What if the State of Maryland USA, where I live, was treated by the Fed as Italy is by its EU bank regulators?

Sir, Tony Barber writes: “Paradoxically, as Italy’s debt has ballooned in size, it has become more manageable. Particularly over the past two years, the crucial factor has been European Central Bank support” “Reforms and ECB help are key to Italy debt sustainability” February 25.

Although already Maryland, as all other US states is already treated quite (too) generously by bank regulators, since it cannot print dollars on its own, the capital banks need to hold when lending to it, do at least depends on its credit ratings. 

Not so in the Eurozone. Though none of its sovereigns, like Italy, can print euros on their own, and independent of their credit ratings, the banks in EU can lend to all Eurozone sovereigns, against zero capital. Something much agreed by and pushed by Mario Draghi.

It’s been hard for me to understand, especially after Brexit, why FT has kept so much silence on this Eurozone’s sovereign debt ticking bomb.

@PerKurowski

About Italy, there are serious questions that FT, and others, should not silence.

Sir, I refer to “Draghi plots €221bn rebuilding of Italy’s recession ravaged economy” Miles Johnson and Sam Fleming, and to “Europe’s future hinges on Italy’s recovery fund reforms”, Andrea Lorenzo Capusella, FT April 22, and to so many other articles that touch upon the issue of Italy’s future, in order to ask some direct questions.

Do you think Italy’s chances of a bright future lies more in the hands of Italy’s government and its bureaucrats, than in hands of e.g., Italian small businesses and entrepreneurs?

I ask this because, with current risk weighted bank capital requirements, regulators, like Mario Draghi a former chairman of the Financial Stability Board, arguably arguing Italy’s government represents less credit risk, do de facto also state it is more worthy of credit. I firmly reject such a notion.

Yes, Italy clearly shows a stagnant productivity, but could that be improved by in any way increasing its government revenues?

Italy, before Covid-19, showed figures around 150% of public debt to GDP and government spending of close to 50% of GDP. I am among the last to condone tax evasion… but if Italian had paid all their taxes… would its government represent a lower share of GDP spending, and do you believe its debt to GDP would be lower?

One final question: Sir, given how Italy is governed, excluding from it any illegal activities such as drug trafficking, where do you think it would be without its shadow eeconomy, its economia sommersa? A lot better? Hmm!

PS. As you know (but seemingly turn a blind eye to), Italy’s debt, even though it cannot print euros on its own, has, independent of credit ratings, been assigned by EU regulators, a 0% risk weight.

Though meteorologists announce rain, regulators allow banks to operate as if the sun shines.

Sir, Tommy Stubbington writes: “A coronavirus-linked credit rating downgrade by Fitch prompted speculation that Rome was headed for ‘junk’ territory” and “Italy is the most heavily indebted major eurozone country, and yet it can fund itself for free”; “Italy’s interest-free bonds enjoy strong demand as buyers bet on ECB support” October 14.

Mark Twain (supposedly) said: “A banker is a fellow who lends you his umbrella when the sun is shining, but wants it back the minute it looks to rain” and, if now revisiting banking, Twain could just as well opine: “A bank regulator is a fellow that allow banks to hold little capital when the sun is shining, so banks can pay high dividends and buy back stock, but wants banks to hold much more capital, the moment it starts to rain”

But, Twain, in the case of Italy, or any other Eurozone over-indebted sovereign, would not be entirely correct, because even though credit rating meteorologists now warn about heavy rains, EU authorities still decree sunshine, and even though Italy cannot print euros on its own, they allow their banks to hold its debt against zero capital.

Sir, does Stubbington ignore this? I’m not sure, but Upton Sinclair also held that “It's difficult to get a man to understand something, when his salary depends on his not understanding it.” That could perhaps apply to him… and, sorry, perhaps to you too Sir.

https://teawithft.blogspot.com/2019/06/the-still-ticking-0-risk-weight.html

What the Eurozone would need a common budget the most for, is to help rescue many of its members from their huge risky 0% risk weighted sovereign debts.

Sir, Martin Arnold reports that Mario Draghi, “the outgoing ECB boss repeated his call for eurozone governments to create a sizeable common budget that could be used to provide greater economic stability in the 19-member currency zone by supporting monetary policy during a downturn.” “ECB chief Draghi uses swansong to call for unity” October 29.

As I see it the eurozone, unwittingly, already had a sizable non transparent common budget, namely that of, for purposes of risk weighted bank capital requirements, having assigned to all eurozone sovereigns’ debts, a 0% risk-weight, even though none of these can print euros on their own.

Some of these sovereigns used that privilege, plus ECB’s QE purchases of it, to load up huge debts at very low interest rates, so as to spend all that money. Now things are turning hard for many of these. Greece was small and walked the plank, and had to mortgage its future. Italy might not be willing to do so. There is a clear redenomination risk, and it is being priced more and more. 

So when Draghi now says “We need a euro area fiscal capacity of adequate size and design: large enough to stabilize the monetary union” it is clear he is very subtle referring to the dangers of the euro breaking down.

But when Draghi mention that fiscal capacity should be designed as not “to create excessive moral hazard”, then its harder to understand how that moral hazard could be worse than that already present in that idiotic 0% risk weighting.

What is clear is that for a eurozone common budget to serve any real purpose, those privileged 0% risk weights have first to be eliminated.

Just like it is hard to see some states with good credit standing accepting a 0% risk weight of other in much worse conditions, it would be difficult to explain for instance to Germans why their banks need to hold around 8% in capital when lending to German private entrepreneurs, but no capital at all when lending to the Italian or Greek governments.

How to do that? Not easy but my instincts tell me it begins by allowing banks to keep all their current eurozone sovereign debts exposures against zero capital, but require these to put up 8% of capital against any new purchases of it. That would freeze bank purchases, put a pressure on interest rates to go up, and allow the usual buyers of sovereign debt to return to somewhat better conditions.

But, of course, that might all only be pure optimistic illusions, and all eurozone hell could break out. 

@PerKurowski

With respect to Eurozone sovereign debts, European banks were officially allowed to ignore credit ratings.

Sir, Rachel Sanderson writes, “Data from the Bank of Italy on holdings of Italian government debt, usually the prime conduit of contagion, suggests any Italian crisis now will be more contained than in the 2011-12 European debt and banking crisis, argue analysts at Citi” “Rome political climate is uncomfortable even for seasoned Italy Inc.” August 22.

“But Citi [also] warns of sovereign downgrades. Italy is now closer to the subinvestment grade rating threshold compared with 2011, according to all three main rating agencies.”

But the European authorities, European Commission, ECB all, for purposes of Basel Committee’s risk weighted bank capital requirements, officially still consider Italy’s debt AAA to AA rated, as they still assign it a 0% risk weight.

So in fact all the about €400bn of Italian government debt Italian banks hold, and all what the European financial institutions hold of about €460bn of Italian sovereign debt, most of it, are held against none or extremely little bank capital. Had EU followed Basel regulations they would have at least 4% in capital against these holding, certainly way too little. Lending to any private sector Italian would with such ratings would require 8% in capital… the difference is explained by the pro-state bias of the Basel Committee. 

And that is a political reality that must also be extremely uncomfortable for the not sufficiently seasoned European Union Inc.

Sir, what will the rest of Europe say when they realize that it was not all Italy’s fault, as it was not all Greece’s fault?

@PerKurowski

In the Eurozone’s sovereign debt mine there is a choir of canaries going silent but, seemingly, that shall not be heard.

Sir, Gideon Rachman concludes, “Almost all of the modern threats — from a resurgent Russia to climate change and trade wars — are much easier for Britain to deal with, by using the collective strength of the EU.” “Brexit is an idea left over from a bygone era” June 25, 2019.

That is correct, but only if we exclude mentioning the problems within Europe. I refer specially to the sovereign debt bombs that are ticking within the Eurozone, the agents of “the EU’s most federalising project — the euro.”

Yes, that Germany “is stubbornly resisting demands from Brussels and Paris for deeper economic union” does surely not help but the real problem is that the biggest problem with the Euro, is not really acknowledged. 

When Greece turned into a dead coalmine canary, how much discussion were there about the fact that EU authorities had assigned Greece, as to all other Eurozone sovereigns, for purposes of bank capital requirements, a 0% risk weight? And that 0% risk weight was decreed even though all Eurozone sovereigns contract debt denominated in a currency that de facto is not their own domestic printable one.

Basically no discussion at all even though that 0% risk weight guarantees European banks are going to lend way too to the Eurozone’s sovereigns. Greece was small and ended being forced by ECB to walk the plank. But if Italy’s debt bomb explodes would it accept doing so? I doubt it.

Sir, to be a Remainer without requesting from EU a clear plan on how to defuse that still ticking debt bomb that could take the Euro down and perhaps the EU with it, seems not to be a very respectful position either.

@PerKurowski

When are the Italians citizens to speak up against their statist central bankers and regulators?

Sir, Claire Jones and Miles Johnson write: “With economic growth non-existent and government debt at more than 130 per cent of gross domestic product, Italy would struggle without the aggressive monetary easing that Mr Draghi introduced.”, “Italy faces loss of influence in ECB after Draghi leaves” May 27.

Yes, short-term that’s true but, long-term, that’s much more questionable, especially if the regulatory distortions that favor bank credit to sovereigns over that to citizens are kept in place.

Sir, as far as I know, ECB/Draghi has never objected to that for the purpose of the risk weighted bank capital requirements, Italy has been assigned a 0% risk weight, and this even when its debt is not denominated in a domestic printable currency.

De facto that translates into expecting that Italian bureaucrats know better what to do with bank credit they are not personally responsible for, than what Italian entrepreneurs who would put their own name on the line can do with this; something that we all know can only weaken the economy, that is, unless you are a raving communist.

De facto it also translates into that, sooner or later, in the absence of galloping inflation in the Eurozone, the debt of Italy (and other sovereigns) will become unsustainable. When that happens Italy might have no choice but to give up the euro and return to the lira; something that could even bring the European Union down. If so, how sad that had to happen only because of inept statist central bankers and regulators, asked way too few question.

PS. I wonder how many in the European Union Parliament have asked what would be my first question if I had been elected a first time EU parliamentarian?

PS. My 2019 letter to the Financial Stability Board (FSB)

 

@PerKurowski

For banks to lend to businesses it takes two to tango, liquidity and bank capital.

Sir, Valentina Romei, with respect to ECB’s targeted longer term refinancing operationswrites “According to TS Lombard: In both Spain and Italy, TLTRO borrowing corresponds to about 15 per cent of gross domestic product… Yet in both Italy and Spain, growth in commercial bank loan books has been weak”. Francesca Vasciminno, of Fitch Ratings in Milan explains it with “Partially this is the result of banks using the cheap funds “opportunistically to invest in government bonds if yields are attractive” “ECB loans fail to ignite bank lending” April 10.

Does ECB not know that banks in Italy and Spain, which as most banks are not awash with capital to say the least, need to hold 8% in capital against risk weighted assets and currently, because of EU’s insane Sovereign Debt Privileges, 0% against loans (or bonds) to their government?

There simply is no way that a TLTRO, or any other fancy program, is going to sustainably result in more and in relative equitable terms business lending by banks, without the removal of the risk weighted bank capital requirements. One might think that the introduction of a leverage ratio might have reduced its distortions but the truth is that, on the margins, there where it most counts, the distortion pressure of these has only increased.

Sir, soon for the three thousands time, before the insane risk weighted bank capital requirements disappear, there will be no muscular economic growth, which requires risky proteins, and all we will see is increased bank obesity resulting from increased exposures to safe carbs.

@PerKurowski

Worse than Italy “sleepwalking into instability” is the European Commission pushing the Eurozone into it fully awake.

Sir, Jim Brunsden and Miles Johnson writes the European Commission stepped up action on Italy’s rule-busting 2019 budget, warning that its plans to stimulate the economy through increased borrowing, risks “sleepwalking into instability”. “Brussels warns Italy’s budget threatens ‘instability’” November 22.

Of course, as Pierre Moscovici, EU economy commissioner, says: “this budget carries risks for Italy’s economy, for its companies, for its savers and its taxpayers”.

The sad fact though is that reaching an acceptable agreement on the budget issue would still be like papering over Italy’s and EU’s real underlying problems, not solving much.

The European Commission must/should know: 

1. About the challenges the Euro imposed on Eurozone members and that it has, for soon twenty years now, done nothing to resolve. 

2. That, for purposes of bank capital requirements, assigning a 0% risk to all sovereign borrowers within the Eurozone, those who de facto have their debt not denominated in a domestic (printable) currency, is a regulatory subsidy that impedes markets to signal the real costs of sovereign debt; which will necessarily cause many of its members to incur in dangerous excessive levels of public debt.

Before EC face up to these issues and does something real and sustainable about it, though much mightier, it has still not earned much right to lecture Italy.

Just like all regulators and central bankers, believing that what bankers perceive as risky is more dangerous to our bank systems than what bankers perceive as safe, have no right to lecture us on risk management.

EU can’t keep forcing its members to walk the plank, as it did with Greece, and still remain a viable union. Anyone against a Brexit and for a Remain should be very aware of that… that is unless his position has nothing to do with EU and all to do with local politicking.

@PerKurowski

Italy’s problems are not all of its own making; much is caused by a regulatory mistake committed by bank regulators and the European Commission.

Sir, Franco Debenedettiwrites “The flexibility accorded by Brussels was used neither for reducing the debt, nor for implementing the ‘painful structural reforms to promote growth’ [and] The budget actually under examination by Brussels is all about more public expenditure employed for giveaways and does nothing to improve productivity and growth of the country, “A bargain with Brussels looks unrealistic”, November 19.

He is correct, in that, but he leaves out a crucial element that is an essential part of current realities.

Basel II, approved in June 2004, held that banks as Italy was rated at that time, AA-, needed to hold 1.6% in capital against Italy’s sovereign debt. Currently rated BBB, banks were supposed to hold 4% in capital against that debt. But the European Commission then surpassed those per se already extremely generous and pro statist capital requirements. Through “Sovereign Debt Privileges” it assigned a 0% risk weight on Italy’s sovereign debt; which meant banks did not need to hold any capital against it.

That allowed (or in reality forced) Italy’s banks to end up with a huge overexposure to Italian sovereign debt in Euros, a debt that de facto is not denominated in Italy’s domestic (printable) currency.

What to do? Any solution is going to hurt, but one has at least the right to ask whether Italy, as was Greece, should have to carry the whole costs of a mistake committed by the European Union authorities.

To top it up, there is no way one can improve productivity and growth of any country that distorts the allocation of bank credit to the real economy, as do the risk weighted capital requirements for banks.

@PerKurowski

In a “world full of uncertainties”, how come regulators are allowed to bet our banks on the certainty of perceived risks?

Claire Jones reports that Olli Rehn, a possible contender to replace Mario Draghi opines that Central bankers must have “the ability and agility to manoeuvre though the current world that’s full of uncertainties” “Central bankers face a ‘world full of uncertainties’” November 19.

This is exactly what is wrong, they do accept there are uncertainties all around, but then they are not capable to utter a word when regulators, with Basel II, bet the banks on certainty, by allowing banks to leverage 62.5 times their capital with an asset if only a human fallible credit rating agency had assigned it an AAA to AA rating. 

According to Jones, Rhen agrees with Draghi in that “if Italy wanted ECB help, it had to sign up to a bailout programme from the European Stability Mechanism”. That de facto means that Italy must have to walk the plank as Greece did. 

But, I see not a word about the European Commission “Sovereign Debt Privileges”, that which set a 0% risk weight on Italy’s Euro denominated public debt, that which allowed (or in reality forced) Italy’s banks to overload on that debt. Why should Italy (or Greece), in a Union, have to carry the whole costs of a mistake caused by the Union?

Rhen opines “The only legitimate way of making monetary policy, be it conventional or unconventional, is to look at the economic development in the euro area . . . in its entirety”. He is absolutely right, but then the question is, why have EU not done anything real, in 20 years, to solve the challenges posed by the Euro to the individual nations of that entirety?

Those challenges if not solved, soon, pose a real existential threat to the European Union. Does Olli Rhen really believe that completing a banking union would suffice to take care of that?

@PerKurowski

Should not a “State of the European Union” analysis be an indispensable document, when searching for a solution to the Brexit vs. Remain quantum entanglement?

George Parker and Alex Barker discussing the “brutal reception in cabinet and in parliament the Brexit withdrawal agreement received mention one cabinet minister saying: “The people who are criticising the deal don’t have any alternative, that was true before the Chequers meeting, it was true before this week’s cabinet meeting and it’s still true now. People can suck their teeth and say it’s a betrayal and talk about vassalage, but they don’t seem to have given any thought to what the alternative might be.” “May heads for a hard sell” November 17.

In terms of Brexit mechanism that might be true, but there is of course also the alternative of holding another referendum, which might provide a Remain instead. 

What I sorely miss in the whole Brexit vs. Remain heated discussions is a “State of the European Union” analysis that would help to bring some perspective on it all, and that could also be useful to all Europeans, independent from what happens down the line.

I say that because I sincerely think the EU is not doing well, and that there are huge problems brewing there, which sometimes, like yesterday, have me thinking that though Brexit is an absolutely awful solution, a Remain could be even worse.

Sir, could you imagine the national embarrassment for Britain to change its mind and go for a Remain, and then finding EU gone? 

PS. Quantum entanglement is a physical phenomenon which occurs when pairs or groups of particles are generated, interact, or share spatial proximity in ways such that the quantum state of each particle cannot be described independently of the state of the other(s), even when the particles are separated by a large distance—instead, a quantum state must be described for the system as a whole.

@PerKurowski

Brexit is sure a bad idea, but how can you be sure Remain is not even a worse one?

Sir, Alex Barker and Jim Brunsden quote Catherine Barnard, a professor of EU law at Cambridge university: “Never before has a treaty been constructed of this kind,” “The EU is a unique organization. What the Brexit process has revealed is just how deep the integration is in reality.” “Accord leaves Britain bound to Brussels” November 16.

On the first, indeed, to for instance adopt a Euro in order to push forward a union instead of letting a union produce a common currency, is a truly strange way to construct a union.

But, on the second “how deep the integration is in reality” I beg to differ. Having a member like Greece walk the plank, especially as EU authorities were most to blame for its problems, is not the doings of a real deep union.

Sir, let me refer to a speech delivered by Mario Draghi, President of the ECB, at the Frankfurt European Banking Congress, given today, “The outlook for the euro area economy”. 

It concluded with: “I want to emphasize how completing Economic and Monetary Union has become more urgent over time not less urgent – and not only for the economic reasoning that has always underpinned my remarks, but also to preserve our European construction.”

I agree, because as is, Italy will not walk the plank as Greece did, and that could bring on the end of the euro, as we now know it, which could bring an end to the European Union, as we know now it, or, clearer yet, as we perhaps really don’t know it.

Sir, whether Brexit or Remain supporters, does not Britain (and all other UE members) have the right to know what “completing Economic and Monetary Union” to “preserve EU our European construction”, which Draghi urges really entails?

Draghi also mentioned “as urgent as the first steps were in euro area crisis management seven years ago”, “The completion of the banking union in all its dimensions, including risk reduction, and the start of the capital markets union through implementing all ongoing initiatives by 2019”

Sir, does not Britain, a nation where banking means so much, have the right to know exactly what that entails so that it banks are not castrated in the process?It is not just me a foreigner asking. Let me remind you that seven years ago, Alex Barker in [Mr. Brexit Negotiator] “Barnier vs. the Brits” wrote about the fears of Sir Mervin King that Brussels reforms would reshape a vital British industry, banking, to the benefit of eurozone rivals.

Draghi also said: “Household net worth remains at solid levels on the back of rising house prices and is adding to continued consumption growth.” 

That is an untrue statement. A much truer one would be: “Household net worth remains very fragile since it rides almost exclusively on rising house prices, as a consequence of the distortion produced by too much and too favorable financing being offered for the purchase of houses. A distortion that helped to anticipate much of the consumption we have seen, but that will come back and hurt house owners, whether by house prices falling, or hurt everyone, by inflation eroding our real consumption power.

Sir, when that happens, and the crisis needs to be managed so as to impede the destruction of all social cohesion, would you prefer to do that on a national level, instead of on the level of a union in which very few know how to sing its anthem?

Sir, I’m no one to give a recommendation but, should not the Brexit vs. Remain discussions refer more fundamentally to the future of Britain and of EU, instead of being turned into another profitable venture for some opportunistic polarization profiteers?

Should not FT inform its readers, in a much more balanced way, of all challenges that lay ahead, not only those of a Brexit but also those of a Remain?

A long time friend and admirer of Britain 

@PerKurowski

Should not EU cut its grand bargain with all its over-indebted sovereigns before any Brexit vs. Remain voting took place?

David Folkerts-Landau, the chief economist at Deutsche Bank writes, “An Italian debt crisis poses an existential risk to the eurozone. The current game of chicken is irresponsible. It also ignores the dangers inherent in any financial crisis, the costs of which would dwarf those of having the ESM step in”, “Europe must cut a grand bargain with Italy” November13.

Of course Italy cannot be expected to pay €2.450 billion, meaning over €40.000 per citizen, denominated in a currency that is de facto not Italy’s real domestic (printable) currency. Be sure Sir, Italy will not walk the plank, as Greece had to do.

But of course what Folkerts-Landau writes, “The option of a debt write-down with private sector involvement is also unfeasible”, is not possible either.

One way to solve Italy’s (and Europe’s) sovereign debt crisis as painless as possible could be by using a Brady bond/zero coupon mechanism as used creatively by the US in 1989 during the Latin American debt crisis. I mentioned the use of those bonds to FT in a letter of 2008, “"Après us, le déluge", as did William R. Rhodes in 2012 with “Time to end the Eurozone's ad hoc fixes”.

A complementary tool to help fix Italy’s (Europe’s) banks, as I wrote to FT in 2012, would be to do what Chile did during its mega bank crisis in 1982 namely: a. having central banks issue bonds in order to buy “risky” loans not allowing banks to pay dividends until those notes had been repurchased; b. forcing banks to hold more capital with central banks subscribing shares not wanted by the market with these shares resold over a determined number of years and c. generous financing plans to allow small investors to purchase equity of the banks.

Obviously, for Italy’s (and Europe’s) banks to be really helpful to the real Italian economy, it would be imperative to get rid of the credit risk weighted equity requirements for banks, those which erode the incentives for banks to give credit to those who most could do good by receiving it, like SMEs and entrepreneurs.

What is absolutely true though is that to solve Italy’s (Europe’s) problems, more zero risk weighted loans to the sovereigns, in order for government bureaucrats to allocate the resources derived from bank credit, will just not cut it… no matter how much haircut on Italy’s (or other European sovereign’s) debt you accept.

Europe would need to start the process of helping Italy (and Europe) by getting rid of all current high-shot regulators. Not only would they be too busy, as until now, covering up their mistakes, but also, as Einstein said, “We can't solve problems by using the same kind of thinking we used when we createdthem.”

Sir, I suspect all in FT would vote for a Remain if given a chance, but before doing so, would you not prefer EU authorities to clearly explain to you how they intend to fix the European sovereign debts overhang. That which if not fixed will crash the Euro and thereby most probably also crash the European Union? Sir, would it not look truly silly Remaining in something gone?

PS. It is clear that without the help of those wanting immensely more to save the European Union than to save some cushy jobs, the future of the EU very sadly looks very bleak.

@PerKurowski

Poor Italy! So squeezed between inept Brussels’ technocrats and their own redistribution profiteers.

Sir, I read Miles Johnson’s and Davide Ghiglione’s  “Italy’s welfare gamble angers Brussels and worries business” November 10, and I cannot but think “Poor Italy”, squeezed between inept Brussels’ technocrats and redistribution profiteers.

“Italy’s welfare gamble”? That welfare which Brussels’ technocrats, for the purpose of bank capital requirements have with their Sovereign Debt Privileges of a 0% risk weight helped finance? Italy’s public debt is now about €2.450 billion, meaning over €40.000 per citizen? 

That 0% risk weight is alive and kicking even though Moody’s recently downgraded Italy's debt to “Baa3”, one notch above junk status and that even though it might not have yet considered that the euro is de facto not a real domestic (printable) currency for Italy. If that is not a welfare gamble by statist regulators on governments being able to deliver more than the private sector, what is? Poor Italy.

But then I read about a government proposal that could increase welfare payments to poor and unemployed Italians to as much as €780 a month but which eligibility and distribution criteria remain unclear and again I shiver. That sounds just as one more of those conditional plans redistribution profiteers love to invent in order to increase the value of their franchise. Poor Italy. 

For me a way out that would leave hope for the younger generation of Italians would have to include a restructuring of their public debt with a big haircut for their creditors; hand in hand with an unconditional universal basic income, that starts low, perhaps €100 a month, so as to have a chance to be fiscally sustainable.

And if that does not help, then Italy will have to count (again… as usual) on its inventive and forceful strictly citizen based “economia sommersa”, something that is not that bad an option either.

PS. Oops! I just forgot that most of that Italy debt is held by Italian banks, so perhaps a type of Brady bonds EU version could be used. Like Italy issuing €2.4 trillion in 40 years zero-coupon debt, getting an ECB guarantee for a substantial percentage of its face value, and allowing banks in Europe to hold these on book on face value; all so that Italy can use it to pay off its creditors could be a shooting from the hip alternative… and then of course have all pray for some inflation to reduce the value of that debt.

PS. I am not the one first speaking about Nicholas Brady, then US Treasury Secretary, approach in 1989. Here is William R. Rhodes “Time to end the eurozone’s ad hoc fixes” in FT November 2012.

@PerKurowski

What’s a rule-based global system worth when the rules are crazy and rulers do not want to discuss these?

How would an ordinary European citizen answer the question: Is Greece a trustworthy borrower? Whatever his answer, what would you think he would say if he was then informed that the European Commission, for the purpose of bank capital requirements assigned Greece, and all other eurozone members, a 0% risk weight? As it is easy to understand that helped to cause the tragic over-indebtedness of Greece and of many other sovereigns, like Italy. 

Sir, you now write, “The Armistice anniversary is a time to reflect that the peace and stability of Europe will require responsible German leadership” “Drawing lessons from the inferno of 1914-1918” November 10.

So let me ask you do you really think The European Commission, the European Central Bank, the European Parliament, all of them, had, responsibly, the lessons of the Versailles Treaty in mind, when they imposed armistice conditions on that capitulating eurozone sovereign debtor of Greece?

Sir, you know that I consider requiring bankers to hold more capital against what they perceive as risky than against what they perceive as safe a total lunacy. Yet, those who imposed the risk weighted bank capital requirements global rule do not even wish to discuss it. Yet, “Without fear and without favour” FT has not dared to ask for an explanation.

The only explanation we have been given about the standardized risk weights imposed on bank by the Basel Committee; those that allow banks to leverage only 8.3 times with assets rated below BB-, and a mind-boggling 62.5 times with assets rated AAA, is “An Explanatory Note on the Basel II IRB Risk Weight Functions” of July 2005.

That document, which totally ignoring conditional probabilities equates ex ante perceived risks with ex post dangers also states, “The model [is] portfolio invariant [because] taking into account the actual portfolio composition when determining capital for each loan - as is done in more advanced credit portfolio models - would have been a too complex task for most banks and supervisors alike.”

Sir, I must tell you, if that’s the rule-based global system Donald Trump might now be threatening, we should at least be thankful for him shaking up many things that need to be shaken up.

I do not like autocrats in my country, but neither do I like them among the global order rules setter.

PS. In the case of the 0% risk weight of sovereigns in the Eurozone that is made even crazier by the fact that de facto the Euro is not their domestic currency.

PS. Where do I come from? Here is an extract of, “The riskiness of country risk”, September 2002: “What a difficult job to evaluate risk! If they underestimate the risk of a country, the latter will most assuredly be inundated with fresh loans and leveraged to the hilt. The result will be a serious wave of adjustments sometime down the line. If a country becomes bankrupt due to your mistake, it could drag you kicking and screaming before an International Court, accusing you of violating human rights. If I were to be in the position of evaluating country risk, I would insure that the process is totally transparent, even though this takes away some of the shine of the profession and obligates me to sacrifice some of my personal market value.”

@PerKurowski

What would happen to German Bunds, denominated in Euros, if Italy refuses to walk the plank like Greece?

Sir, I am not sure I follow Kate Allen’s discussion about the future of German Bunds. It is almost as she was discussing these as denominated in Deutsche Mark. The fact is these are in Euros, the same currency other weaker eurozone sovereign-debtors have their bonds denominated in. For instance, what would happen if Italy refuses to walk the plank like Greece? “German bond buyers bank on smooth withdrawal from QE”, November 6.

The European Union has clearly not dedicated itself wholeheartedly to solve the fundamental challenges posed by the adoption of the Euro by so many of its members, twenty years ago. For instance the European Commission has wasted its time on so many issues of minuscule importance that were really none of its business. As a result that Euro, which was created to unite Europe, might now disunite it. 

So what would happen if the Euro breaks in pieces? I have no idea but, in the case of Germany, if asked, I assume holders of German Bunds would probably accept to convert these into German Neo-DM Bunds. But of course that would also put an end to the eurozone “weaklings” subsidizing Germany’s competitiveness… like what if 1US$ = 0.75 Neo-DM? It would be a whole new ball game for everyone, Germany included!

Sir, as I recently wrote to you, for all those who want a peaceful European Union to thrive, which of course should include both Britain’s Brexiters and Remainers, the acts commemorating the end of WWI, provides an opportunity for important reflections.

In this respect the European Commission, the European Central Bank, the European Parliament, all of them, when imposing armistice conditions on capitulating eurozone sovereign debtors, should do well remembering the Versailles Treaty.

PS. Greece walked the plank

@PerKurowski

EU, when imposing armistice conditions on your capitulating eurozone sovereign debtors, remember the Versailles Treaty.

Sir, Simon Kuper referring to historical events like the Versailles Treaty writes, “In international relations, treat even your opponents like long-term business partners. You will meet again, and if you hurt them for short-term gain, they won’t forget.” “Lessons from 1918 for today’s world leaders”, November 3.

And Kuper follows it up with, “Peace in the region cannot remain the EU’s selling point. Precisely because Europeans have come to take peace for granted, they now (rightly) ask: ‘What have you done for me lately?’ ”

Sir, if I were a Greek citizen, and perhaps this would soon apply to an Italian too, I would ask and tell the European Union authorities, the European Commission, the following: 

“Why on earth did you assign our sovereign, who you must know that in terms of fiscal sustainability and efficient governing is not the brightest star by far, an absolute zero percent credit risk? That allowed banks all over Europe to lend to our sovereign against no capital at all, something that caused our sovereign to get hold of more and more easy money… until it could no more.

But besides this, what I really want to know is: Even though you have provided some cash flow easing, which helps of course, as it was partly or even mostly your fault, why did you force on us Greeks all that debt and did not ask European banks to share more in the losses? Thanks much to your mistake and your armistice terms, we are now saddled with about €345.000 million of debt, more than €30.000 million for each Greek, and it is all denominated in a currency which de facto is not entirely our domestic currency.

Do you think that newborn Greeks, when they grow up and find out, are going to keep a cool head about all this and be able to sing the EU’s anthem “Ode to Joy” with enthusiasm?”

Sir, in short European “world leaders gathering in Paris next week to commemorate 1918” should reflect on what they might be doing today when imposing unrealistic armistice conditions on those who have to capitulate on not being able to service their sovereign debt.

PS. Sir, as a Venezuelan I can assure you that those looking to bailout those of theirs financial profiteers who provided finance to our corrupt human right’s violating regime, will not find us Venezuelans accepting that without a fight.

@PerKurowski

EU authorities, assigning Italy, like Greece, a super duper investment grade status, are the original sinners.

Sir, Wolfgang Münchau writes,“The main instrument of coercion in the eurozone is not its fiscal rules, but the power of the European Central Bank to withdraw funding from national banks. This is not a discretionary power, but one that is automatically triggered once a country‘s sovereign debt loses investment grade status. If the banks have large holdings of their home countries’ debt, as is the case in Italy, they are setting themselves up for failure if their governments run an unsound fiscal policy” “Italy is setting itself up for a monumental fiscal failure” October 29.

“Triggered once a country‘s sovereign debt loses investment grade status”? Should in the first place Italy have gotten the super-duper investment grade status assigned to it by EU authorities? By mean of “sovereign debt preferences” they assigned it a 0% risk, which allow banks to hold Italian public debt against zero capital? Italy’s like Greece’s like many other and perhaps all other sovereign, the main problem is not losing that status but having been awarded it. 

And even if your 0% risk weight would be based on the nation being able, in nominal terms, to repay 100% of its debt, using the printer, the hard truth for Italy, and for all other eurozone countries is that though eurozone investors holding sovereign debt denominated in euros have the right to consider holding assets in their domestic currency, the eurozone sovereigns who owe such debt do not have  an absolute right to consider they owe it in their domestic currency.

In a 2002 Op-ed titled “The Riskiness of Country Risk” I wrote, “If the risk of a given country is underestimated it will most assuredly be leveraged to the hilt. The result will be a serious wave of adjustments sometime down the line.” That, which hit Greece, now awaits Italy, courtesy of EU.

Sir, it is not obsessive me again. September 2013, in FT, Jens Weidmann, the president of the Deutsche Bundesbank begged, “Stop encouraging banks to buy government debt”. What has EU done about that? Nada! 

Münchau ends with “The eurozone’s dysfunctionality has many origins. It would be unfair to blame it all on Italy. The rise in Italian spreads is evidence that the eurozone crisis never ended. It just fell dormant for a while.”

That is entirely correct, the saddest part though is that the challenges posed by the euro were known, from the get-go.

Sir, as I’ve told you many times before, it is truly mind-boggling how in all the overheated Brexit/Remain discussions that divide Britain, so little attention has been given to the EUs own very delicate conditions.

@PerKurowski

Italy’s mostly domestic debt is denominated and must be served, in a mostly foreign currency, the euro.

Sir, Isabelle Mateos y Lago informs that “the bulk of sovereign debt is owed to Italian residents rather than eurozone governments.” “Greek debt crisis echoes resound in Italy’s face-off with Brussels” October 25.

EU’s authorities assigned to all sovereigns using the euro, by means of something called “Sovereign Debt Privileges”, for purposes of the risk weighted capital requirements for banks, a 0% risk weight

The only way one could foreseeable defend such outright statist idiocy, is with the argument that nations are always able to nominally pay their debt by printing themselves out of too much debt. Unfortunately these euro nations do not have their own euro-printing machine.

The challenges with the adoption of the euro twenty years ago were immense and surely known by many. Myself, far away from Europe, in Venezuela, in November 1998 published an Op-Ed titled “Burning the bridges in Europe”. In it I wrote: 

“The possibility that the European countries will subordinate their political desires to the whims of a common Central Bank that may be theirs but really isn’t, is not a certainty. Exchange rates, while not perfect, are escape valves. By eliminating this valve, European countries must make their economic adjustments in real terms. This makes these adjustments much more explosive.”

So here we are with mindboggling little having been done to solve the euro challenges. Pushing more debt on needing sovereigns basically just kicked the can containing the euro’s problems down the road.

Mateos y Lago concludes: “Italy is too big and strong to be pushed around. So Italians will decide their own fate. The others should redouble efforts to survive this potential wrecking ball. This means adopting European Stability Mechanism instruments that would allow near instant access to OMT to well-run countries suffering from contagion, and provide some form of collective insurance against bank runs for institutions that meet agreed criteria” Indeed but that is again just pushing the euro challenge forward upon the next in line.

That, to me, sounds just like “Let’s kick the euro-problem can down the road again!”

Sir, as I’ve told you many times before, it is also mindboggling how in all the overheated Brexit/Remain discussions, so little attention has been given to the EUs very delicate conditions

@PerKurowski