'Nothing is safe that does not show it can bear discussion and publicity."
These words, among the many pearls uttered by the celebrated 19th century historian Lord Acton, have often come to me in recent years as the sub-prime crisis has unfolded. They've been particularly on my mind over the past week or so as I've watched events in the eurozone....
The relevant observation, though, isn't that France and Spain just managed to auction more debt at lower yields. The relevant observation is "why?" For the reality is that the European Central Bank – whisper it – is now engaged in full-on "stealth monetisation" of the eurozone's hideous, interlocking edifice of bank and sovereign liabilities. This isn't openly admitted, of course, given the German public's acute opposition to "money printing". But it's happening nonetheless.
The ECB has, for several months now, been aggressively lending to European banks ... This tawdry practice, for sure, is providing eurozone politicians, and their banking sector friends, relief for now. Yet, it cannot go on – which is why, to reprise Lord Acton, it is happening "below the radar".
Beyond the sly moves, though, the eurozone still faces an imminent, chronic funding problem. Member states need to repay €770bn of debt this year, the bulk of it over the first six months. European banks, themselves heavily dependent on state largesse, have another €520bn of debt coming due by this June, much of it during the first quarter. Berlin appears to have decided that raising the alarm about eurozone QE – for that is what it is – would seriously undermine not only recent stock-market gains (which are helping bank balance sheets look less ghastly) but also upcoming government debt auctions themselves.
The fundamental issue is that Europe's banks remain locked out of traditional funding markets, leaving them reliant on the ECB – which, in turn, is now increasingly reliant on conjuring-up credits ex nihilo, while begging the Chinese to provide a bail-out.
Behind last week's triumphant headlines, this is the reality. Faced with a funding freeze, banks are shrinking their balance sheets, of course, strangling growth by refusing to lend, a problem the ECB's black arts will do nothing to address.As this blog has repeatedly discussed, central banks providing liquidity buys time to end a solvency problem but is not by itself the solution.
Unable to raise genuine commercial cash, eurozone banks are barely lending even to each other, due to crippling fears of counter-party risk, given that many continue to hide massive liabilities in so-called "special purpose vehicles". European lawmakers, after all, like their UK counterparts, lack the guts to force them to publish their balance sheets in full.
This remains the nub of the sub-prime problem. The so-called "stress tests" – bank balance-sheet inspections by regulators, who then tell the markets what they think – just won't do.
Investors themselves need to judge who is solvent and who isn't. Only then can realistic, enduring judgments be made about which banks should and shouldn't survive.
Capitalism works only when, as Lord Acton might have put it, there is "full disclosure" of all relevant information and creditors can take a meaningful view.Please re-read the highlighted sections as it provides an excellent summary of why banks need to be required to provide ultra transparency and disclose on an on-going basis their current asset, liability and off-balance sheet exposure details.
So eurozone governments need to stand behind retail depositors, make the financial institutions "fess-up" and let the cards fall, forcing the bombed-out European banking sector to consolidate.
This really is the only solution in the eurozone, as well as the UK and US.
Europe's failure to grasp it is more immediately explosive, though, given the political pressures created by being locked into the single currency straitjacket.Mr. Halligan has just presented the fundamental building blocks of this blog's blueprint for saving the financial system as the global solution.
Regular readers will recall that the blueprint required banks to provide ultra transparency and for governments to stand behind depositors.
The Basel Committee on Banking Supervision has lately been making noises about requiring banks, when they announce their crucial "tier-one" capital ratios, to reveal how such ratios have been calculated. Outrageously, across the Western world, banks are still permitted to cover this up. In what other industry would such accounting secrecy be tolerated, particularly an industry of such huge systemic importance to the rest of the economy?
Already, banks are messing with internal "risk-weight" assumptions, in a bid to dodge new rules requiring them to hold more capital. Now they're pushing back against efforts to introduce further, much-needed transparency. Are the politicians reining in the banks, putting them in their place and protecting public interests? Are they heck.
Some play down the possibility of a "euroquake" and the likely fall-out if one happens. While eurozone nations contributed 20pc of global GDP growth during the 1970s, that share is now way below 10pc, given the new importance of the emerging giants of the East. Having said that, a systemic eurozone banking crisis would rock the world. The financial contagion on asset markets elsewhere would be huge.
In the end, this eurozone crisis is less about Greek pensions or Italian welfare payments than it is about the region's Gordian knot of entwined bank and sovereign debt. The banks are destroying the governments. And once the governments go down, social unrest will ensue.
Eurozone banks need to be forced to fess-up, write down their losses and consolidate, yet lawmakers hesitate. That's because our political classes have been "captured" by the financial services sector, a sector allowed to run riot, in recent years, to an ever greater degree.
"Power tends to corrupt", as Lord Acton famously said, "and absolute power corrupts absolutely".