Depression, thousands wrote letters of interest. Most of these heartbreaking pleas were from people who didn't understand that the DSH projects weren't meant to be a relief program for the unemployed and destitute. The new communities were categorized as to what group of workers they would be helping in the following manner:

"Stranded workers" – Intended to help logging communities at risk due to declining timber supplies, or miners facing economic-related shutdowns, etc.

"Farm" projects" - Intended to help farm families that had been struggling to work poor land.

"Industrial" homesteads" - Redistributed families from congested urban areas into the exurban countryside.

The Cumberland Homesteads project in Tennessee was one of the larger developments, at 10,000 acres. Successful applicants helped clear the land, selling the timber to defray building expenses, and milling some for the community structures. Most project plans allowed for shared spaces and buildings, including pastures, barns, and schools, since maintaining a strong sense of community was one of the basic tenets of the DSH homestead program.

Some factors taken into consideration in reviewing applicants were 'neighborliness' and 'deportment of children'. In some areas, employment opportunities were provided by an existing industry, but others were considered in tandem with new factories or a cash crop to be farmed as a cooperative venture.

The DSH existed independently for only two years before being subsumed by the Resettlement Administration (RA), which survived for another two years before transitioning into the Farm Security Administration (FSA) and then into the Federal Public Housing Authority (PHA). As happens with many 'big government' initiatives, turf battles, bureaucratic slowdowns, political & personal conflicts of interest, all combined to make the DSH problematic from an administration perspective.

Once the visionaries initially involved at the beginning of the project grew impatient, frustrated, and finally moved on, the homestead program was shuffled from agency to agency, finally being discontinued by 1936. Most of the DSH communities shared the eventual fate of the one built in my state, near Longview, WA, with the federal government removing itself from the project's operations in the early 40's, leaving the association free to function as it saw fit.

Some people sold their properties to non-homesteaders, but a few remain relatively intact, with historical documentations and celebrations of "Homesteader Days". Given the enthusiastic ground-level response to the DSH program, it seemed an expansion and continuation would have been very welcome to those families taking advantage, but by then the prospect of a coordinated "war effort" leading to economic revitalization through manufacturing trumped the political will for "homey" solutions.

More information about the original DHS can be found in Robert Carriker's detailed and informative book,

as well as the following online resources:

Reinventing the Department of Subsistence Homesteads

The original DSH was a top-down, built-from-scratch, fully government run and funded initiative. The homestead communities were meant to be model settlements (populated by carefully selected families), using all the resources the federal government could bring to bear, architects, agricultural experts, social planners, and the like. The hope was that these successful endeavors would inspire private corporations to invest in similar communities, leaving the government to ease itself out of the homesteading business altogether.

Some of the most functional elements of these projects were a result of local involvement at every level, from site planning to homesteader selection. A revived DSH would eschew federal involvement in favor of completely local and regional coordination under an umbrella organization.

There are already many community and homestead renewal movements underway across the country, and regional entities could easily work together once founding principles were enacted. A generalized real-life scenario under the new Department of Subsistence Homesteads is presented below, along with some loosely-grouped potential department branches that could utilize organizations or institutions which are currently active in any given community (organizations in my area will be used as examples).

Local Resources of the Education Branch: Whatcom Folk School, Whatcom County Extension, WSU-Mount Vernon Research Center, Country Living Expo

A young couple, mortgaged to an urban house with a decent-sized yard, decide to offset rising food costs and cuts in work hours by growing more of their own food. Having heard about the new Department of Subsistence Homesteads, they contact their regional coordinator, who comes to their house for an informational appointment. They sign up for Homesteading 101 through the area Folk School, which provides them information and directs them to further resources to assess their options.

Local Resources of the Community Branch: Sustainable Connections, Transition Whatcom, Bellingham Urban Gardeners, Washington State Grange

Local Resources of the Legal Branch: Maine’s Local Food and Self-Governance Ordinance, Farm to Consumer Legal Defense Fund

After being contacted by their neighborhood community coordinator, the couple joins the local grange (which is holding their monthly potluck soon, as posted on their online bulletin board). In addition, they are put in contact with representatives from local branches of organizations that specialize in legal information and aid, such as the Farm-to-Consumer Legal Defense Fund. This organization makes them aware of their rights as emerging farmers as the rights of customers to access their product directly.

Local Resources of Funding Branch: Whatcom Educational Credit Union, Whatcom Community Foundation, Kulshan Community Land Trust

They learn that their household could easily support raised bed gardening, a laying flock, some fruit trees, and, with a little work, a pig for meat or a dairy goat. They apply for a micro-loan from the state bank/community trust foundation that will pay for building supplies and soil amendments. With advice from the county extension, and some labor assistance obtained by bartering with a neighbor, they build the flock and garden infrastructure.

After a few years of successful urban homesteading, they decide to explore new initiatives being promoted through the DSH.  It turns out that, with labor from the regional trade school and funding from the state bank (plus community trust and other local capital), DSH has been reclaiming suitable abandoned/foreclosed housing in semi-rural areas outside town, with an emphasis on contiguous properties for community resettlement.

Funding is in place for a feed mill that will source ingredients from larger farms in the state, process and package the finished products for distribution in the area.

A coordinating organization under the DSH umbrella has been working to bring the new mill up to speed in tandem with the influx of homesteaders moving to the reclaimed housing, providing cash wages to homesteaders and a local pool of workers to the new mill. The rise of subsistence homesteading means a steady need for quality animal feed, providing a good return on capital invested in the new venture. Job stability means homestead loans will be repaid, and homesteaders will enjoy food security and community life.

Local Resources of the Re-localization Branch:

After reviewing the available resources, one of the couples decides to start a micro-dairy with another community member. Reworked food and zoning laws make homestead food production much easier to share with the wider community, so the micro-dairy will provide milk for the fifteen nearest households. The county extension supplies in-depth education and consultation, and meetings with past and present local dairy farmers give a look at the hands on reality of this venture.

A building party is planned, and a combination of bartered labor and materials, bank and donor funding, volunteers from the "Homesteads for Humanity" and apprentice builders program are used to construct a milk processing room adjoining the community barn.

Eventually our couple realizes the hard work of homesteading is proving to be a challenge as they grow older. A younger household (perhaps the one living in the couple’s former urban homestead?) has posted a request for internship on community bulletin boards, and are now set to move in to guest quarters on the rural homestead.

A trial period of hands on practice while learning from the older couple leads to ownership transition. The older couple returns to a more urban setting, where they can continue to work part time and grow food while enjoying the convenience of town life.

Now that they have more time to share, they work on various DSH committees, help coordinate the expanding rural transit system, teach a few Homesteading 101 classes, etc. In this manner, the Subsistence Homestead program will sustain itself over many years and many generations, as individuals and families reciprocate within their community.

The specific details of how a new Subsistence Homestead Department and Program can be implemented will obviously differ across regions/communities and over time. Some regions will be able to develop the program on a relatively large-scale across many cities and towns in the U.S., and perhaps even states.

Others will have to take a much smaller-scale approach. Either way, there is no doubting that there are plenty of existing resources available for communities to draw upon in their attempts to revive the program, and tailor it to fit the abilities and needs of their local populations in the assuredly unique times of our future.

Has America Become an Oligarchy?
by Thomas Schulz - Spiegel

The Occupy Wall Street movement is just one example of the sudden outbreak of tension between America's super-rich and the "other 99 percent." Experts now say the US has entered a second Gilded Age, but one in which hedge fund managers have replaced oil barons -- and are killing the American dream.

At first, the outraged members of the Occupy Wall Street movement in New York were mainly met with ridicule. They didn't seem to stand a chance and were judged incapable of going up against their adversaries, Wall Street's bankers and financial managers, either intellectually or in terms of economic knowledge.

"We are the 99 percent," is the continuing chant of the protestors, who are now in their seventh week of marching through the streets of Manhattan. And, surprisingly, they have hit upon the crux of America's problems with precisely this sentence. Indeed, they have given shape to a development in the country that has been growing more acute for decades, one that numerous academics and experts have tried to analyze elsewhere in lengthy books and essays. It's a development so profound and revolutionary that it has shaken the world's most powerful nation to its core.

Inequality in America is greater than it has been in almost a century. Those fortunate enough to belong to the 1 percent, made up of the super-rich, stand on one side of the divide; the remaining 99 percent on the other. Even for a country that has always accepted opposite extremes as part of its identity, the chasm has simply grown too vast.

Those who succeed in the US are congratulated rather than berated. Resenting other people's wealth is viewed as supporting class struggle, which is something very frowned upon.= Still, statistics indicate that the growing disparity is genuinely overwhelming. In fact, the 400 wealthiest Americans now own more than the "lower" 150 million Americans put together.

Nearly two-thirds of net private assets are concentrated in the hands of 5 percent of Americans. In comparison, the upper 5 percent of Germany hold less than half of net assets. In 2009 alone, at the same time as the US was being convulsed by mass layoffs, the number of millionaires in the country skyrocketed. Indeed, if you look at the reports it compiles on every country in the world, even the CIA has concluded that wealth disparity is greater in the US than in Tunisia or Egypt.

A New 'Gilded Age'
In a book published in 2010, American political scientists Jacob Hacker and Paul Pierson discuss how this "hyperconcentration of economic gains at the top" also existed in the United States in the early 20th century, when industrial magnates -- such as John D. Rockefeller, Andrew Carnegie and J. P. Morgan -- dominated the upper stratum of society and held the country firmly in their grip for years.

Writer Mark Twain coined the phrase "the Gilded Age" to describe that period of rapid growth, a time when the dazzling exterior of American life actually concealed mass unemployment, poverty and a society ripped in two.

Economists and political scientists believe the US has entered a new Gilded Age, a period of systematic inequality dominated by a new class of super-rich. The only difference is that, this time around, the super-rich are hedge fund managers and financial magnates instead of oil and rail barons.

A Threat to the World Economy
The academics fear this change could have serious consequences for the country's economic future. As they see it, this extreme inequality threatens to dramatically slow growth in the world's largest economy. This is part of a development, they argue, that has been under way for years but remained largely hidden in the years of cheap credit, rising real estate prices and excessive consumption -- when it seemed everyone was on the way up. And the problems only came to light with the arrival of the financial crisis.

Through the 1970s, income for Americans across all social classes rose nearly in lockstep, by an annual average of roughly 3 percent. Starting in the 1980s, however, this trend underwent a fundamental transformation. Granted, the economy continued to grow -- but almost exclusively to the benefit of the country's top earners. The major economic expansion under President Ronald Reagan benefited only a few, and the problem only grew worse under George W. Bush.

At least since the beginning of the millennium, it has no longer been a simple matter of two societal extremes drifting further apart. Instead, the development is also accelerating. In the years of economic growth between 2002 and 2007, 65 percent of the income gains went to the top 1 percent of taxpayers. Likewise, although the productivity of the US economy has increased considerably since the beginning of the millennium, most Americans haven't benefited from it, with average annual incomes falling by more than 10 percent, to $49,909 (€35,184).

The Winner-Take-All Economy
Even for a country that loves extremes, this is a new and unprecedented development. Indeed, as Hacker and Pierson see it, the United States has developed into a "winner-take-all economy." The political scientists analyzed statistics and studies concerning income development and other economic data from the last decades.

They conclude that: "A generation ago, the United States was a recognizable, if somewhat more unequal, member of the cluster of affluent democracies known as mixed economies, where fast growth was widely shared. No more. Since around 1980, we have drifted away from that mixed-economy cluster, and traveled a considerable distance toward another: the capitalist oligarchies, like Brazil, Mexico, and Russia, with their much greater concentration of economic bounty."

This 1 percent of American society now controls more than half of the country's stocks and securities. And while the middle class is once again grappling with a lost decade that failed to bring increases in income, the high earners in the financial industry have raked in sometimes breathtaking sums. For example, the average income for securities traders has steadily climbed to $360,000 a year.

Still, that's nothing compared to the trend in executives' salaries. In 1980, American CEOs earned 42 times more than the average employee. Today, that figure has skyrocketed to more than 300 times. Last year, 25 of the country's highest-paid CEOs earned more than their companies paid in taxes.

By way of comparison, top executives at the 30 blue-chip companies making up Germany's DAX stock market index rarely earn over 100 times the salaries of their low-level employees, and that figure is often around 30 or 40 times.

'The Result of Policy Choices'
Hacker and Pierson are far from the only economists and political scientists to recognize a fundamental societal distortion. Larry Bartels, one of America's leading political scientists, also believes America has entered a new Gilded Age. Bartels' 2008 book on the subject, "Unequal Democracy: The Political Economy of the New Gilded Age," has drawn a great deal of attention and even been quoted by President Barack Obama.

"The really dramatic economic gains over the past 30 years have been concentrated among the extremely rich," Bartels writes, "largely bypassing even the vast majority of ordinary rich people in the top 5 percent of income distribution." He doesn't see this fundamental shift in the distribution of wealth as having resulted from market forces or drastic events, such as the financial crisis. Instead, he believes they are "the result of policy choices."

As Bartels explains, much as the economic giants of the Gilded Age developed such enormous influence that they could dictate basic political conditions, today's Wall Street bosses and CEOs have successfully arranged extensive deregulation for their industries. Indeed, he argues that this is the only thing that can explain how hedge fund managers suddenly started making billions of dollars a year.

Former Citigroup CEO Sanford Weill, for example, kept a framed pen in his office as a symbol of his influence. It was the pen President Bill Clinton -- at Weill's instigation -- used in 1999 to sign into law legislation repealing the provisions in the Glass-Steagall Act of 1933 that separated the transactions of investment and commercial banks.

At the same time, Bartels writes, the wealthy receive enormous tax breaks worth hundreds of billions of dollars. In the 1970s, capital gains tax was 40 percent, and the highest income tax bracket paid a rate of 70 percent. Under George W. Bush, these rates dropped to 15 percent and 35 percent, respectively. For example, it emerged a few weeks ago that legendary investor Warren Buffett earned $63 million last year but was only required to pay 17 percent in taxes.

Did Inequality Cause the Crisis?
In a medium-term, the consequences of this societal divide threaten the productivity of the entire economy. Granted, American economists in particular have long espoused the view that inequality is simply a necessary side effect of above-average growth. But that position is now being called into question.

In fact, recent research indicates that the economies of countries experiencing periods of pronounced inequality often show considerably less growth and more instability. On the other hand, it also finds that economies grow faster when income is more evenly distributed.

In a study published in September, the International Monetary Fund (IMF) also concluded that: "The recent global economic crisis, with its roots in US financial markets, may have resulted, in part at least, from the increase in inequality" in the country.

An Evolutionary View of Economics
Cornell Univesity economist Robert Frank analyzes this development in his recently published book "The Darwin Economy." In it, he concludes that financial realities are best described not by Adam Smith's economic models but, rather, by Charles Darwin's thoughts on competition.

Frank writes that, with its often extreme deregulation, today's financial and economic system makes it impossible for individuals' self-serving behavior to ultimately contribute to the prosperity of society as a whole, as Smith had envisioned it. Instead, it leads to an economy in which only the fittest survive -- and the general public is left behind.

The question is: How long can the US withstand this internal tension?

Differences between rich and poor are tolerated as long as the rags-to-riches story of the dishwasher-turned-millionaire remains theoretically possible. But studies show that increasing inequality and political control concentrated in the hands of the wealthy elite have drastically reduced economic mobility and that the US has long since fallen far behind Europe on this issue. Indeed, only 4 percent of less-well-off Americans ever successfully make the leap into the upper-middle class.

"The major difference between this Gilded Age and the last one is the relative absence of protest," historian Gary Gerstle told the online magazine Salon in October. "In the first Gilded Age, the streets were flooded with protest movements."

Manhattan hasn't yet quite reached that point.

Investors (and the Fed) are addicted to liquidity
by Paul R. La Monica - CNNMoney

The best you can say about "The Godfather: Part III" is that Sofia Coppola recognized her limitations and now spends more time behind the camera than in front of it. "Superman III" proved that Richard Pryor was no Gene Hackman. And "Return of the Jedi?" I defer to Dante from "Clerks." All that had was a "bunch of Muppets."

The third time is rarely the charm in Hollywood. But don't tell that to investors and central bankers who are loudly calling on the Federal Reserve for a third round of bond buying to help stimulate the economy.

Fed vice chair Janet Yellen, Fed governor Daniel Tarullo and NY Fed president William Dudley have all hinted in speeches recently that another so-called quantitative easing program, or QE3, could be possible.

Why? The Fed has already pumped trillions of dollars into the economy with the first two renditions of QE. It has left its key interest rate near zero since December 2008 and has pledged to keep rates low until the middle of 2013.

And the Fed is buying even more bonds now through Operation Twist, a program that allows the central bank to sell short-term Treasuries and trade them in for longer-term ones so it doesn't have to add more to its already bloated balance sheet.

What has this accomplished? The economy is still in a sluggish growth phase that feels more like a recession than a recovery. Unemployment remains above 9%. QE ad infinitum isn't going to change things. Only time will.

"People believe, despite all evidence to the contrary, that there is this omnipotent being at the Fed who can push the right buttons and get the best outcome for the economy," said Bob Gelfond, CEO of MQS Asset Management, a global macro hedge fund based in New York. "There is a refusal to just let things in the economy play out," Gelfond added.

But the 10-year Treasury yield is at 2.17%, not much higher than its record low! So it's a great time to refinance or buy a home .. if you can find a bank to approve your loan. Oh yeah. More liquidity is not the answer. The economy isn't being constrained by the affordability of credit. Turning the U.S. into Japan so we can have even lower rates isn't going to help.

"Quite frankly, the problem existing in the economy right now is whether or not businesses feel confident enough to ask for loans or for consumers to qualify for one," said Terry Clower, director of the Center for Economic Development and Research at the University of North Texas. "Do we want to encourage borrowers to take on more debt they can't afford?"

Another possible consequence of more easing is that it could devalue the dollar and lead to higher commodity prices. Even if that isn't textbook inflation per se, the last thing the U.S. consumer needs is to pay more at the gas pump and grocery store.

Dan North, chief economist with Euler Hermes, a credit insurer in Baltimore, worries that the Fed might be willing to risk that in order to prove it is trying everything it can to get growth back on track. "It's possible we'll get QE3 because it seems like the Fed always has to be doing something," North said. "But the problem is that you can't erase injecting that much money into the financial systems without some inflation concerns."

However, the Fed might be able to help matters with a more targeted form of easing. Doug Cote, chief market strategist with ING Investment Management in New York, said if the Fed were to only buy mortgage-backed securities, that could push mortgage rates lower without the potential nasty side effects of creating pricing pressures. Tarullo has in fact proposed such a plan.

But Cote said that the Fed would also have to work with mortgage buying agencies Fannie Mae and Freddie Mac as well as banks to loosen some of the constraints on who can refinance. Dudley has said this is something he favors too.

Lower rates still won't help if nobody can take advantage of them. Cote argues that any borrower current on their mortgage should be allowed to refinance, even if the value of their home has plunged. "I am against the concept of indiscriminate bond buying. That exposes taxpayers to a lot of risk," Cote said. "But broadening the base of borrowers that can refinance by eliminating constraints on people with underwater mortgages can only help consumers."

That may be true. Still, the Fed would be foolish to keep throwing money at the problem. It can't stay in firefighter mode indefinitely.

The latest gross domestic product figures will be released by the government on Thursday. According to 21 economists surveyed by CNNMoney, GDP for the third quarter is expected to rise at a 2.5% annualized pace.

That's still not fantastic, but it would be a major improvement from the first half of the year. And as long as the economy is in slow growth mode as opposed to a full-blown crisis, it's just greedy to expect the Fed to step in all the time with more bond buying.

Sure, investors may want and crave more quantitative easing. The market, to paraphrase Robert Palmer, might as well face it: It's addicted to liquidity. (Cue the tall girls with the pulled-back hair and short, black dresses!)

Anything that pushes borrowing costs down further, makes bonds less attractive and weakens the dollar is like manna from heaven for the earnings power of big multinational companies. But the Fed should not bow to the demands of traders.

After all, the hole we're still trying to dig out from was partially created by a period of easy money that lasted too long. "All of the QE3 talk is just trying to put Humpty Dumpty back together again so we can go back to 2006," Gelfond said. "It just prolongs the inevitable."

A Big Rally Can Stir Worries, Too
by Michael Santoli - Barron’s

October's 18% stock climb in 18 trading days irked the bearish, the under-invested and the careful long-term buyer almost equally. Behind the grumbling.

Even some very good things can happen too quickly, and with too little subtlety, to be truly enjoyed. The tire-squealing, needle-pinning October rally would seem to qualify as one. Surging more than 18% from its midday Oct. 4 low in 18 trading days, this move was vertical and undifferentiated enough to displease the bearish, the under-invested and the careful long-term buyer almost equally.

"Undifferentiated" here is meant to suggest that "everything" that carried risk went up at once when anything did, further evidence that most pieces of the market remain highly correlated with one another.

Ned Davis Research has been among the numerous longtime market watchers marveling at the unity with which stocks are either rising or (rare as it's been this past month) falling. Since 1972, the median correlation of an Standard & Poor's 500 member stock to the S&P index itself over the prior three months has been 0.46, meaning 46% of individual stocks moved the same way as the index. It hit 0.86 a week ago Friday in a rising tape, a level exceeding the day of the 1987 crash and one usually associated with panicky crash-like days.

This all-or-nothing character can also be seen in the frequency of days in which at least 90% of all stocks in the broad S&P 1500 move in one direction. Wayne Kaufman, market analyst at John Thomas Financial, says this happened 14 times in 2006. The next four years' tallies were 23, 39, 44 and, last year, 47. So far this year there have been 58 such days, including 33 of the past 62.

Explanations range from the prevalence of hyperspeed cyber traders to the ascendance of exchange-traded index funds as preferred vehicles for the fast money. But this sort of monochromatic action also tends to accompany markets in which all-or-nothing macroeconomic or systemic issues dominate the buy-sell decision on a daily basis.

Many folks more comfortable in a stair-step, gently trending market grumble that the abundance of multi-percent single-day moves in the Dow is unnatural, rigged by the robot traders and somehow makes analysis or prediction fruitless. Yet most of the top 10 biggest one-day Dow changes happened in the 1930s.

Straight-down markets might be worse for the typical investor, but in their own way markets that rise so quickly and uniformly are a stockpicker's nightmare, mocking the notion of waiting for prudent entry points and fouling the typical hedge-fund manager's careful tack of trading one preferred item against another less worthy one.

Thursday's spring-loaded 3% jump in stocks after the European authorities offered the latest contours of a plan to handle the Greek debt rescue and bank backstop prompted yet more exasperated commentary. "But this doesn't actually solve the problem," went the common complaints, "and all the details aren't worked out."

That's true, of course. But the market hadn't been rallying for three weeks prior because it was anticipating that a few dozen elected and appointed summit attendees were on the verge of solving Europe's structural economic and fiscal issues in one stroke. Mainly it was that stocks, sporting undemanding valuations, were benefiting from the collision of firmer domestic economic and earnings news and an overly skeptical investor community.

What the Europe news added to the mix was assurance that Greek default wouldn't immediately trigger a chain reaction of credit-default-swap payouts, collateral demands and liquidations that could slam banks on both sides of the Atlantic. This was achieved by making the banks' agreement to take 50 cents on the dollar for Greece's debt "voluntary," such that it didn't hit the CDS trip wire.

Want evidence of that? Credit markets here, which had declined to participate in the equity joyride to that point, rallied hard. And Morgan Stanley (ticker: MS), which had been in traders' cross hairs of the euro worries for its exposure to Continental banks, had its shares soar 16% Thursday, on a day when the overall bank index was up 6%.

After Thursday, 100% of the stocks in the S&P 500 financial sector were above their 50-day average; about a month earlier, not one was. So you say you want to be a trader?

Sometimes, when enough folks are positioned for the world to end rapidly, the mere suggestion that it might occur gradually is enough to energize the bidders. Leaving now the question of where, with the market up huge in a month but just 2% this year, things might go from here.

Perhaps counterintuitively, similar moon-shot rallies through history have meant neither that the buying stampede would continue right away nor that it would be given back quickly. Numerous studies show that in prior such instances, stocks were flattish on average one and three months later, but higher six months hence by an above-normal amount, for what that's worth.

The past week has also kept this year's summer-flop-and-autumn-pop course hewing, to a remarkable degree, to the 1998 sawtooth pattern highlighted here last week. The down-up-down-up moves from late July through October were quite similar in magnitude. As noted, this is an optimist's analogy, given the power of the late '90s bull and superior macro environment, which carried on for another year and a half beyond Halloween 1998. But can it be dismissed out of hand?

We won't have to wait too long for some potential gut checks of this rally. This week promises important monthly economic releases on manufacturing and employment, the waning of quarter-end technical effects, and a two-day meeting by Fed policy makers, followed by a news conference. We'll be listening.

It Turns Out That MF Global Holdings Chief Executive Jon Corzine picked a pretty poor time to increase the brokerage firm's risk-taking metabolism early this year, in part by making a big, opportunistic bet on some European government debt. Barron's also showed poor timing in endorsing this strategy and suggesting MF Global (MF) was a worthy investment in a feature story several months ago ("For Jon Corzine, a Challenging Act III," Feb. 21), when the shares were above 8.

In several days of reckoning last week, the stock fell to 1.20, as the market began expressing alarm about whether MF could survive intact. The firm reported an unexpected quarterly loss, as the riptide markets of the past couple of months caused it to pull back from the very kind of principal trading Corzine -- the former Goldman Sachs chief, U.S. senator and New Jersey governor -- ad made a recent priority, as a complement to its large core futures-brokerage business.

The firm also offered greater detail on its $6 billion exposure to short-term debt of the "peripheral" European countries. It turns out the positions seem quite manageable in all but an utter washout scenario over there. All the debt they've bet on, in order to lock in an attractive interest spread, matures before the end of 2012, is financed exactly to match each maturity, includes no Greek paper and is mostly cleared through a central clearing house, minimizing risk related to counterparties.

The company figured that a worst-case scenario would cost a mere $1 of its current $7 in tangible book value per share. It has ample liquid capital, and a few international futures exchanges released statements declaring MF to be in good standing.

But all that stopped mattering when two rating agencies downgraded MF's debt below investment-grade status. This is often a trigger event for an investment dealer that finances itself in the open markets and via customer cash deposits. As its shares collapsed, the value of MF's corporate debt rushed down to distressed levels.

When a firm's ratings are cut below investment grade, warranted or not, trading customers are often motivated to reduce or pull account balances, and other brokers demand more collateral for trades. As Sandler O'Neill analyst Richard Repetto put it, "The self-fulfilling 'aggregate' risk to clients has grown as MF tries to swim upstream against what could be misperceptions of its financial strength and risk-management practices." The inevitable reports that MF had retained an advisor to "explore strategic alternatives" followed.

In other words, at press time the company -- with a market value that has shrunk this year from more than $1.5 billion to little more than $200 million -- was fully in salvage mode, seeking buyers for all of parts of itself. Fewer than five possible bidders were said to be engaged, and a deal appeared possible over the weekend.

The Wall Street Journal reported Friday afternoon that potential buyers for the firm or some pieces, mainly its futures brokerage, included Goldman Sachs (GS), State Street (STT) and Australia's Macquarie Group (MQG.Australia). MF declined to comment.

Analyst Niamh Alexander of Keefe Bruyette & Woods Thursday took a stab at valuing MF under three hypothetical scenarios: a sale of the whole firm, divestiture of its futures brokerage and a transfer of futures-customer assets and support infrastructure while winding down the remainder of the firm. They result, depending on the outcome and certain assumptions, in potential ultimate per-share value of zero to $5 per share, in Alexander's view.

The bottom line is that Corzine's ambitions for MF outran its capital resources and the confidence of the markets, once the firm ran into one of the most unforgiving market periods in a long time.

As a result, the stock is no longer an investment, but an instrument to bet on how many customers have already defected, the remaining strength of the MF franchise and the appetites of potential acquirers -- and whether any deal might result in much value for equity holders at all. 

Default Insurance Market Takes Hit
by Serena Ng and Katy Burne - Wall Street Journal

A vast market in which banks, hedge funds and investors trade insurance against debt defaults got a jolt Thursday, sparking worries of new strains in the global financial system.

Under the broad deal reached this week to stem the euro-zone's financial crisis, holders of credit-default swaps on Greek government bonds aren't expected to receive any payout, even though a preliminary agreement between financial institutions and European policy makers would recognize just half the face value of some Greek debt.

The decision not to trigger the swaps raises questions about the value of the insurance-like contracts and exposes the limitations of the hedging strategies that banks and investors have come to rely on. The swaps are widely used by bondholders and major banks to defuse a wide range of risks, and by traders to bet on market trends. If the swaps don't pay out when bonds default, banks and funds that bought the insurance may face losses they thought they had hedged.

In the case of Greece, losses appear to be manageable because of the country's relatively small size. Up to $3.7 billion in credit-default swap, or CDS, payments would change hands in the event of a default, a far cry from Greece's €350 billion ($496 billion) government debt.

Global markets applauded the euro-zone deal, with stock and bond prices rallying. But some market observers warn that Thursday's decision could prompt investors to back away from trading swaps on other European countries, potentially reducing demand for government bonds and further constraining credit.

"You need the real money guys, the banks, to view [credit-default swaps] as a viable contract for CDS to be a real market," said Adam Fisher, chief investment officer at hedge fund Commonwealth Opportunity Master Fund Ltd., and a trader of sovereign credit-default swaps. The deal reached Thursday, he said, could "kill off the market."

Many U.S. and European banks purchase the default swaps on sovereign bonds to hedge their exposures to individual countries, or financial institutions and corporations they have lending or other relationships with. Buyers of the swaps make periodic payments to sellers in exchange for the protection, and if bonds default, the sellers make payouts to the buyers.

The deal European leaders reached with banks will see some private holders of Greek debt accepting what they call a "voluntary" 50% reduction in the principal amounts they are owed. That is significant because the terms governing credit-default swaps on European sovereign bonds imply that a voluntary debt restructuring won't trigger payouts to buyers of protection.

European leaders have repeatedly signaled over the past year their desire to avoid debt defaults that would trigger credit-default swap payouts. Politicians have been loath to devise solutions to the debt crisis that end up rewarding speculators and providing them with a windfall from swaps payouts.

"I don't think it's a surprise....People have been aware that European policy makers were trying to avoid" an outcome that would trigger credit-default swap payouts, said Otis Casey, director of credit research at data provider Markit.

Even so, the failure of the swaps to pay out could push some investors out of the market for European government debt, some investors said. "If you owned a sovereign bond and you got scared because you bought CDS thinking it would pay out, you'll realize you would have been better off just selling your bond—and you'll just get rid of everything," said Ashish Shah, co-head of credit at AllianceBernstein.

The cost of default insurance on Greece tumbled Thursday but remains high, showing the country is still far from resolving its debt woes even with the latest deal. Analysts say Greece could still end up defaulting on its obligations or forcing all bondholders to take losses, an outcome that could trigger swap payouts. Default swap costs narrowed for other European countries, too.

Concerns about the possible ripple effects of a default swept financial markets this fall, prompting major banks to offer more information about their exposure to European economies. The biggest U.S. lenders don't stand to lose much on the Greek "haircut." A bigger issue is exposure to economies such as Portugal and Ireland, and much bigger countries such as Spain, Italy and even triple-A-rated France.

Greece Default Swaps Failure to Trigger Casts Doubt on Contracts as Hedge
by John Glover - Bloomberg

The European Union’s ability to write down 50 percent of banks’ Greek bond holdings without triggering $3.7 billion in debt insurance contracts threatens to undermine confidence in credit-default swaps as a hedge and force up borrowing costs.

As part of today’s accord aimed at resolving the euro region’s sovereign debt crisis, politicians and central bankers said they "invite Greece, private investors and all parties concerned to develop a voluntary bond exchange" into new securities. If the International Swaps & Derivatives Association agrees the exchange isn’t compulsory, credit-default swaps tied to the nation’s debt shouldn’t pay out.

"It will raise some very serious question marks over the value of CDS contracts," said Harpreet Parhar, a strategist at Credit Agricole SA in London. "For euro sovereigns in particular, the CDS market is likely to remain wary."

Politicians and central bankers came to a last-minute agreement after banks, the biggest private holders of Greece’s government bonds, were threatened with a full default on their debt, according to Luxembourg Prime Minister Jean-Claude Juncker. ISDA General Counsel David Geen said his organization considered the agreement to be voluntary, even if there may have been "a lot of arm twisting."

Stopping Contagion
Leaders in Brussels agreed to boost Europe’s rescue fund to 1 trillion euros ($1.4 trillion), to recapitalize banks and get a commitment from Italy to do more to reduce debt.

The talks were regarded by many investors as a last-ditch attempt to stem the sovereign crisis, while preventing the contagion to Spain, Italy and Portugal that they feared a default-swaps trigger would cause. The involvement of the Institute of International Finance, which represents lenders, helped progress toward an accord that the EU could portray as non-mandatory.

This approach threatens to affect banks that use credit- default swaps to hedge their holdings of government bonds, forcing them to look at other ways of laying off risk. "It punishes the banks that were well-hedged and managed, and I think it’s just starting to sink in as to what this might mean," said Peter Tchir, the founder of hedge fund TF Market Advisors in New York. "Bank hedging desks are definitely now trying to re-evaluate" their use of default swaps, he said.

Deutsche’s Hedges
Deutsche Bank AG (DBK), Germany’s biggest lender, used credit- default swaps to help cut its net sovereign risk related to Italy to 996 million euros ($1.4 billion) as of June 30, from 8.01 billion euros six months earlier, Chief Financial Officer Stefan Krause said July 26. The Frankfurt-based lender said this week it has since increased its risk associated with the nation’s debt as it stepped up market making.

"If they find a way to avoid a trigger event in the CDS, then people will doubt the value of credit-default swaps in general, leading to more dislocations in the market," said Pilar Gomez-Bravo, the senior adviser at Negentropy Capital in London, which oversees about 200 million euros. Credit-default swaps pay the buyer face value in exchange for the underlying securities or the cash equivalent should a borrower fail to adhere to its debt agreements.

Schaeuble, Speculators
German Finance Minister Wolfgang Schaeuble is among European politicians who have expressed concern that the contracts have worsened the euro region’s troubles. Speculators can use them to benefit as a nation’s creditworthiness declines because the price of the insurance they offer rises. ISDA’s Geen, speaking today on Bloomberg Television’s "InsideTrack" with Erik Schatzker, said that the agreement probably won’t trigger the swaps because it’s voluntary, despite the possibility of some "coercion."

The matter "is borderline," he said, adding that whether to trigger credit-default swaps on Greece is a matter for ISDA’s Determinations Committee. Default swaps still rallied on optimism the agreement means the euro region is a step closer to resolving its crisis.

The Markit iTraxx SovX Western Europe Index of contracts on 15 governments declined 46 basis points to 288 as of 2 p.m. in New York, the lowest since Aug. 31. That’s still almost 100 basis points higher than at the end of last year. The Markit iTraxx Financial Index linked to the senior debt of 25 European banks and insurers plunged 37.5 basis points to 204, JPMorgan Chase & Co. prices show.

Greek Swaps Rally
The cost of insuring Greek debt fell. Credit-default swaps backing $10 million of the nation’s bonds for five years cost $5.6 million in advance and $100,000 annually, according to CMA, which is owned by CME Group Inc. and compiles prices quoted by dealers in the privately negotiated market. That implies an 85 percent chance of default assuming investors recover 32 percent of their holdings. The probability is down from 90 percent yesterday, when the upfront cost was $6 million.

The net notional value of default swaps outstanding on Greece has fallen from $5.3 billion at the start of the year, according to the Depositary Trust & Clearing Co., which maintains a warehouse of trading data. The total is a fraction of the $390 billion Greek bond market.

Greek bonds soared and the euro strengthened. The yield on the 10-year note dropped to 23.35 percent, from 25.32 percent yesterday and compared with 12.5 percent at the end of last year. The 17-nation common currency gained to a 1 1/2-month high of $1.4232 from $1.3906 yesterday, adding to its 6 percent advance this year.

Hedging Tool
Tchir of TF Market Advisors said be doubts whether the Greek debt exchange’s likely failure to trigger credit-default swaps means the contracts have become useless as a hedging tool. "Whoever agrees to this is making a business decision that it’s worth doing," he said. "They’re clearly being coerced into it and, I’m sure, threatened with all sorts of regulatory actions just to make their life difficult if they don’t agree. But there’s really nothing to stop them from saying no."

ISDA too rebuts suggestions that the swaps not paying out means they don’t work as a hedge in a statement on its website. "It has always been understood that the restructuring definition cannot catch all possible events," according to the statement. "If a creditor is hedging using CDS, and declines to participate in a voluntary restructuring, then the creditor would still hold its original debt claim and its CDS hedge."

Exchange Terms
Much still needs to be resolved after the 10-hour Brussels talks, including how to strengthen the euro region’s 440 billion-euro bailout fund and what banks will get in return for accepting the writedown on their Greek bonds. This includes the collateral they’ll be given and whether future bank debt is backed by a national or European guarantee. Either way, the deal will likely be structured as a voluntary agreement to avoid a default-swap trigger.

"It is symptomatic of the regulatory and legal goalposts being constantly shifted either randomly or to suit political interests," said Marc Ostwald, a fixed-income strategist at Monument Securities Ltd. in London. "For genuine long-term investors, either financial or non-financial, it’s a major liability."

Voluntary or forced? The important word games of debt default
by Nicolas Johnson - The Globe and Mail

When is a default not a default?

Investors struggled with that question Thursday after European officials outlined plans that would see owners of Greek bonds take a 50 per cent loss on the face value of their holdings. Banks, hedge funds and speculators betting on such a move had bought a net $3.7-billion (U.S.) of credit default swaps, a type of insurance, to protect themselves against the possibility that Greece would not be able to pay its debt.

In theory, a CDS is supposed to pay off in the event of a default. In practice, however, determining what constitutes a default can be a contentious issue. The International Swaps and Derivatives Association, an industry group that oversees the CDS market, says the Greek deal probably won’t trigger default clauses in CDS contracts because the 50 per cent “haircut” is voluntary.

That view is starting to roil the $25-trillion market for credit default swaps because it calls into question the fundamental reason for purchasing insurance against losses on bonds. If investors can no longer count on being able to hedge against the possibility of a loss, they may start demanding higher yields as compensation for increased risk.

“I would think [such a ruling by the ISDA] would be quite a negative for the market,” said Lawrence Chin, director of research at the Cundill division of Mackenzie Financial. “You could get hit on the debt, but you don’t get the insurance [payout].”

The European plan for how to handle Greek debt has raised so many questions for CDS holders that the ISDA prepared a special question-and-answer document in response. “Based on what we know it appears from preliminary news reports that the bond restructuring is voluntary and not binding on all bondholders,” the ISDA said on its website Thursday. “As such, it does not appear to be likely that the restructuring will trigger payments under existing CDS contracts.”

But things can be confusing, even at the ISDA. In a version of the Q&A dated July 8, the ISDA asks, “Does it matter whether the event is ‘voluntary’ or ‘mandatory’ ”? Answer: “The CDS Definitions do not refer to a distinction between voluntary and mandatory events, though it does come up indirectly.”

Then there’s the matter of just how voluntary the latest agreement really is. Banks may have agreed to take a 50 per cent loss on their Greek debt holdings to avoid an even worse deal. David Geen, general counsel for the ISDA, acknowledged in an interview on Bloomberg Television that there was likely some “coercion” of banks by European officials. “There’s been a lot of arm twisting,” he said, but asserted that while the deal may have been “borderline.” it still fell short of being a default.

The Determinations Committee of the ISDA will make a final decision on whether the Greek deal triggers CDS payouts “when the proposal is formally signed, and if a market participant requests a ruling from the DC,” the association said in its Q&A. If investors lose confidence in CDS as a way to protect against losses on debt, they could cut down on their lending to highly indebted countries.

Less investment could lead to slower economic growth, Steven Tananbaum, managing partner and chief investment officer at GoldenTree Asset Management, said at a conference in New York. “If you can’t hedge your position, you shrink your position,” Mr. Tananbaum said.

"Standard" Credit Default Swaps on Greece Are a Sham and It’s Not a Surprise
by Janet M. Tavakoli - Tavakoli Structured Finance

Credit Default Protection: Caveat Emptor

"Standard" Credit Default Swaps on Greece Are a Sham and It’s Not a Surprise. At least it’s not a surprise to any financial professional that has paid attention to the false reassurances that the International Swaps and Derivatives Association, Inc. (ISDA) has given over the years to naïve participants in the credit derivatives market.

"Customers" that accepted ISDA documentation when buying credit default protection on Greece are now discovering that ISDA defends the position that a 50% discount on Greek debt is "voluntary" and therefore not a credit event for credit default swap payment purposes according to its documents.

This makes the ISDA "standard" credit default swap (CDS) ineffective as a hedge for the widened spreads (reduced price) of Greek debt, and it makes it ineffective as a protection against default using reasonable standards of impairment to define default. ISDA can defend ambiguous definitions so that payment on the credit default swap is virtually impossible.

First Step in a CDS: Protect Yourself from the ISDA Cartel
As previous sovereign problems have illustrated, the only way to buy protection is to rewrite the flawed ISDA "standard" document and agree to new more sensible terms, before concluding the initial trade. One has to first protect oneself from the ISDA cartel "standard" documentation before one can buy sovereign default protection, or any other protection for that matter.

I explained the need to rewrite ISDA documentation in some detail to the IMF in April 2005. In the intervening years ISDA documentation changed, but the need to rewrite it remained the same. I cannot stress enough that the International Swaps and Derivatives Association, Inc. (ISDA) "standard" documentation touted by that organization does a grave disservice to unwary credit default protection buyers.

The first thing a credit derivatives trader needs to do when presented with such a document is to rewrite it and agree upon new terms before the trade. There is no such thing as "standard" documentation in the credit derivatives market, particularly the sovereign credit derivatives market.

Credit default swap documentation has a long history of problems. This isn’t the first time investors have been burned in the sovereign credit default swap market. Hedge funds Eternity Global Master Fund Ltd. and HBK Master Fund LP thought they purchased protection against an Argentina default and sued when J.P. Morgan refused to pay off on Argentina credit protection contracts they had purchased.

At issue was the definition of restructuring. Did Argentina's "voluntary debt exchange" in November of 2001 meet the definition of a restructuring? The Republic of Argentina gave bondholders the option to turn in their bonds in exchange for secured loans backed by certain Argentine federal tax revenues. J.P. Morgan claimed this didn't meet the definition of restructuring, at least for the protection it sold to Eternity.

J.P. Morgan's story was different when it wanted to collect on the protection it bought from Daehon, a South Korean Bank. J.P. Morgan claimed its slightly different contract language met the definition of restructuring under the credit default protection contract it had with the South Korean Bank.

In other words, J.P. Morgan made sure its contract language would allow it to get paid when it bought protection and would make it harder for its counterparty to get paid when it sold protection.

Language Arbitrage: You’re Not a Sucker, You’re a Customer
Banks that play this game call it "language arbitrage." Anyone that bought sovereign credit protection on Greece after accepting ISDA "standard" documentation without modifying the language now finds that they are on the wrong side of an "arbitrage."

An arbitrage is a riskless money pump. In this case, it means that money has been pumped out of credit default protection buyers with no risk to their counterparties, the financial institutions that ostensibly sold them credit default protection on Greece.

Europe's rescue euphoria threatened as Portugal enters 'Grecian vortex'
by Ambrose Evans-Pritchard - Telegraph

Monetary contraction in Portugal has intensified at an alarming pace and is mimicking the pattern seen in Greece before its economy spiralled out of control, raising concerns that the EU summit deal may soon washed over by fast-moving events.

Data released by the European Central Bank show that real M1 deposits in Portugal have fallen at an annualised rate of 21pc over the past six months, buckling violently in September. "Portugal appears to have entered a Grecian vortex and monetary trends have deteriorated sharply in Spain, with a decline of 8.4pc," said Simon Ward, from Henderson Global Investors. Mr Ward said the ECB must cut interest rates "immediately" and launch a full-scale blitz of quantitative easing of up to 10pc of eurozone GDP.

The M1 data - cash and current accounts - is watched by experts as a leading indicator for the economy six months to a year ahead. It has been an accurate warning signal for each stage of the crisis since 2007.

A mix of fiscal austerity and monetary tightening by the ECB earlier this year appear to have tipped the Iberian region into a downward slide. "The trends are less awful in Ireland and Italy, suggesting that both are rescuable if the ECB acts aggressively," said Mr Ward.

A shrinking money supply is dangerous for countries with a high debt stock. Portugal’s public and private debt will reach 360pc of GDP by next year, far higher than in Greece.

Premier Pedro Passos Coelho has been praised by EU leaders for sticking to austerity pledges under Portugal’s EU-IMF rescue, but the policy is pushing the country deeper into slump and playing havoc with debt dynamics.

The EU deal was not designed to deal with such a threat. The working assumption is that Greece alone is the essential problem, and that other troubles are under control or caused by jittery markets.

Officials hope that debt relief through private sector haircuts of 50pc will be enough for Greece claw its way back to viability, and that spillover effects can be contained by bank recapitalizations, raising core Tier 1 ratios to 9pc with €106bn of fresh capital.

A boost in the €440bn bail-out fund (EFSF) to €1 trillion or more - by opaque means - will supposedly create a "firewall" to rebuild market confidence and stop contagion to the rest of Club Med.

This rescue machinery may prove to be a Maginot Line if -- as many economists think -- the danger comes from within Portugal, Spain, and Italy. Like Greece, these countries have lost 30pc in labour competitiveness against Germany since the mid-1990s. That is the root of the EMU crisis. A toxic mix of fiscal tightening, higher debt costs, and now the threat of a eurozone recession risks tipping them over the edge.

The hairshirt summit ignored this dimension of the crisis. Italy was ordered to cut further, balancing its budget by 2013. The mantra was "rigorous surveillance" of budgets and "discipline". There will be laws to enforce "balanced budgets", and EU officials will have extra powers to vet economic policy.

This marks a step-change in the level of EU intrusion. Greece will be subject to a "monitoring capacity on the ground", implying a vice-regal EU presence calling the shots in Athens. German Chancellor Angela Merkel said the goal is to create a "stability union", not a fiscal union. There will be no joint bond issuance, no shared budgets, no debt pooling, and fiscal transfers. The elevation of EU commissioner Olli Rehn to post of economic tsar does not change this.

Germany has dictated the agenda, vetoing calls to mobilize the ECB’s full firepower to halt the crisis. The Bundestag even ordered Mrs Merkel to insist on ECB withdrawal from existing bond purchases.

Jean-Luc Mélenchon, leader of the French leftist Front, said Europe is now marching to Germany’s drum and "headed for disaster", a view gaining ground across Europe’s Left.

Albert Edwards from Société Générale said the ECB will have to act, over a German veto if necessary. "The increasingly frenzied attempts of eurozone governments to persuade financial markets that they can draw a line under this crisis will ultimately fail." "The impending threat of a euro break-up will force the ECB to begin printing money, very reluctantly joining the global QE party. The question is whether Germany will leave the eurozone in the face of such monetary debauchery," he said.

Whether the EFSF alone is up to the job of containing the euro crisis may depend on how it is constructed. The apparent plan for "first loss" insurance on bonds concentrates risk, endangering the AAA rating of France and other creditor states that anchor the fund. "It is too complex and potentially dangerous," said RBS.

Japanese investors who bought the first EFSF bonds this year under entirely different assumptions are facing big losses as the instrument loses market credibility. They are angry that the fund has metamorphosed into a high-risk monoline insurer. The fund will in any case cover only new issues of debt. This instantly degrades old debt. There will be abritrage between insured and insured countries. Market forces are being profoundly distorted.

China may participate in a special purpose fund to buttress the EFSF, but only as a quid pro quo for industrial and trade concessions. French Green leader Daniel Cohn-Bendit said Europe was making a "dangerous mistake" by going cap in hand to Beijing.

RBS said market euphoria is unlikely to last long. The precedent of de facto default in Greece - which the EU authorities once promised to prevent - will cause investors to "reprice" the sovereign debt of all vulnerable states. "The summit solves one problem by creating another. We expect the market to deteriorate and see the ECB as the only backstop," said the bank.

Europe’s leaders are betting that a reduction of red tape and a radical shake-up of the labour markets will unleash growth in Greece, Portugal, Italy and Spain, a decade hence. In the meantime, the governments of these near helpless countries must soldier on with perma-slump, and riot gear, and pray for a miracle.

A Spotlight Now Shines on Italy
by James B. Stewart - New York Times

It finally dawned on me this week that the value of my retirement account might depend on Silvio Berlusconi.

You know Mr. Berlusconi. He is the billionaire prime minister of Italy who not only owns much of the Italian media but also provides them with ample material through his escapades. By his count, Mr. Berlusconi has survived 577 police interrogations and 2,500 court appearances related to innumerable legal and political scandals, not to mention enough suspected sexual adventures to top Hugh Hefner.

And often the adventures and scandals have overlapped. Last year, he was accused of intervening with the police in Milan to obtain the release from prison of a 17-year-old prostitute charged with theft, who said she’d participated in orgies with the prime minister at private villas.

This might have remained diverting tabloid fodder for most people outside of Italy, but this week the country moved to center stage in the European debt crisis, pushing Greece, Ireland, Portugal and Spain at least temporarily into the wings and allowing Mr. Berlusconi to assume what seems to be his natural place, which is in the spotlight.

On his 75-year-old shoulders rests the task of shoring up Italy’s finances so that the European Central Bank buys more Italian sovereign debt, to gain French and German support for a larger bailout fund to protect Italy’s banks, and to keep Italy from becoming another Greece and plunging the world into an even more devastating financial crisis.

This remains the case even after the latest effort by European heads of state to put the crisis behind it. Nothing they said could change the fact that Italy has $2.6 trillion in sovereign debt outstanding, the fourth-largest debt in the world after the United States, Japan and Germany.

Much of this has to be rolled over — $54 billion in February 2012 alone, according to a Goldman Sachs report. Italy is the world’s eighth-largest economy. Both Moody’s and Standard & Poor’s recently downgraded Italy’s debt ratings and warned of more to come, pushing up borrowing costs and widening credit spreads.

Greece’s debt is modest by comparison, and the fierce effort waged by European banks to avoid a huge write-down on the value of their Greek loans was less about Greece then about setting a precedent that could extend to Italy and other heavily indebted countries. Outside of Italy, French banks have the biggest exposure to Italian sovereign debt — over $500 billion, according to Goldman Sachs. And who knows what institutions (including American ones) insured all that debt?

Although markets keep looking for a quick fix to Europe’s problems, Chancellor Angela Merkel of Germany has rightly said that solving the crisis will be a lengthy process. A critical element is getting Italy’s financial house in order, which includes balancing its budget and spurring growth so that tax revenue grows and borrowing costs stay low.

In August, Mr. Berlusconi promised ambitious reforms to get the European Central Bank to buy Italian debt. Among them were raising the retirement age, raising taxes on the wealthy and opening up the professions to more competition. By last Sunday, as European leaders prepared for a critical meeting on the debt crisis scheduled for Wednesday, Mr. Berlusconi had accomplished none of that.

Perhaps that shouldn’t have been much of a surprise. However reasonable in the abstract, the reforms go to the heart of the Italian way of life, which should be obvious to anyone who has whiled away a few hours in one of Italy’s picturesque Renaissance squares watching Italians leisurely sipping cappuccinos.

Although Italy has one of the lowest unemployment rates in Europe (7.9 percent as of August), that’s because so many people aren’t looking for jobs. Only 57 percent of people ages 15 to 64 were employed in 2010, one of the lowest rates in the world.

Whatever the official retirement age (60 for women, 65 for men), under Italy’s complex retirement laws anyone qualifies for a pension after 40 years of contributions, and thanks to earlier and more generous programs, many retire even sooner — over half a million Italians retired before age 50, according to a small business group report released this week.

With this week’s deadline for Italy’s reform measures looming, Ms. Merkel and President Nicolas Sarkozy of France took Mr. Berlusconi to the woodshed. You can imagine the chill in the room after Mr. Berlusconi was captured on a wiretapped phone conversation just weeks earlier describing Ms. Merkel’s physical appearance in terms so vulgar that not even most Italian tabloids printed them (although they were widely disseminated on the Internet).

Asked at a televised press conference this weekend whether the French and German leaders were reassured that Mr. Berlusconi would carry out the latest promised reforms, Ms. Merkel turned to Mr. Sarkozy, he looked back with an impish grin, Ms. Merkel grinned in return and the room burst into laughter.

In Italy this was taken as an affront to the national character. Milan’s Il Giornale newspaper compared Mr. Sarkozy’s "smirk" to the head butt delivered to the Italian soccer player Marco Materazzi by Zinedine Zidane of France in the 2006 World Cup final — practically fighting words in soccer-obsessed Italy. Even opposition politicians rallied to Mr. Berlusconi’s defense. "No one is authorized to ridicule Italy," Pier Ferdinando Casini said. "I didn’t like Sarkozy’s sarcastic smile."

The heated reaction is about much more than a few grins at a press conference. I spoke this week to Domenico Fanuele, managing director for Italy at the law firm Shearman & Sterling, who said, "Italians are losing their sovereignty.

Someone else is telling us what we have to do, and within a certain time frame, and this has nothing to do with the democratic process within Italy. This is something that is being imposed from outside. On the one hand, it injects some sanity and rigor and discipline into the system. On the other hand, it’s frightening, because it weakens the democratic process."

"Only the English language has a word for Berlusconi: ‘strong-minded,’ " Mr. Fanuele said. "There is no such word in Italian. Italian politics is very subtle. Corriere della Sera, a very serious, conservative newspaper, asked Berlusconi to step aside, which was so open and direct. I’ve never seen this in my life."

Mr. Berlusconi flatly rejected calls that he resign and denied reports this week that he had agreed to do so in order to get his political allies to agree to the proposed reforms. Whatever his fate, the debate has made clear that what began as an economic crisis for the European Union has inevitably become a political one. Out of the wreckage of World War II, Europe forged an economic and monetary union while trying to maintain the political sovereignty of its countries.

"There’s a fundamental problem with the structure of the European Union and its leadership," Jim O’Neill, chairman of Goldman Sachs Asset Management, said. "The problem is that European actors don’t act in the interest of Europe. They all act in their own domestic political interests. It looks as though the degree of stress has finally brought them to the table."

Mr. Berlusconi arrived at the summit meeting on Wednesday carrying a new letter of intent, one that seemed just as vague about how he would enact them as his earlier promises. American and European markets continue to gyrate on every twist and turn in Europe, and this time rallied strongly on the latest efforts to contain the crisis, easing at least some of the immediate pressure on Mr. Berlusconi. "I hope Italy doesn’t stay in the eye of the storm for very long," Mr. Fanuele remarked.

Mr. Berlusconi’s track record doesn’t offer much encouragement, but let’s hope he finally delivers and Mr. Fanuele gets his wish. If not, as Goldman Sachs noted in a recent report, the high exposure of European banks to Italy "suggests the potential for financial contagion could be large."

Italy at heart of crisis as borrowing costs climb
by James Mackenzie and Valentina Za - Reuters

Italy's borrowing costs jumped to record levels on Friday, underlining its vulnerability at the heart of the euro zone debt crisis and scepticism about whether the struggling government of Prime Minister Silvio Berlusconi can deliver vital reforms.

The 6.06 percent yield paid at an auction of 10-year bonds was the highest since the launch of the euro, and not far from the level reached before the European Central Bank intervened in August to cap Rome's borrowing costs by buying Italian debt.

Italy, the euro zone's third largest economy, is again at the centre of the debt crisis, as fears grow that its borrowing costs could hit levels that overwhelm the capacity of the bloc to provide support amid chronic political instability in Rome.

In a speech in Rome, Berlusconi insisted that Italy would meet its target of balancing the budget by 2013. Tainted by scandal and repeatedly at odds with his coalition allies, Berlusconi has promised European partners a package of measures to spur Italy's stagnant economy and cut its towering public debt, but has failed to convince markets made sceptical by his repeated failure to deliver reforms.

European leaders welcomed a letter of intent on reforms that he delivered to their summit last Wednesday, but emphasised that the measures must now be implemented. "The interest rates that they are paying are punitive," said Monument Securities strategist Marc Oswald. "Italy ... is still the 'bete noire' of the whole euro zone problem."

"They are still going to carry on having to pay higher yields unless they come up with reform plans and implement them. But anyone who expresses an optimistic opinion about that is probably looking through rose-tinted glasses," he added.

France and Germany have expressed open exasperation at a succession of unfulfilled reform promises by Berlusconi, and fear the crisis in Italy could spark a wider emergency that would threaten the very existence of the single currency.

Even if a weakened government manages to pass the promised reforms, most will not come into force until mid-2012. Markets are unlikely to remain patient for so long.

In his speech Berlusconi took aim at the euro, calling it a "strange" currency. "There is an attack on the euro which as a currency has convinced no-one, because it belongs to more than one country but does not have a bank of reference and guarantee," he said, referring to reluctance by Germany and other countries to allow the European Central Bank to be used as a lender of last resort.

He later issued a statement saying his words had been interpreted in a "malicious and distorted" way. "The euro is our currency, our flag. It is precisely to defend the euro from speculative attacks that Italy is making great sacrifices," the statement said.

Berlusconi, who is facing two court cases for accusations of fraud and one for allegedly having sex with an underage prostitute, complained that he faced 37 judicial hearings between now and mid-January. He says leftist magistrates are persecuting him in an attempt to undermine democracy.

Speaking after Wednesday's summit, French President Nicolas Sarkozy addressed fears that the crisis could spread to Italy. "If we had allowed Greece to fall, and the speculation shifted on to attack Italy, the markets would then have said we will allow Italy to fall too, and that would be the end of the euro," he said in a television interview.

As Italy sinks deeper into the debt crisis, tensions in the government have grown sharply, prompting widespread speculation in the press and even Berlusconi's party that the government will fall, leading to an election in 2012, a year early.

"Coalition Is Solid"
Berlusconi, whose ratings have been torpedoed by a mix of scandal and economic and political problems, rejected speculation that he might be forced into an early election. He said his alliance remained solid with the pro-devolution Northern League party, whose leader Umberto Bossi has expressed open scepticism about the survival of the coalition.

"There is an absolute need for political stability and Bossi thinks exactly the same way I do. The pact we have with the League has never been up for discussion," Berlusconi said. "No credible political alternative exists."

This week the League rejected plans to raise the pension age to 67, leading to tense late-night talks before a compromise was reached in time to take to the summit in Brussels. The proposals, including an increase in the pension age, rules making it easier to lay off staff and provisions to place civil servants in special redundancy schemes, have raised fierce opposition from unions and scepticism about whether they will ever be implemented.

In Italy's increasingly murky politics, there has been speculation that the package is part of a deal between Berlusconi and Bossi to take the government to the end of the year before triggering an election in the spring. On Friday, Berlusconi dismissed such suggestions and said an election campaign in the middle of the crisis would be "very seriously damaging to Italy".

Doubts Rise on EU Deal
by Tom Lauricella and Matt Phillips - Wall Street Journal

Bond Investors Skeptical as Attention Shifts to Italy; High Rates for New Debt

Initial relief over Europe's latest attempt to end its debt crisis faded on Friday as investors fretted about the plan's lack of detail and grew more skeptical about Italy's turnaround effort.

One day after European leaders announced a series of measures aimed in part at enticing investors back to the region's debt markets, bond buyers demanded higher yields on Italian and Spanish debt. An auction of new Italian bonds was met with weak demand, forcing the nation to pay higher interest rates than in previous sales.

The wan response from bond markets underscores how challenging it will be for European leaders to convince financial markets that Thursday's broad agreement is sweeping enough to enable troubled countries such as Italy and Spain to work their way out from mountains of debt. The plan calls for beefing up the region's bailout fund, recapitalizing banks and reducing Greece's debt burden.

Stock markets across Europe gave back some of Thursday's big gains. Italy's stock market closed down almost 2% and Spain dropped about 0.5%. In the U.S., the Dow Jones Industrial Average edged up 0.2% to close at 12231.11.

Bond markets are a more important audience for Europe's governments: It is there that financially strapped nations must turn to borrow money. On Thursday, when many stock markets staged strong rallies, bond markets were lackluster. Yields on Italian and Spanish debt declined, meaning their prices rose, but only slightly.

On Friday, attention focused on Italy. The nation is saddled with €1.9 trillion in debt, with more than €200 billion of it coming due next year. Some investors worry that unless Italy lowers its borrowing costs, it could become the center of a renewed flare-up in the crisis.

In Friday's bond auction, Italy was forced to pay more than 6% interest on its new 10-year debt, approaching levels that some analysts said the country can't afford for long. "Italy remains a big problem," said Alessio de Longis, a portfolio manager at OppenheimerFunds. Italy has been failing to deliver on promises, he said. Instead "it's only talk—chiacchiere in Italian," he said.

Under pressure from euro-zone authorities, Italian Prime Minister Silvio Berlusconi has pledged to pass measures aimed at reigniting the country's stalled economy, including reforms to Italy's labor market and pension system.

On Friday, Mr. Berlusconi noted the rising borrowing costs would "further damage our finances." But the prime minister faces significant hurdles in gaining approval for his plan to boost growth. He not only needs to persuade his fractious cabinet to sign off, but also the Italian Parliament, where he has a thin majority.

"The truth of the matter is that the issues are not entirely resolved," said Steven Walsh, chief investment officer at bond manager Western Asset Management, which oversees $433 billion. With this week's agreement, European officials "are addressing the important issues…but the biggest caveat out there is Italian and Spanish debt, where you have not seen a response that 'this is game-over, this is perfect.'"

Despite the bond market's skepticism, many investors and analysts said Thursday's agreement is likely, for now, to prevent a serious escalation of the crisis, which could have tipped the global economy back into recession. They said the effort to shore up the finances of Europe's banks was an important step in addressing a problem that many officials had until recently denied existed.

Still, bond investors see plenty of reason to remain wary. One basic question is whether the plan to expand the bailout fund, known as the European Financial Stability Facility, will succeed. Under Thursday's measures, the EFSF would "backstop" countries such as Italy should they not be able to finance themselves, as well as offer investors a partial guarantee against losses on government debt.

Uncertainly persists on both of those fronts, especially if Italy gets shut out of the bond markets by investor demands for even higher interest rates, which happened to both Greece and Ireland. "The firepower of this fund…is not enough to calm fears," said Silvio Peruzzo, an economist at RBS Global Banking & Markets in London.

Some investors also are skeptical of the plan to use the EFSF to insure against losses on government debt. Under the agreement, the EFSF would absorb the first 10% of losses on debt issued with the insurance. Investors figure that if losses amount to 50%, which was the case with Greece, that wouldn't provide enough protection. "If you had the 10%, it wouldn't help much," said Western Asset's Mr. Walsh.

Another question: To what extent will the European Central Bank be the buyer of last resort for sovereign debt? The ECB started buying bonds of indebted European governments in mid-2010. After an 18-week pause, it restarted the program in August as the euro zone's debt crisis spread to Spain and Italy. But influential voices within the ECB, in particular in Germany, want to end the program.

Bond investors also are worried about the potential for a European recession. RBS's Mr. Peruzzo said a recession "will be much more severe on the countries struggling to get their public finances in order." That could make it more difficult for some countries to reduce their budget deficits, which, in turn, could lead to addition downgrades in their credit ratings.

Those sorts of concerns played out in Italy's €7.935 billion debt sale on Friday. On each of the four bond issues it sold, Italy was forced to pay higher yields than in the recent past. Most significantly, 10-year debt—a market benchmark—was sold at a yield 6.06%, up from 5.86% only a month ago.

"With a 120% debt-to-GDP ratio and 10-year Italian bonds yielding roughly 6%, they can't do that forever or the borrowing costs will get to an unsustainable level," said Eric Stein, portfolio manager at the Eaton Vance Global Macro Absolute Return Fund. "As your rates go up, it means you're paying more and more to service your debt, and your whole debt dynamics become harder and harder and harder."

For Ordinary Greeks, Big Bailout Adds Up to Years of Hardship
by Charles Forelle - Wall Street Journal

In the fading light of a fall evening, Amarillis Visvardis waits for the day's first customer at her clothing store in this city's tony Kolonaki district. She passes the time reading a novel set in 1930s China. No one comes.

Across town, in a neighborhood scarred by drugs, a free health clinic that serves needy illegal immigrants has plenty of clients. Doctors notice something unusual about them: Many are Greeks.

Greece was promised a heap of debt relief at this week's summit of European leaders. But there is little that looks like salvation. The debt crisis has spurred searing austerity measures that will continue for years, and are likely to prolong the country's recession. Bit by bit, Greek society is being stretched, and it is popping at the seams.

The small businesses that form the core of the Greek economy—and the bedrock of the Greek middle class—are closing. The poor are becoming poorer. The fiery street protests are turning nastier. Friday, demonstrators in Thessaloniki, Greece's second city, blocked an annual military parade and jeered the Greek president, who left the scene.

"There is a feeling that things can only get worse, that we will have to live with half the money we had," says Spiros Papadopoulos, a young blogger. "What is at stake is our quality of life, and, for some, their subsistence."

Greece is the canary in the euro zone's coal mine. The bloc's prescription for a crisis spurred by overborrowing and overspending is a dose of radical fiscal rectitude, delivered fast. To regain the confidence of skittish investors, countries are being asked to rip up paternalistic policies that provided stability and comfort to legions of citizens but left the state reeling from the bill. The question is, can it be done without igniting society into revolt?

The outcome will reverberate beyond Greece's borders. A societal collapse would further distance Greece from other countries in the European Union, threatening to unravel Europe's grand postwar project of an ever-closer federation.

The first returns aren't promising. The cutbacks in government spending already have fomented a political insurrection. The ruling socialist party, which entered government two years ago with a 10-seat majority in parliament, now holds the chamber by just three seats. A collapse of the government would upend the bailout plans being negotiated by the EU, likely throwing financial markets into chaos.

There is wide fear that the government, having asked parliament again and again for cuts to meet EU targets, wouldn't survive another round. "We have reached the limits of horizontal, across-the-board wage and pension cuts," says Louka Katseli, a former labor minister and a member of parliament. Ms. Katseli, a Princeton-educated economist, was ejected from the socialist party caucus last week. She refused to vote for an EU-mandated economic-overhaul program that curtailed collective-bargaining rights.

But it is hard to see a solution that doesn't involve more cuts. Alongside its debt relief, Greece will get years of more EU rescue aid, which comes with Teutonic fiscal strictures. Greece's debt currently equals 164% of its gross domestic product. Even if things go according to plan, Greece's debt will fall to 120% of GDP in 2020—twice the EU's limit and roughly where troubled Italy is now.

All this has Greeks staring at years more of pain. Unemployment is high. Retirees are squeezed by pension cuts and rising prices. "The government has managed to improve two things," says Giorgos Athanasiadis, a retired hotel and shipyard employee who had come to a dark café in Athens where men play chess and smoke, their cigarettes yellowing the newspaper clippings and faded tourism posters that pass for decoration. "One is traffic, because cars don't drive around because of the cost of gas. The second is cholesterol, because we don't have money to buy food."

Mr. Athanasiadis lists the dour statistics: hundreds of thousands unemployed and thousands newly homeless. "I don't expect it will go back to normal at least for the next 10 years," says Christos Athanasopoulos, a civil engineer in Athens. Government contracts have slowed, he says, and the cash-poor state has fallen chronically behind on its bills. That has decimated his firm. In 2005, it had 50 employees. Now it has five.

Last summer, he completed a survey for a seven-kilometer stretch of highway to run across northern Crete. He and another subcontractor billed €198,200, or $278,247, to the government department overseeing the project. In December, the government sent a payment of €64,940. He says an official told him the state would pay the rest "whenever we can."

Greece is some €6.5 billion behind on payments to suppliers, among them drug companies that furnish the state health system. Late bills have jumped by more than €1 billion this year. The government has pledged to pay up, but it doesn't have the money.

In a small conference room jammed with rolled-up surveyors' maps, Mr. Athanasopoulos, the civil engineer, lays out a binder of unpaid bills. Behind him, through the window, the Chapel of St. George gleams bone-white atop Lycabettus hill, the city's highest point.

"This kind of business is the one that bears the brunt of this crisis," he says. The five remaining employees are a core group of experienced workers. He doesn't have much for them to do, he says, but he keeps them on in case things ever get better.

Young Greeks aren't waiting around. "A large percentage of new engineers are ready to go to other countries, to Arab countries, Australia, Germany," Mr. Athanasopoulos says. The social and economic upheaval has precipitated a political crisis. The EU has relied on the ability of Prime Minister George Papandreou to force unpopular measures into law through his socialist parliamentary majority. So far, it has worked. But it is strained to the limit.

"The Europe of solidarity, cohesion and cooperation is collapsing," socialist lawmaker Vaso Papandreou said last week in parliament, on the day the chamber narrowly approved a new set of measures. "I vote, but I have a serious problem with my conscience, like many do, about the route this country is on. It is the last time. "

Ms. Papandreou (no relation to the prime minister) stayed with the party, but Ms. Katseli, the former labor minister and current parliament member, refused to vote for the bill. That cut Mr. Papandreou's majority to three. Ms. Papandreou isn't the only one on the fence—several other lawmakers have hinted they, too, could defy the party.

The prime minister has struggled particularly to hold on to the party's old left. Lawmaker Yiannis Dimaras, a former journalist who displays on his office wall a photograph of himself interviewing a fatigue-clad Daniel Ortega in Nicaragua in 1983, declined to support the first bailout in May 2010. It was, he says, "undemocratic" and harmful to vulnerable Greeks. Minutes before the vote, with Mr. Dimaras's position still unclear, Mr. Dimaras says a parliament staffer came with a summons from the prime minister. "Tell him you didn't find me," Mr. Dimaras said.

Mr. Dimaras says he had enjoyed a warm and personal relationship with Mr. Papandreou's father, Andreas, a former prime minister and father of modern Greek socialism. The younger Mr. Papandreou, he says, only met him twice, briefly. Parliament member Panagiotis Kouroumplis, another defector, left this summer after an austerity vote. He supported the first bailout, but, he says, "every single euro we got went for debt. We haven't spent a single euro on development."

Defying the socialist party was "the most difficult moment of my life," says Mr. Kouroumplis, who was blinded in a childhood accident when he and a group of friends discovered a hand grenade left over from World War II. An hour before the vote, he says, he got a text message from his daughter. "I will always support you," it said. "But I don't want you to betray the trust that young people have given you."

He voted no.

Many Greeks blame the political classes for the crisis—and for the lack of resolution. For decades, both the socialist party and the principal opposition conservative party have seized the opportunity, when in power, to pack the civil service with supporters. Greece now has thousands of teachers without classrooms and salaried bureaucrats with no job to do.

The result is both a bloated public payroll and, just as worrisome, a state sector ill-equipped to manage an epochal crisis. "We are afraid of becoming a Third World country," says Apostolos Doxiadis, a prominent writer. "It's not just a financial thing. It's the lack of a functional government. People are afraid that we may be driving toward a failed state."

Mr. Doxiadis and some allies have formed a new political group—a "movement," he says, not yet a party. It calls for massive overhauls of the public service and a rapprochement with Europe. "What is at stake is the destruction of what we have been trying to build, what Greeks have achieved in the last 30 years, post-junta," he says. "The idea that it is collapsing is very, very traumatic."

Ms. Visvardis, the shopkeeper, is the last survivor in a group of three small stores under a colonnade in Kolonaki. The adjacent store has been closed since the beginning of the crisis. The woman who sold leather handbags two doors down gave up last month. Though it's a weekday evening, there's little foot traffic outside. "People are shut in their homes. They don't go out. They are afraid of not having money," Ms. Visvardis says. "We are going to close, all of us."

She says business is down 60% over two years, "maybe more." The austerity measures have taken a direct bite out of sales of her bold, loose-cut sweaters and shawls, her black gloves and chunky necklaces. The government has raised the national sales tax to 23% from 19%. As elsewhere in Europe, sales taxes in Greece are built into retail prices. When taxes rise, retailers have to up their sticker price—which most are loath to do in a recession—or eat it themselves.

Ms. Visvardis ticks off her rising costs: taxes, electricity, business loans. She has about €80,000 in various obligations. Banks call every day. She sends a few hundred euros when she can. "I am trying to pay my debts, trying very hard," she says. "But it is impossible." The shop loses money. She has some inherited real estate, but there are no buyers for it.

Buying the business in 1995 cost her €500,000. For years, it was all but impossible to find a vacant store in Kolonaki. Now they are legion. Another shopkeeper calls, asking if she's had any customers. Ms. Visvardis laughs and says no.

The future, she says, is frighteningly uncertain. "I'm not one of those who blames the troika," she says, referring to the committee of EU bailout inspectors widely seen here as the principal architects of austerity. "We're to blame. But I'm sure even they don't know what to do."

Mr. Papadopoulos, the blogger, says Greeks are fatigued by the stream of reforms that have come with the EU's bailout—and with their failure to produce any wisps of hope. Greece's recession is far worse than the EU authorities predicted, and the country is nowhere near being able to borrow again on its own from private markets, as hoped.

"There's a point where you say, 'I'm sorry…let's fail," Mr. Papadopoulos says. "We'll live poor but we'll have our freedom, and we'll decide what to do."

Italy the key to whether euro rescue plan will work
by John Hooper, Larry Elliott, Jill Treanor and Dominic Rushe- Guardian

Investors demand high price to buy country's bonds as Silvio Berlusconi attacks 'currency that has not convinced anyone'

Silvio Berlusconi, Italy's embattled prime minister, attacked the euro as a "currency that has not convinced anyone" after interest rates on Italy's massive national debt rose to their highest levels since the single currency was launched.

As doubts started to emerge about the "grand plan" to save the euro, investors demanded a high price to buy the country's bonds in a show of no confidence barely 48 hours after Europe's leaders had agreed a new rescue blueprint for the eurozone.

"There is an attack on the euro which, as a currency, has not convinced anyone, because it does not belong to any one country, but to lots that do not, however, have a single government, nor a bank of reference and guarantees," Berlusconi said on Friday night.

The TV mogul who leads the Italian right said: "The euro is an unprecedented phenomenon. That's why there's a speculative attack and [why] it is also turning out to be difficult to place sovereign bonds [in the market]."

The price Italy paid – more than 6% – to sell 10-year bonds alarmed financial experts who say the country's borrowing costs are one key measure of success for the euro rescue package, which was designed to shore up confidence in the eurozone's third largest economy. Italy is also the eurozone's largest bond market.

Elisabeth Afseth, bonds expert at Evolution, said: "It hasn't been easy to convince investors to buy Italian bonds yet. [The rescue package] was created with Italy in mind yet bond yields are back at 6% for 10 years which is an uncomfortable level. I don't think this has given investors much comfort so far. Italy is the key for whether this works or not. I don't think it's looking overly promising at this stage."

Hopes of an immediate cash injection from China into Europe's €1 trillion (£879bn) European financial stability facility (EFSF) were also dashed after Klaus Regling, the head of the bailout, left a meeting in Beijing without a firm offer of support.

"We all know China has a particular need to invest surpluses," Regling said in a reference to the country's $3.2tn foreign exchange reserves. But doubts are emerging about whether the Chinese will be prepared to take the risk of putting billions of euros into the fund.

The rise in Italy's borrowing costs briefly took the shine off stock markets, which recovered some ground later, leaving Wall Street's Standard & Poor's 500 index on course for its best month since October 1974. The Dow Jones industrial average, the biggest index of US stock prices, has soared over 1200 points this month, breaking a record set in April 1999.

Jamie Farmer, executive director at Dow Jones indexes, said the mood had improved. "Recently there have been two significant narratives. First that the US was entering a second recession and second that the eurozone was falling apart," he said. "People have taken a big deep breath. There seems to be a resolution to the euro crisis, while there is a difference of opinion on the strength of the package, confidence is picking up."

After Thursday's euphoria, the FTSE 100 index fell 11.5 to end at 5702 as doubts surfaced about the eurozone rescue plan.

The French continued to place their hopes in investment from China to bolster the EFSF, which needs outside investors to increase its size from its current €440bn. The French finance minister, Francois Baroin, told French radio: "The reality is that China is the third largest shareholder in the International Monetary Fund, and if China via the IMF wants to participate, not by saving Greece or the euro, but by participating in investment, that is a gesture of confidence.

"What is happening in Europe and creating instability is that public and private investors are pulling out."

But economists doubt China will be prepared make an investment on a large enough scale. China's officials "will not want to be seen to risk even more of their peoples' capital on a potentially lost cause," said Julian Jessop, chief global economist at Capital Economics.

Chris Leslie, the shadow financial secretary to the Treasury, used the runup to the G20 meeting in Cannes next week to call on the coalition to back a financial transaction tax "implemented with the widest possible international agreement".

Europe Opting For Discredited Tools to Solve Crisis
by Stefan Kaiser - Spiegel

Not long ago, European governments were blasting the financial products which contributed to the 2008 meltdown. Now, in an attempt to save the common currency, they are turning to those methods themselves. They have become no less dangerous in the intervening years.

It was one of the central lessons of the 2008 financial crisis: Banks and their customers, so went the political consensus, should only invest in products that they were able to understand. That meant that banks should stay away from special purpose vehicles and structured products that used finance tricks to transform questionable debt into sure-fire investments.

That was then. Now, however, just three years later, the tune has changed dramatically. Indeed, it isn't the banks that are eagerly developing new products in an effort to transform large sums of money into even larger mountains of cash. It is the politicians themselves.

At issue is the euro bailout fund known as the European Financial Security Facility (EFSF) which is the focus of a critical European Union summit on Wednesday evening in Brussels. The fund is designed to provide needed funding to heavily indebted euro-zone member states, prop up wobbling European banks and buy sovereign bonds of struggling countries to help keep risk premiums as low as possible. But it's not big enough. With a lending capacity of €440 billion -- backed by €779 billion in guarantees -- the EFSF would be insufficient should Italy or Spain run into trouble.

The German parliament will vote on Wednesday on whether to allow Chancellor Angela Merkel to approve a leveraging of the fund to boost its effectiveness to up to €1 trillion. A test vote on Tuesday indicated that passage of the measure is assured, with just 11 rebels among coalition parliamentarians and broad opposition support.

Don't Totally Understand
Yet it is unclear whether all those voting in favor of leveraging the EFSF totally understand what it means. The original idea behind the EFSF is that the fund would provide 100 percent of any aid necessary for an endangered euro-zone country or would be exclusively responsible for buying up sovereign bonds.

Should a country need €100 billion, for example, it would all come out of the EFSF. Once the fund is leveraged, however, the country in need will still get its €100 billion, but the EFSF will only be responsible for a fraction of that total. The rest will be contributed by private investors that the EFSF attracts using guarantees or other tools. As a result, European leaders hope, the €440 billion lending capacity can be spread much further.

European heads of government, however, still haven't decided exactly how they want to do that. One idea that had been backed by France, that of granting the EFSF a banking license so that it could then loan money from the European Central Bank, has been rejected due to passionate German resistance. But there are still two models under consideration:
  • The first is the insurance model, an idea which originated from Allianz Insurance board member Paul Achleitner. It foresees providing first-loss guarantees on sovereign bonds issued by troubled euro-zone members to make them more attractive to investors. The EFSF would thus not be responsible for the full investment amount. Instead, it would only be on the hook for, as an example, the first 20 percent. Should a country become insolvent and face a 50 percent debt haircut, the loss to investors would be just 30 percent instead of the entire 50 percent. Such a model would allow the EFSF to be spread much further and would, so goes the hope, attract investors to buy bonds.
  • The second model envisions the creation of a special purpose vehicle which other investors could pay into. It would be founded by the EFSF, which would also provide initial capital. But it would also seek investments from others such as the Chinese Investment Corporation, hedge funds or pension funds. The International Monetary Fund indicated on Tuesday that it too was considering involvement. The fund would then be used to buy European sovereign bonds. Investors would be able to choose among various risk classes with varying returns.

In theory, both models could work and encourage investment. But they are also not without risk. Should a country become insolvent, a leveraged EFSF could be depleted much more quickly than otherwise. Imagine an un-leveraged fund: The EFSF would buy a state bond, for example, for €100. Should the country then undergo a 50 percent debt haircut, the EFSF would be left with €50.

'Likelihood of Loss Persists'
But in a leveraged model, the €100 would be used to attract outside investment by guaranteeing the first 20 percent of losses. Should a country then become insolvent and undergo the same 50 percent debt cut as before, the EFSF would lose all of its money by virtue of having provided first-loss insurance to investors.

Furthermore, as Sebastian Dullien of the European Council on Foreign Relations pointed out in a Tuesday blog entry, it is unclear that the insurance model would attract investors at all. Sovereign bonds, he writes, were primarily attractive in the past because of their safety. But a 20 percent first-loss guarantee -- in a world in which sovereign defaults tend to be much larger than that -- does not make such investments any safer.

"Government bonds from crisis countries (would) have a little less downside attached to them should a sovereign default happen," he writes. "But the likelihood of loss persists."

Some are also uncomfortable with the fact that any leveraging model would involve the euro zone engaging in the kind of financial alchemy that they wanted to end just three years ago. "I find it incredible that they are doing exactly the same thing which they have been accusing the banks of doing," says Dirk Schiereck, a banking expert with the Technical University in Darmstadt. "It sounds like state-sponsored gambling."

Out of Options
Indeed, European governments have been heavily critical of similar methods when used by the financial industry. Many banks, for example, used special purpose vehicles to invest in the US sub-prime market -- and lost billions doing so.

But insurance on investments, in the form of credit default swaps, have likewise been blasted as one of the key ingredients of the financial crisis. And the idea of leveraging, borrowing vast sums of money to increase the size of one's investment, has also been looked down upon in recent years. "The fact that countries are now looking to use such methods just shows how great the panic is," says Schiereck. It would appear, he adds, that they have run out of options.

Schiereck doesn't believe that artificially enlarging the EFSF will provide a lasting fix to the crisis. "In the short term, the leveraging strategy could work," he says. "But in the mid- to long-term, it is counter-productive to have a huge pot that takes over all debt. It will only make it more difficult for governments in Rome, Lisbon or Madrid to explain to their voters why they have to pass austerity programs anyway."

Europe’s Punishment Union
by Ambrose Evans-Pritchard - Telegraph

Very quickly, there has been much loose talk about EU fiscal union. What was agreed at 4AM this morning is nothing of the sort. It is a "Stability Union", as Angel Merkel stated in her Bundestag speech. Chalk and cheese.

"Deeper economic integration" is for one purpose only, to "police" budgets and punish sinners. It is about "rigorous surveillance" (point 24 of the statement) and "discipline" (25), laws enforcing "balanced budgets" (26), and prior vetting of budgets by EU police before elected parliaments have voted (26).

This certainly makes sense if you want to run a half-baked currency union. As the statement says, EMU’s leaders have learned the lesson of a decade of self-delusion. "Today no government can afford to underestimate the possible impact of public debts or housing bubbles in another eurozone country on its own economy."

But none of this is fiscal union. There is no joint bond issuance, no move to an EU treasury, no joint budgets with shared taxation and spending, no debt pooling, and no system of permanent fiscal transfers. Nor can there be without breaching a specific prohibition by Germany's top court, a prohibition that could be overcome only by changing the Grundgesetz and holding a referendum.

(Yes, you could argue that leveraging the EFSF bail-out fund to €1 trillion with "first loss" insurance of Club Med debt implies a massive German-Dutch-Austrian-Finnish-Estonian-Slovak transfer one day to the South. But again, is that really a fiscal union? Mrs Merkel says this money will never be needed because the mere pledge will restore market confidence.)

As Sir John Major wrote this morning in the FT, this does not solve EMU’s fundamental problem, which is the 30pc gap in competitiveness between North and South, and Germany’s colossal intra-EMU trade surplus at the expense of Club Med deficit states.

It is therefore unlikely to succeed. It means that Italy, Spain, Portugal, et al must close the gap with Germany by austerity alone, risking a Fisherite debt deflation spiral. As I have written many times, this is a destructive and intellectually incoherent policy, akin to the 1930s Gold Standard. It risks conjuring the very demons that Mrs Merkel warns against.

Sir John is less categorical, but the message is the same. Europe will have to evolve into a fiscal union to make the system work, but that would be inherently undemocratic without a genuine European government, parliament, and civic union. Such a supra-national union cannot enjoy democratic vitality because there is no European demos, or shared view of the world, or indeed any popular support for such a revolutionary step. Such a union would castrate historic national parliaments, to the advantage of whom?

So this "solution" leads ineluctably to an authoritarian regime. Bad situation. The alternative is to break monetary union into viable parts, preferably with the withdrawal of greater Germania from the euro. This is off the table.

So, EMU break-up is Verboten, fiscal union is Verboten, full mobilization of the ECB – either to lift the South off the reefs through reflation, or to back-stop the system as a lender-of-last resort – is Verboten. Germany will have none of it.

Instead we have the summit conclusions – EUCO 116/11 of October 27 2011 – and a great deal of coercion. Please tell me what exactly has been solved.

Italian debt soars on EU bail-out fears
by Jonathan Sibun and Peter Foster - Telegraph

Fears over the ability of the eurozone bail-out to protect the region's embattled members have been heightened after Italy was forced to pay the highest price to issue debt since the launch of the euro.

Italy sold €8bn (£7bn) of 10-year bonds at 6.06pc, a level seen as unsustainable by analysts, in the first major test of market appetite since European leaders agreed steps to tackle the crisis.

Italian leader Silvio Berlusconi is seen as critically weakened and there are doubts he will be able to push through the austerity measures demanded by markets. "[Italy] is still the bête noire of the whole eurozone problem," said Monument Securities strategist Marc Oswald.

In comments that appeared unlikely to calm concerns, Mr Berlusconi issued an extraordinary outburst against the single currency, blaming it for the scrutiny on Italy's finances. He described the euro as a "strange currency" that "has convinced nobody" and claimed that after Germany, Italy had the eurozone's strongest economy.

The outburst came just hours after Klaus Regling, chief executive of the European Financial Stability Facility (EFSF), arrived in Beijing to try to persuade China to help finance the eurozone's bail-out vehicle. China has said there will be no "charity" and Mr Regling warned it would likely take "several weeks" to hammer out a deal.

A Chinese finance minister, Zhu Guangyao, said of the EFSF: "We must wait until its structure is extremely clear... This investment must be decided on after serious, technical discussions."

Mr Regling said the EFSF could team up with the International Monetary Fund (IMF) to attract investment. China has suggested in the past that it is reluctant to invest too heavily in a European-only bail-out structure.

Asked if he believed China would prefer to deal with an IMF-backed vehicle, Mr Regling said: "I came here to find out... It would be one possibility to have an SPV [special purpose vehicle] together with the IMF, but that needs to be explored."

The comments clash with a statement made by Chancellor George Osborne on Thursday when he insisted Britain would not pay for the bail-out via its contributions to the IMF. He claimed it was not within the IMF's mandate to invest in such a fund.

On a visit to Australia, David Cameron said he would work with European Union members outside the eurozone to ensure their interests were not ignored as a consequence of efforts to solve the debt crisis. The prime minister said the European Commission had a duty to look after the concerns of all 27 EU members rather than just the 17 euro nations.

Mr Cameron added that the City was under "constant attack through Brussels directives" in a hardening of the rhetoric against Europe and said it was "important that we safeguard the integrity of the single market of the 27".

In a further complication for the EFSF, Germany's constitutional court suspended the right of a small committee of politicians to approve the bail-out fund's actions. The nine-person group had been given the green light to sanction EFSF matters but its powers were suspended after two German politicians argued it infringed other Bundestag members' rights. Some sources suggested the suspension would curtail the EFSF's power to buy embattled countries' bonds in the market.

A senior Brazilian official, however, suggested the country could put funding into the EFSF, while Japan said it would contribute but warned Europe to make "greater efforts" to solve its problems.

German Constitutional Court Halts Special Euro Panel
by Spiegel

Germany's highest court has issued a temporary injunction banning the work of a new panel convened by the country's parliament to quickly green-light decisions on disbursement of taxpayer funds through the euro bailout program. The decision could lead to further delays in German decision-making in efforts to rescue the beleaguered common currency.

Germany's Federal Constitutional Court on Friday expressed doubts about the legality of a new panel of lawmakers set up by the German parliament to reach quick decisions on the release of funds from the euro bailout mechanism, the European Financial Stability Facility (EFSF). The court issued a temporary injunction banning the nine-person committee in the Bundestag from taking any decisions on the EFSF's deployment of German taxpayer money.

The special committee was recently created in order to be able to provide a quick green light for EFSF aid in especially urgent situations in which it wouldn't be feasible to put the issue up for a vote before the full parliament. The decision from the court, located in Karlsruhe, could also slow down Bundestag approval of the further application of German credit guarantees within the scope of the euro backstop fund.

Peter Danckert and Swen Schulz, two members of parliament with the center-left Social Democratic Party (SPD), submitted their complaint on Thursday, expressing their concern that the nine-member panel might violate their rights as members of the legislative chamber.

The committee had been scheduled to convene its very first meeting on Friday. In September, Germany's highest court ruled that the Bundestag must be given a greater say in euro bailout decisions given the degree to which the common currency rescue could impose on parliament's right to create Germany's budget.

In response, the Bundestag on Wednesday moved to include provisions for parliamentary co-determination of positions taken by Germany on the euro bailout at European Union summits in Brussels. Under the multilevel process -- depending on their importance, urgency and confidentiality level -- decisions can either be approved by the entire 620-member Bundestag, the 41-person budget committee or the nine-member special panel.

'The Bundestag Cannot Be Replaced'
But the SPD members are contesting the law. "The Bundestag cannot be replaced by a nine-member committee on such important issues," Schulz told SPIEGEL ONLINE. Schulz argues that, at a minimum, the Bundestag's budget committee should be included in all decisions.

The politicians have based their complaint on expertise provided by the Bundestag's own research service, which advised that the special panel transfers responsibility to a few and hinders all members of parliament from participating in the shaping of policy.

On Wednesday, the Bundestag tasked the committee -- whose meetings are closed to the public and confidential -- with a supervisory role for the billions of euros in German taxpayer money that are being deployed by the EFSF. It includes members of all of the German political parties represented in parliament and includes an equal number of politicians representing the parties in government and those in the opposition.

Italy gives EU a post-party hangover
by Guy Dinmore, Mure Dickie, Rachel Sanderson, Richard Milne and Quentin Peel - FT

Italy’s borrowing costs have climbed to euro-era highs just a day after European leaders agreed on a new plan to reverse the region’s spiralling debt crisis, a worrying sign they have failed to regain the confidence of key financial markets.

As striking Italian civil servants massed in central Rome to protest against possible forced redundancies, Italy was forced to pay a record 6.06 per cent at an auction of its benchmark 10-year bonds, up from 5.86 per cent a month ago, despite intervention by the European Central Bank on the open market.

The move comes as European officials have turned to China and Japan for possible funding of the eurozone’s bail-out fund. In Tokyo, Japan’s prime minister, Yoshihiko Noda, told the Financial Times he would like to see "even greater efforts" in Europe to "ease crisis worries by creating a stronger and more detailed approach".

The world’s third-largest economy remained concerned about possible contagion. "This fire is not on the other side of the river," Mr Noda said. "Currently, the most important thing is to ensure it does not spread to Asia or the global economy."

Markets increasingly see Italy as the decisive country for how the eurozone debt crisis plays out. Economic reform plans presented by Silvio Berlusconi, prime minister, received a cautious welcome at the Brussels summit but have been criticised by investors as both inadequate and beyond the capacity of his weakened centre-right coalition government to put into action.

"Clearly this does not look like a strong vote of confidence in the package," said Nicola Marinelli, fund manager for Glendevon King Asset Management, commenting on the bond auction. "I think that after the euphoria of Thursday the market is looking for more hard details from Europe."

With Italy needing to roll over nearly €300bn of its €1,900bn debt mountain next year, Mr Berlusconi is under intense pressure from the EU and ECB to push ahead quickly with measures to lift the stagnating economy and avoid following Greece, Ireland and Portugal in seeking a full-scale bail-out that would be beyond the eurozone’s current firepower.

Efforts to bolster that firepower have prompted Europe to look to Beijing and Tokyo for funding. Klaus Regling, the head of the European financial stability fund, travelled to Beijing on Friday in the hope of persuading China to step up support for the beefed-up fund and is expected to also visit Japan.

Japan currently holds just over 20 per cent of the €10bn in bonds issued by the EFSF, and Mr Noda, who was finance minister until becoming premier last month, signalled that Tokyo would continue to back the expanded fund.

In Italy, Mr Berlusconi insisted there was "no credible alternative" to his government, but called the euro a "strange" currency that "has not convinced anyone". Mr Berlusconi later issued a statement to clarify his support for the euro which he said was vulnerable to speculative attacks because it was a currency without a government, a state or a central bank of last resort.

The markets’ vote of no-confidence was also felt in Spain where benchmark yields jumped 18 basis points to 5.51 per cent. Italian banks also suffered as European equities lost their post-summit exuberance of Thursday. UniCredit fell by more than 4 per cent while French shares and the euro also declined.

Senior Italian officials at the central bank and Treasury, as well as leading bankers, are also warning Brussels that plans to recapitalise banks have not been properly thought out and risk pushing Italy, and other economies, into recession, by forcing banks to withhold funding from businesses and consumers. "This situation has not been fully considered and there is a severe risk that half of Europe ends up in recession," one senior official said.

Further doubts over the eurozone’s proposed rescue fund were raised in Berlin when Germany’s powerful constitutional court issued an injunction that would require the full German Bundestag to approve any urgent bond-buying operations by the European financial stability facility. The surprise move is not a final decision by the court, but it means that the parliament cannot use a special nine-member subcommittee to take emergency decisions in secret, until the court gives its full ruling – possibly in December.

Eurozone finance ministers have yet to negotiate the final details of ways to "leverage" the €440bn in the EFSF, to give the fund greater financial capacity to enable it to buy bonds in the secondary market. The eurozone summit set a deadline of the end of November to reach agreement, making it unlikely that the fund will be ready to take such action in the near future.

How historians will look back on Euroland’s demise
by Norman Davies - FT

If Sparta and Rome perished", asked Rousseau in his Social Contract, "how can any state hope to live for ever? The Body Politick, like the body of a man, begins to die as soon as it is born; it contains the seeds of its own destruction."

The histories of Europe’s numerous extinct states testify to this truth. Early examples come from the five Kingdoms of Burgundy or the Crown of Aragon, a recent one from the Soviet Union, which evaporated in 1991.

Yet states continue to vanish; sooner or later, all human institutions fall apart. The German Democratic Republic merged with West Germany. Czechoslovakia broke up when Czechs and Slovaks agreed their velvet divorce. The federation of Yugoslavia was torn asunder between 1991 and 2006. The map of Europe has repeatedly been transformed by state dissolution and EU expansion. Speculation spreads about which state will be the next to fall. Some say Belgium, others Italy.

Most recently, the demise of Euroland came into view. It is not a sovereign state, but it is a body politick of sorts and subject to the same vagaries of fortune afflicting everything else.

Launched only a dozen years ago, it may join the long list of organisations that have died young. It lacks viable organs of fiscal management and political governance; by general consent, it must reconstruct itself rapidly or break up. "The eurozone is doomed", its critics argue. Britain’s Foreign Secretary describes it as "a burning building with no exits". George Soros warns of possible "meltdown".

The prospect of a conflagration, puts fear into europhile hearts and a smug sense of schadenfreude into eurosceptic minds. The former hope that the international fire brigade will intervene, the latter that the whole dastardly caboodle will blow up."How marvellous" they chortle in the Tory clubs; "the busybodies of Brussels are meeting their come-uppance. After all, those ghastly Greeks who cooked the books to enter Euroland in the first place are sure to be cooking them again with an eye to ever larger bail-outs."

Euro summits, the argument goes, are just talking shops. Orderly default is a pipedream. The eurozone rescue fund is an underfunded piggy bank. The European Central Bank is toothless. There’s no central European treasury, and the German courts are obstructing remedies.

Politicians are forever quarrelling and kicking the boite down the piste. Greece will push French banks down the chute first; but German banks won’t avoid it, and together they’ll finish Italy off. "With luck, Italy will suck Spain into the abyss; Portugal will follow Spain, and Ireland Portugal. Just think of it! Those Irish traitors from 1922 will get their deserts! Terrific!"

Then continental banks lock their doors and the cash machines dry up. Minestrone kitchens appear on the streets of Rome. Spanish bullrings house the destitute. The bridges of Paris fill with rough sleepers. Weeks and months pass free of money. Europeans relearn the art of barter. When the cash flow stutters back, machines distribute drachmas again, the franc nouvel and the peseta nueva … Yet Britain’s latterday Blimps will still not be satisfied. They hanker for the whole hog; before we pull up the drawbridge, they say, the EU itself must vanish.

As history books will explain, the disintegration of Euroland caused deep political rifts. Historians agree that the rejection of a constitution for the enlarged union had caused paralysis. When Greece defaulted and defected without warning in April 2012, a Committee of European Salvation met in Luxembourg and suspended all treaties; it quickly subordinated Brussels’ secretariats.

It was headed by the dynamic Polish premier, Donald Tusk, aided by ex-Chancellor Angela Merkel, who had retired to her mother’s hometown of Sopot. Gaining the support of 16 of 27 EU members, they claimed to be acting democratically. "We’ve seen systems fail before," said Mr Tusk, "we won’t let it happen again." Presidents Barroso and Van Rompuy disappeared.

Within a week, a self-styled Committee of Free European States was convened in London by William Hague, vowing last ditch defiance. Each committee denounced the other’s claims to legitimacy. The long process of splitting up Europe gathered speed. Two single markets arose, three Schengen-style border-free zones, and 20 currency regimes.

And the French and the Flemings pulled up the drawbridge. The Channel Tunnel was blocked at Coquelles; ports and airports under CES control impounded British freight. Britain’s pleas to the IMF for a rebate on her £75bn contribution to Ireland’s third bail-out fell on deaf ears. Economic life in the south east ground to a halt.

The lorry queue at Dover stretched to Birmingham. The National Grid crashed. Fuel ran out. Riots far more violent than those of the previous year wrecked London. Barclays Bank HQ was torched; Sir Freddie Godwin was dragged from his Bentley and lynched; and Gordon Brown and Tony Blair were last seen rowing hard out of Heysham Harbour. Hunger stalked England’s pleasant land.

After a shot-gun election, the British PM, Nick Clegg, declared unilaterally that a valid EU no longer existed and that British membership thereby ceased. Of course, the CES had not really abandoned monetary union or plans for European integration. As a gesture to national feelings, the euro name was dropped and members were permitted to re-name the common currency within their own countries, but only on condition that strict parity was maintained. The Constitutional Convention resumed.

What is more, on the day Britain left the EU, Scotland’s First Minister, Alex Salmond, returned from a tour of Warsaw, Berlin, and Luxembourg, celebrating undisclosed financial guarantees. Prior to the Great Depression of 2012-14, he had seemed to be settling for extended autonomy. Now he reverted to the SNP’s original proposal for a referendum on full independence.

"Brave Scots!", he began on reaching Edinburgh, "Europhiles! Citizens of Ecosse!" "Do you choose to stay under London’s heel in the company of Greece, Sicily and Latvia?" Then, drawing breath: "Or is it your choice to revive Scotland’s historic mission, and as partners of the majority of European nations, to join their union as a proud, free and sovereign kingdom?"

Banks Bow to 'Last Word' From Merkel, Sarkozy on Greek Debt
by Bloomberg

The world's biggest banks bowed to what German Chancellor Angela Merkel called the "last word," agreeing to write down their Greek government debt by half in the pivotal piece of the euro area's bid to stem the financial crisis.

The Institute of International Finance, which represents financial companies, agreed to "develop a concrete voluntary agreement on the firm basis of a nominal discount of 50 percent on notional Greek debt held by private investors," Managing Director Charles Dallara said in a statement e-mailed at 4:26 a.m. in Brussels.

Euro-area leaders who called Dallara into a meeting at about midnight, forcing a break in their 10-hour summit, said that while the bond transaction will be voluntary, the decision resulted from an offer he couldn't refuse.

"It was the fiercely delivered wish by Merkel, Sarkozy, Juncker, that if a voluntary agreement with the banks was not possible, we wouldn't resist one second to move toward a scenario of the total insolvency of Greece," Luxembourg Prime Minister Jean-Claude Juncker told reporters. That "would have cost states a lot of money and would have ruined the banks."

The euro rose and stocks advanced, with the currency gaining 0.7 percent to $1.4007 at 9:45 a.m. in Brussels. The Stoxx Europe 600 Index surged 2.5 percent and Standard & Poor's 500 Index futures added 1.6 percent. The Stoxx 600 Banks Index jumped 5.3 percent, the biggest gain since Sept. 27.

Deal Linchpin
The package, negotiated by the umbrella group for more than 450 financial firms, should set the basis for the decline of the Greek debt to gross domestic product ratio with an objective of reaching 120 percent by 2020, the IIF said. The deal with Merkel and French President Nicolas Sarkozy broke a deadlock and came hours after Dallara issued a statement that "there is no agreement on any element of a deal."

"The details are important, but the fact that 17 euro leaders with all their different agendas managed to reach a deal is encouraging," said Dirk Becker, a banking analyst at Kepler Capital Markets. "It might seem chaotic, but in the end the Europeans can find a solution, and if not they'll keep trying."

The Greek deal paved the way for euro leaders to announce an agreement on boosting the firepower of the rescue fund to 1 trillion euros ($1.4 trillion) and a 106 billion euro- recapitalization of European banks. The second crisis summit in four days delivered tools to extinguish the two-year-old crisis that threatens to ravage Italy and France and brake the world economy.

Only One Offer'
"We're in a much better position than we were 24 hours ago, but there is still a big question over just how they intend to leverage the rescue fund up to one trillion, and how the banks are supposed to get to this 106 billion euros," said Mike Trippitt, an analyst at Oriel Securities Ltd. in London.

The IIF last week proposed a loss of 40 percent on Greek debt, one person familiar with the discussions said at the time, after euro leaders pressured Greek investors to scale up a July accord that foresaw 21 percent losses for bondholders. Today's agreement does include 30 billion euros in cash to sweeten the offer from the euro zone, officials said today.

"We really made only one offer," Merkel told reporters after the summit. "The bank delegates took that back to their representatives. And this offer was specified in such a way -- and we said that it's our last word -- that they took it up."

Battling the Financial Lobby in Brussels
by Susanne Amann - Spiegel

For the first time, the estimated 700 financial industry lobbyists working in Brussels can now expect to meet with some resistance. Though extremely outnumbered, the new organization Finance Watch is preparing to confront them head-on -- with a former industry insider at its helm.

The financial crisis is complicated, but so is a fully automated coffee machine, at least according to Thierry Philipponnat, who is standing in the hallway of his office with a frown on his face. "Just a minute, I can only do this in French," he says. He changes the language in the machine's menu, but what eventually emerges bears only a vague resemblance to a café au lait. "Everything is a little new here," he says, "but we'll figure it out."

Indeed, some things will take getting used to in the offices Finance Watch has just leased near the building housing the European Parliament in Brussels. The project is backed by 40 European organizations, including unions, consumer-protection groups, foundations and think tanks. And it has a single goal: to make financial markets more transparent and influence future legislation so that it serves the needs of society rather than the financial industry.

Philipponnat runs the organization, which will soon have a team of a dozen people. "When I heard about the project, I knew right away that it was the job for me," says the 50-year-old Frenchman. "As a former banker, I was immediately hooked."

Philipponnat spent 20 years in the industry, which included positions at the Swiss bank UBS and the French bank BNP Paribas, where he was in charge of structured financial transactions, the highly complex products that have now come under sharp criticism for being both shady and highly risky. In his most recent position, Philipponnat was the global head of equity derivatives at the Euronext exchange in London.

"The financial industry is extremely fascinating, intellectually challenging and very dynamic," Philipponnat says. He isn't bothered by the fact that some in the industry have become filthy rich. "But it's absurd that the general public should have to assume the risks of private companies," he says.

Unrelenting Hordes of Lobbyists
Although efforts are underway worldwide to regulate the financial industry more rigorously, implementation is a different story, as evidenced by the work of the European Parliament in Brussels, where members are under constant observation and attack by an estimated 700 financial lobbyists. These professionals work around the clock to ensure that none of the new laws adversely affects the interests of banks, hedge funds, insurance companies and private equity firms.

The lobbyists target EU politicians like Burkhard Balz, a member of Chancellor Angela Merkel's center-right Christian Democratic Union (CDU) from the northern German city of Hanover and a former banker himself. "In the runup to the regulation of hedge funds, I was constantly receiving requests for meetings with lobbyists," says Balz, who is now his party's deputy parliamentary spokesman on the European Parliament's Economic and Monetary Affairs Committee.

Balz says he met with many of the lobbyists -- or at least until he felt that he was familiar with all of their arguments. But the lobbyists were unrelenting. "If I had said: 'I'm at the Stadthagen swimming pool with my son,' they would have said: 'No problem, we'll bring our trunks,'" he says, with some irritation.

If you listen around in Brussels, you can hear about the opulent dinners members of parliament have in the city's most expensive restaurant during which representatives of a major bank will explain to them why their speculation in agricultural commodities has absolutely no effect on the world's food supply.

Or about the amendments to existing legislation that are sent to members of parliament prewritten, and of the printed copies of voting lists that explain to the parliamentarians exactly which box to check. "There are 200 financial-industry lobbyists for every paragraph of the law," says Udo Bullman, a member of the European Parliament from Germany's center-left Social Democratic Party (SPD).

Finding a Cause and a Leader
This problem prompted members of the Economic and Monetary Affairs Committee to take an unusual step in June 2010, when they publicly called for the creation of "one (or more) non-governmental organization(s) capable of developing a counter-expertise on activities carried out on financial markets by the major operators … and to convey effectively this analysis to the media."

The gulf between the capabilities of the financial industry and politicians' relatively poor understanding of the field "poses a danger to democracy," a group of parliamentarians wrote. The petition initially had 22 signatures, but soon more than 140 politicians in Brussels -- from all member countries and the entire range of political parties -- added their signatures. Eleven members donated money to fund a six-month exploratory phase and began searching for the right person to head the organization: Philipponnat.

When he left the banking industry in 2006, Philipponnat had lost faith in the sense and purpose of his work. "Many financial transactions are useless at best," he says, "but, at worst, they have a massive impact on politics and society." He then made his way to Amnesty International and became the head of its French section.

People who know Philipponnat describe him as a "doer," as "extraordinarily competent" and as someone who tenaciously sticks to issues while also being able to "inspire and enthuse" others. "Philipponnat has a rare dual function, which makes him practically predestined for Finance Watch," says Sven Giegold, a member of the European parliament with Germany's Green Party. "He has solid economic training, "Giegold says, "but, at the same time, he also has a lot of experience in the social field and with NGOs."

Bringing the Affected into the Debate
Philipponnat will need both because his job comes with high expectations. Finance Watch still has a small budget of only €1 million ($1.4 million) derived from member dues and donations. But the various EU institutions are now considering injecting another million euros into the venture. Even then, it will still be difficult to become a counterweight to what is probably the richest and most powerful economic sector of all, whose lobbyists are backed by an estimated €400 million in funding.

In mid-October, Philipponnat spoke for the first time as an expert at a hearing on whether to require European banks to have higher equity capital requirements. Last Sunday, when EU leaders meet in Brussels to discuss how to battle the euro crisis, Finance Watch appealed to them to take a closer look at the balance sheets of major banks.

Philipponnat is careful to point out that: "We are not an anti-bank group, nor do we condemn any lobbyists." The only thing that Financial Watch really wants, he explains, is a balanced debate that includes not only the players, but also those affected by their actions. "The financial industry often uses highly technical arguments," he says. "On the one hand, (it does so) because many things actually do revolve around technical issues. But, on the other hand, (it does so) because it means that no one outside the financial world can seriously follow the debate."

Finance Watch wants to change this. For example, it wants to explain EU banking rules -- such as the cryptic CRD IV and MiFID -- to the general public as well as issue position papers and compose informational materials. In addition, Philipponnat and his team will make themselves available to the parliament and the public to serve as individuals who can debate with bankers and hedge fund managers on a level playing field.

Incidentally, Finance Watch also invests its own money -- but not with one of the major international banks. The organization has deposited its reserves with Triodos Bank, a Dutch establishment that the Financial Times named the Sustainable Bank of the Year in 2009.

Europe bailout fund chief courts China
by Aileen Wang and Koh Gui Qing - Reuters

The head of Europe's rescue fund sought to entice China on Saturday to invest in the facility by saying investors may be protected against a fifth of initial losses and that bonds could eventually be sold in yuan if Beijing desires.

Klaus Regling was in China to persuade Beijing to stump up money and help the euro zone beat its two-year-old debt crisis. He said the European Financial Stability Facility (EFSF) may invest in a special purpose vehicle and absorb the first 20 percent of losses.

Regling did not say whether China had asked for that degree of protection and declined to comment on his meetings in Beijing. But he said he expected to submit a proposal on how to scale up the 440-billion-euro ($623.7 billion) EFSF rescue fund by November.

Expanding the EFSF to 1 trillion euros is key to the euro zone's latest anti-crisis plan, put together at a Eurozone summit this week. Details on how this would be done have yet to be finalized and European leaders are under pressure to show the plan would work.

"The EFSF will take a certain tranche that will be a junior tranche, which means if something goes wrong, the first loss will be carried by the EFSF. It could be around 20 percent," Regling told students at the Tsinghua University.

Regling, chief executive of the EFSF, said the fund could sell bonds in yuan in future if Beijing so desired. But he said that would be difficult to pull off right now. "We have so far only issued euro bonds but we are authorized to use any currency we want if it seems efficient," he said. "It also depends on the Chinese authorities, whether they would approve that. I think it is probably more difficult. But I could imagine that over the years it might happen."

Why China Should Bite
Regling was visiting cash-rich China two days after euro zone leaders struck the deal to boost the firepower of the EFSF, recapitalize banks and reduce Greece's crippling debt burden. French President Nicolas Sarkozy immediately got on the phone to China after the summit to seek financial help, saying Beijing had "a major role to play."

Europe has said the EFSF may be expanded either by offering insurance to buyers of euro zone debt in the primary market, or via a new special purpose investment vehicle that it hopes would draw funds from China and Brazil, among other countries.

The deal has left major economies Italy and Spain under pressure. Italy's borrowing costs jumped at a bond auction on Friday. Prime Minister Silvio Berlusconi was forced to promise reforms to quash speculation that his government was about to collapse.

Regling made clear he wanted to determine what it would take for Beijing to put more money in the EFSF. But he hinted it was also in China's interests to have a healthy euro and an alternative to the dollar as a reserve currency. "Many particularly large economies in the world want to have ... the euro as part of the international monetary system. That is a good reason to support our program," Regling said.

When asked why Beijing should buy more euros and risk currency losses if the bloc launches another round of quantitative easing, Regling said the European Central Bank had been prudent in growing its balance sheet, compared to the U.S. Federal Reserve and the Bank of England. "I can assure you should invest in the euro, this is not the problem," he said. "The ECB has only one objective -- price stability and they will deliver."

Stuck with elevated inflation, China worries that ultra-loose monetary policies abroad will further stoke price pressures at home. It has repeatedly scolded the United States for its quantitative easing, deeming it "irresponsible."

Beijing Cautious
Some analysts agree that China has far more upside than downside in providing support for Europe, not least in protecting its global trade. But it may drive a hard bargain to part with some of its $3.2 trillion foreign exchange reserves, the world's largest.

Beijing is, nonetheless, cautious. Although China has expressed confidence that Europe can survive its crisis, it has made no public offer to buy more European government debt. The careful stance was underscored on Friday by Vice Finance Minister Zhu Guangyao, who said Beijing was awaiting details on new investment options for the EFSF before deciding its next move.

Regling also acknowledged that China would take no hasty decisions and said he expected no concrete outcome from his visit. He shrugged off any notion, in his discussions with students, that the euro zone project could unravel, saying that the currency bloc remained united. "There is no political intention to kick out any country," he said. "It would not be in the interest of any countries, not economically, not politically."

Something We Should Be Worried About, but Aren't: Water
by Charles P. Pierce - Esquire

Under the high plains of the midwest, there is a resource called the Ogallala Aquifer, which is a subsystem of a huge underground mega-system called the High Plains Aquifer. It is made of permeable layers of sand, sandstone, and gravel within which are contained billions and billions of gallons of water. The nature of the aquifer geology makes the water easy to pump. The system covers 174,000 square miles beneath eight different states, ranging north-south from North Dakota to Texas, and from Nebraska in the east all the way west to parts of New Mexico. Nebraska depends most vitally on the water found in the aquifer.

And there are two concerns about the aquifer that ought to be serious concerns in our politics, but that aren't. One of them isn't being treated as a concern at all. The other is not being treated seriously, but instead as a slogan and one more litmus test by the Republican presidential candidates, and as some sort of nuisance complaint by a Democratic administration that appears to be falling down on the job.

The first problem is that portions of the aquifer are running dry. The second is that Trans-Canada, the Canadian oil giant, wants to run a pipeline through a portion of the aquifer in Nebraska. How you feel about that depends entirely on how much you trust oil companies these days, because your State Department appears to be taking a dive on the question, and your Environmental Protection Agency is dodging it entirely.

Make no mistake. You screw with the Ogallala Aquifer and you screw with this nation's heartbeat.

Twenty percent of the irrigated farmland in the United States depends upon it.
Pumping the water from it is all that has kept the Dust Bowl from coming back, year after year. Any damage to it fundamentally changes the lives of the people who depend on it, their personal economies, the overall national economy, and what we can grow to feed ourselves. Absent the aquifer, and the nation's breadbasket goes back to being a prairie, vast grasslands that the people who first crossed them referred to as a desert. You end up with dry-land corn and some dry-land wheat.

And the aquifer is far easier to empty than it is to fill. The technology to fully exploit it has existed only since the 1950's, and portions of it are already dangerously low. It won't be fully recharged until the next Ice Age.

Water is the next big fight in this country. By now, we are used to the big fights over energy reserves, over coal and oil. There are even some new ones, over fracking for natural gas and over things like the XL pipeline, which we will get to shortly. But there haven't been serious fights over water for a while. Now, they seem to be coming thick and fast. A report by the Congressional Budget Office as far back as 1997 said that, particularly in the West, conflicts over water would take many forms — farmers vs. cities, sportsmen vs. developers, environmentalists vs. practically everyone else. The report concluded:

First and foremost, western rivers provide water to agriculture to grow crops. They also help cities meet municipal and industrial needs for water and generate electricity. Other benefits that rivers provide — such as habitat for fish and wildlife, recreation, and cultural values for Native Americans — were historically ignored in the water equation but increasingly are considered legitimate and valuable uses. Demand for water by existing agricultural and urban users outstrips available supplies in many cases, however, so demand for water for public purposes or for increased urban supplies necessarily conflicts with existing patterns of water use.

The ongoing drought exacerbates all of these concerns, particularly in the most imperiled portions of the Ogallala Aquifer, which are in Oklahoma and in the Texas Panhandle, were the drought has been the most severe. This has caused the demand for water to skyrocket as the available supply dwindles. Texas did put in place some water-conservation rules that restricted the amount of groundwater that farmers could pump, but they fairly well defined the concept of locked barns and escaped horses. Moreover, Governor Rick Perry, who is now running for president, after a fashion, anyway, did manage to arrange for one of his billionaire campaign donors to get a contract to build a radioactive waste dump in an area that environmentalists say puts a portion of the aquifer in danger: 

Environmentalists raised concerns because the site was near the Ogallala Aquifer, which provides water for drinking and agriculture from Texas to Nebraska. The engineers and geologists reviewing the application for the commission said it didn’t address those water contamination concerns. Glenn Lewis, part of the TCEQ team that reviewed the permit, called the initial application "laughably deficient."

Silly environmentalists. What could possibly go wrong there?

None of the GOP candidates, including Perry, take at all seriously most of the science behind the anthropogenic climate change that many scientists believe is behind the horrendous drought conditions that are putting such a strain on the depleted aquifer. (Perry thinks the whole thing is a scam thought up by scientists who are just trying to suck up grant money.) But, while they may not be concerned about the Ogallala Aquifer, they do all love them some of that XL pipeline. Prior to the Iowa Straw Poll, all eight of them pledged their undying fealty to the project. It is now one of those things you have to say if you want to be a serious Republican player. No abortions. No tax hikes on anyone or anything ever. And glory be to the XL pipeline.

The XL — also known as the Keystone Pipeline — is an ambitious project that seeks to transport 900,000 barrels a day of synthetic crude oil and diluted bitumen all the way from upper Alberta in Canada to the Gulf of Mexico. This is to enable the energy companies to exploit the Athabasca "tar sands," and it is the latest miracle of "energy independence" being peddled by the extraction industries. There is a lot of money and political clout behind it; to the surprise of absolutely nobody, the Koch Brothers, the Randolph and Mortimer Duke of wingnut welfare, stand to make a fortune if and when the pipeline is built. Environmentalists have pushed back against the development, which, because it involves both the U.S. and Canada, now rests with the State Department, and with President Obama, who will make the final decision as to whether or not the pipeline is built.

Many of the environmental questions about the pipeline concern the extraction and use of tar-sands oil itself, which is said to be remarkably "dirty" oil. But the main environmental objection to the pipeline concerns a 92-mile portion of the pipeline that crosses through a section of the Ogallala Aquifer in the Sand Hills region of north-central Nebraska. As part of its environmental-impact statement, Trans-Canada, the Canadian oil company who will build and maintain the pipeline along with ConocoPhillips, had to give the federal government its assessment of a "worst-case" scenario in which the pipeline ruptured, spilling its contents into the aquifer. Which is where John Stansbury comes in.

Stansbury is a professor of environmental water resources at the University of Nebraska. He got a look at Trans-Canada's proposal and decided to put together his own report about what a "worst-case" spill in the Sandhills really would mean. His findings were radically different than those put together by Trans-Canada. Stansbury estimated that worst-case spill would contaminate nearly five billion gallons of groundwater, and that the "plume" of benzene and other contaminants would be 40 feet thick, 500 feet wide, and 15 miles long. This was far worse than Trans-Canada's worst estimates. Last June, Stansbury filed his report as part of the "comments" on the Trans-Canada environmental impact statement. Which was about when politics fell on his head.

"You had to expect that Trans-Canada would try to refute what I say," Stansbury says, "because I'm taking issue with what their findings are. I'm not upset with them. They're trying to make a profit. I am upset with the State Department, because they're supposed to protect the United States' interests and resources, and they haven't done their job. They're supposed to make sure that the environmental-impact statement is produced through independent and unbiased sources and they absolutely have not done that."

What Stansbury thought would happen was that the State Department would take his findings and have them assessed by an independent agency. Instead, what the State Department did was hand his report over to Trans-Canada so that the oil company could evaluate Stansbury's criticism of itself. At the same time, Stansbury found himself caught between environmentalists, some of whom hyped his findings, and advocates of the pipeline, who called him an alarmist.

"One thing I did not do was say that a spill could ruin the entire aquifer, which is what some people maintain that I did," Stansbury says. "But that's beside the point. You shouldn't get to pollute just some of the aquifer. You shouldn't get to pollute just some of the air."

The decision on the XL pipeline is stalled. Opposition is rising. Famous people have been getting arrested outside the White House while demonstrating against the pipeline. On the other side, the calls for the now-iconic XL Pipeline are growing more and more shrill. And, it seems, somebody finally cares about the Ogalalla Aquifer.