Debt Restructuring Will Save the Euro
Participants will arrive at the World Economic Forum in Davos with Swiss francs in their wallets – but their minds will be on the euro and its future.
At least for this year, the European Monetary Union will remain united – in letter, if not in spirit – and no country is likely to renege on its debt obligations, analysts told CNBC.com.
But debt restructuring is certainly on the horizon for later, they said.
"This year I don't expect a default," Gudrun Egger, an euro zone analyst at Erste Bank told CNBC.com by telephone from Vienna. "The assumption is that neither for the weaker nor for the stronger countries a break-up would be an advantage."
If weaker countries decide to leave the euro zone to regain competitiveness by setting their own monetary policy, their debt would still be in euros and it would actually increase, while if stronger countries leave, their new currency would appreciate, stifling exports, Egger said.
Yields on the debt of periphery euro zone countries – Greece, Ireland, Spain and Portugal – have been rising as investors speculated that one of them, at least, will default because it will not be able to reduce high levels of debt and bulging budget deficits in time.
Eager to calm the markets, EU officials swiftly created the European Financial Stability Facility (EFSF), which will be able to provide up to 440 billion euros in aid to euro zone countries in difficulty.
But the establishment of the fund was not enough for nervy investors, who continued to sell the debt of the four countries – dubbed "PIGS" (Portugal, Italy, Greece, Spain) by market watchers – and in November 2010 the EU and the IMF had to come to the rescue again, this time helping Ireland with an 85-billion-euros bailout package.
Debate about who is to blame for the crisis and who is going to pick up the tab is vociferous as the increasing problem pits poorer and richer members of the euro zone against each other.
Slovakia, the poorest, announced last year that it was not going to take part in the Greek bailout and recently its finance minister said Greece would do better to restructure its bonds.
Germany, the EU's growth engine, is against issuing a common Eurobond to consolidate euro-zone debt and scoffed at proposals of greater fiscal consolidation, for fear it will end up paying for less competitive countries. It also opposes boosting the EFSF.
On Monday, French Economy Minister Christine Lagarde told CNBC France was still opposing the common Eurobond idea, which, she said, would mean "putting the cart before the horses" as it would dilute the strength of some members of the euro zone.
In these conditions, it will be nearly impossible for EU policy makers to come up with a solution that will satisfy the markets, Stefan Schneider, euro zone analyst at Deutsche Bank, told CNBC.com.
"The perception of the market is so wavered … I can't imagine a solution where the market will say 'yes, that's credible, this is it,'" Schneider said.
Too Small a Bazooka
Part of the problem is the fact that the EFSF, the European Union's emergency fund, is only a fraction of what it should be, Willem Buiter, a former member of the Bank of England's Monetary Policy Committee and currently an analyst with Citigroup, wrote in a recent research report.
To deter runs on sovereign debt or self-validating refusals to roll over maturing debt, there is a need for a safety net big enough to satisfy "any conceivable sovereign liquidity need" and this, for the euro zone, should be around 2 trillion euros, according to Buiter.