Farrell: Why France's 'Economic Government' Idea is Half-Baked
Chief Investment Officer, Soleil Securities
Europe is looking (maybe) to form a Eurozone Monetary Fund with powers similar to the International Monetary Fund.
The rationale behind such a move is that the countries share a currency and a central bank but have no political union, nor do they have an institution that can rescue countries in trouble.
They also have no enforcement mechanism for limiting budget deficits and government debt.
Like a lot of 'out of the box' ideas this comes from France and the French Finance Minister, Christine Lagarde, feels this is an interesting idea.
She also hopes the Greek crisis will encourage other countries to rally to France's idea of an "economic government" for the monetary union.
The idea is the pool would be funded by assessments of member states with the most egregious offenders paying more.
This idea is, in my opinion, half baked at best.
The most financially stressed countries are not likely to jump at the idea of funding their own bailout. Also, such a program sends all the wrong signals. It would, in effect, say you'll get bailed out if you don't meet the standards you agreed to at the beginning of the union. Germany's Jurgen Stark, a member of the European Central Banks' executive committee, says such a fund would provide the "wrong incentives" and would likely prove costly. He, and others in Germany, fear bailing out "profligate" euro zone members would create "moral hazard" and incentivize governments to act irresponsibly because they could rely on a bailout. Kill this one quickly.
Kill also the latest idea out of Greece to have an international effort to limit the market speculation they blame for all their ills.
I am not a huge fan of credit default swaps used in excess and by those that don't own the underlying collateral. But the problem lies within Greece and their reckless spending ways that gave rise to the desire to speculate against them. Let's be critical and call the players in that paper "sharks", just for fun. If you go swimming in the ocean and get bit, don't blame the shark for being a shark. Blame yourself for exposing yourself to the shark attack. Greece got themselves into the position where their deficit is 12% plus of GDP and government debt 90% of GDP. The standards were to be 3% deficits and 60% of total debt to GDP.
They were asking for a shark attack.
But we don't really need to worry since the head of the International Monetary Fund, Dominique Strauss-Kahn, said there is "no reason" to expect that Spain and Portugal will need external support. Thank God. If he says it, it must be true. Kind of like our Uncle Ben Bernanke (and I admire him a lot and am glad he's in his seat) when he said the subprime crisis would be contained. Why do I think when one of these guys talks the opposite is the tact we should take.
The Treasury held its auction of three year notes on Tuesday and it was a success.
The notes carried an interest rate in line with expectations (1.437%), the bid to cover was 3.13, meaning a little over three bonds were bid for every one auctioned (the last ten auctions of three year paper averaged a bid to cover of 2.89 times). The indirect, which at least partially represents foreign buying, was 51.8%. Auctions of ten and thirty year paper take place tomorrow and Thursday. It's a bit of a mystery to some why interest rates stay so low with the volume of financing that has to take place over the next few years to pay for the deficits.
While the deficits will be huge at $1.5 trillion or so and 11% of GDP, that is not new news to the market. The yield curve represents this. Foreign buyers are still large buyers of Treasury paper figuring the dollar and dollar denominated assets are still a relatively safe place to be. It might be the dollar is the best house in a bad neighborhood, but so be it. The crisis in Greece is probably benefiting our Treasury market as capital is flowing to the US. Domestic savings are growing (in fits and starts, but growing) and banks are flooded with deposits that aren't being loaned out. Much of that is being invested in the Treasury market. Wages are growing reluctantly, if at all, and capacity utilization is low, so there is no traditional inflation pressure. All of these factors will change some day, but not today and probably not for several quarters.
But I wish the Treasury would sell as many long term bonds as they could while rates are so low.
- Watch - Maria Bartiromo's Interview with Greece's Finance Minister
- Watch - Who is Responsible for Greek Debt Crisis?
- The World's Biggest Debtor Nations - Slideshow
- CNBC Guest Blog - We Get The World Talking
Vincent Farrell, Jr. is chief investment officer at Soleil Securities Group and a regular contributor to CNBC.