At some point a discussion of the breakup of the euro will become a much more serious one in countries like Spain. When will this happen? I suspect it will begin in France. Check out this article from the Financial Times:Twelve years ago Jean-Marie Le Pen, the leader of France’s far-right National Front, stunned the French political establishment by bursting through to the final round of the country’s presidential election. Last weekend Marine Le Pen, his daughter and successor, revived memories of that moment with a triumph in the first round of the French municipal elections.In polls that spelt yet another setback for President François Hollande, the National Front dominated the headlines. Championing strongly anti- EU and anti-immigration policies, it grabbed control of a town hall in France’s industrial north, an unprecedented victory in that part of the country. In six other towns that it contested, the FN won between 28 per cent and 40 per cent of the vote. The party is now well placed to win a string of towns such as Fréjus, Avignon, Béziers and Perpignan in next weekend’s second round.The article goes on to explain why Le Pen is bad for the euro:Ms Le Pen’s continuing ascent is a profoundly worrying development for France and for Europe. While she has largely detoxified the raw image that the FN had under her father, the party still retains below the surface a strongly racist and anti-immigrant streak. Its economic policies, which focus on abandoning the euro and erecting protectionist barriers, are not remotely credible. Yet the chronic weakness of the two main parties in14 France – the socialists and the centre-right UMP – has given her every chance to advance.My French friends tell me to ignore Le Pen, and that she will never win, but I would make two points. First, elite opinion in France may be united in their disgust for Le Pen, but it does not represent popular opinion. Le Pen might well be much stronger than they think, and their disgust with her is actually a vote getter, not a vote loser.Second, and more important, Le Pen doesn’t need to win. She just needs to prove that anti-euro feelings can get a lot of votes. If Le Pen’s impact is nothing more than to break the implicit elite prohibition on any discussion of the euro, it will be enough to open a whole new set of discussions. This will affect not just France, but will affect even more countries like Spain, Italy and Portugal, who look to France for intellectual validation.What makes these discussions dangerous for the euro is the recognition – and it will come – that the countries that leave the euro first will do best, and those that leave last will do worst. If Le Pen, and other anti-euro extremist parties, does better than expected in May’s elections for the European parliament, it might be profitable to be long out-of-the-money volatility, especially puts on peripheral European debt.By the way I do not expect that the euro will break and that peripheral borrowers will be forced into restructuring their debt very soon. For many euro-bulls, the fact that it hasn’t happened even nearly six years after the crisis is proof that it won’t.It isn’t. With Le Pen we are seeing a replay of the battle between workers and bankers that has been at the heart of every debt crisis in modern history, and this battle can take a long time to be resolved. The best recent example is the LDC Debt Crisis, which began in 1981-82. We did not get debt forgiveness until the first Brady restructuring of 1990. Until 1989, bankers insisted, against all evidence, that Latin America merely faced a liquidity problem, not a solvency problem (which is what creditors say before every debt crisis in history).The main reason bankers and US regulators insisted on this, it turns out, was because the large American banks were too thinly capitalized to recognize the losses. Nine of the top ten American banks (JP Morgan was probably the only exception) and many Japanese and European banks would have been technically insolvent if debt was marked down to anywhere near their market values.15 For this reason US regulators put enormous pressure on Latin American borrowers to keep rolling the debt, pretending it was a liquidity problem, while the US banks recapitalized, which they were able to do in part with yield curve help from the Fed. It wasn’t until around 1988 when American banks were sufficiently well provisioned to recognize the losses. If I remember correctly Citibank took their huge reserve increase in May 1987, signaling that all except Manufacturers Hanover and possibly Chemical Bank were sufficiently provisioned. It was only during the next year, in April and May of 1989, that the first real debt forgiveness was negotiated, for Mexico, and in 1990 the first Brady Bonds were issued.It seems that the same is happening in Europe. German banks simply cannot afford to recognize the losses yet, so Germany is determined to keep rolling over the debt until the German banks are sufficiently well capitalized. Once this happens, European regulators will “discover” that many European governments are truly insolvent, and then we will begin the long debt- restructuring process that has always been a necessary prelude to growth.Until then, European countries will either suffer from terrible unemployment, low growth, and infrastructure degradation, or there will be a voters’ revolt that will force the issue. In the historical and long-running fight between bankers and workers over debt, for better or for worse in France Le Pen currently represents the workers’ interest, and either the central or left parties will wake up to this fact or they will lose voters. I am not smart enough to tell you who will win this war, but it cannot help but be a bloody one.(M.Pettis newsletter 31.03)
Posted on: Wed, 02 Apr 2014 06:43:36 +0000
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