Banks In Peril from EU Debt Shell Game: Economist

Any assumption that the financial crisis is behind us is way off the mark, as the European Union is just shifting debt obligatoins between the public and private sector and not dealing with the undelying problem, Monument Securities Chief Economist Stephen Lewis told CNBC Friday.


“Until last week, the global markets, led by Wall Street, had been behaving as if a return to happy times was, indeed, assured” Lewis said.

The Greek crisis and subsequent rescue package have restored calm and hopefully stopped a fully-fledged credit event, but Lewis said he is now concerned that all the EU is doing is shifting the problem around.

“All that the fiscal measures have achieved is to shift the locus of distress from banking to the government sector,” he said.

Having taken the burden off the banks and the private sector in recent years, Lewis said the focus on sovereign debt will simply see the burden transferred back to the private sector.

“A year ago, a huge public sector deficit was not widely regarded as a badge of shame but, rather, as an indication of a government’s determination to take all possible measures to sustain its economy," he said.

" But it always seemed it would only be a matter of time before this benign judgment on government deficits would give way to a less favorable view.” So, with all the attention on governments deficits, the authorities are attempting to hind the debt in less visible places Lewis said.

"The EU and the IMF sought to meet the threat through what, in essence, is yet another exercise in shoveling troubles away from those areas where the markets are looking towards less intensively-observed sectors of the financial system." he said.

Governments and international financial authorities are simply acting like a small child refusing to eat his or her dinner and pushing their food around the plate, he added.

“To make a genuine reduction in the scale of the problem would require increasingly indebted governments to cut back on their spending or to increase their revenues," Lewis said. "The EU/IMF authorities recognize this in imposing stiff schedules for deficit reduction on those governments that turn to them for aid, while urging other governments to adopt policies of fiscal retrenchment.”

Greece, Spain and Portugal have begun the process of cutting spending and Lewis said he believes they measures will end up being counterproductive.

“There is a question how effective such measures will be, even in meeting the limited objective of reducing their budget deficits," he said.

"The contraction in domestic demand that will follow from budget-cutting measures in these countries will diminish the tax base and increase the cost of social transfers.”

As a result, "fiscal adjustment will shift the burden of insupportable debt back to the private sector and the banks," he said.

"It will merely reverse the shift that occurred as a consequence of the 2008-09 fiscal stimuli.” Given the banking industry has yet to address many of the problems like the bad loans that led to the crisis, moving debt to the private sector could be disastrous for the industry, according to Lewis.

The European Debt Crisis - See Complete Coverage
The European Debt Crisis - See Complete Coverage

“It is doubtful whether the banks are in much better condition to support the burden now than they were two years ago, especially seeing they will probably be obliged to comply with much tougher capital requirements within the next few years," he said.

"The conditions for sustainable growth will only be restored after prolonged deleveraging, with final demand running below supply, in the debtor countries. So far, we have not cured the disease."