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Net Net: Promoting innovation and managing change

Everyone Knows It: Europe Bailout Coming Before End of Year

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The verdict is nearly unanimous: Some type of bailout intervention is coming for Europe, with the only question being when.

At least that’s the conclusion of the most recent Bank of America Merrill Lynch Credit Survey, which found 99 percent agreement that “markets will force more effective intervention in the European sovereign crisis.”

More than likely, that assistance will come by the end of the year, with 65 percent of respondents agreeing that 2011 will not end before some type of bailout gets under way.

The most popular theory floating is that a European-style TARP comes into play, resembling the Troubled Asset Relief Program that helped bail the US out of its debt jam in 2008 and 2009.

The Treasury Department and other policy makers colluded to help recapitalize banks that had been decimated following the breakdown of the subprime mortgage industry. TARP is widely credited as bringing the financial system back from the verge of collapse, though the question of moral hazard—or whether the bailout only reinforced the behavior that led to the crisis—remains to be debated.

“A possible way to limit the systemic impact of the European sovereign crisis would be mandatory capital injections into European banks,” BofAML strategists wrote in a research note. “Then any sovereigns with unsustainable capital structures would restructure with limited systemic impacts on Europe running through the banking sector.”

The notion that a default in Greece would spur a global crisis is at the heart of what to do about the sovereign debt.

Greece stands poised as the European Lehman Brothers, the Wall Street titan whose collapse in September 2008 nearly brought down the world’s financial system.

Despite the lessons from Lehman, many fear that it will take a similarly seismic event to generate reaction from European leaders in healthy nations—read, Germany—who are reluctant to bail out Greece and its free-spending debt-fueled ways.

World Bank President Robert Zoellick

That peril is what’s causing BofAML to warn clients that the European situation is the gravest peril to the firm’s growth projections, and its worries that there is an increased chance of the US slipping back into recession.

Some 95 percent of survey respondents listed the sovereign crisis as the greatest threat to the investing horizon, with 71 percent mentioning US fiscal policy (respondents presumably were allowed to choose more than one) while double dip/deflation at 60 percent and slow recovery at 45 percent were the only other responses mentioned by more than 15 percent of investors.

“We also saw during the US financial crisis that a major sell-off in the markets is an effective catalyst to force unpleasant decisions,” the firm wrote.

“Thus, while we hope for a peaceful solution to mitigate the European sovereign crisis, the risk is that once again it will be left to the markets to force such a solution—i.e. a European ‘TARP moment.’ Clearly, while such outcome might ultimately be favorable, it would get worse before it gets better.”

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