Friday, January 31, 2014

The euro crisis and the European banking crisis

Lucrezia Reichlin and Luis Garicano write about a key aspect of the euro's vulnerability in Squaring the Eurozone's Vicious Circle Project Syndicate 01/27/2014:

Although eurozone sovereign-debt markets have stabilized, the share of sovereign bonds held by domestic banks has increased sharply in the last few months, accounting for more than half of the net increase in debt emissions in some countries. In Spain and Italy, sovereign bonds now account for roughly 10% of banks’ total assets ..).

The risk is that any unexpected challenge faced by a weaker debtor country’s sovereign-bond market – say, Catalonia's secession referendum, or the renegotiation of the Portuguese and Greek bailouts – will undermine bank solvency, often even more than in previous rounds of the feedback loop. Moreover, even in the absence of a crisis, the sovereign-bond market’s geographical segmentation hampers monetary-policy transmission substantially. [my emphasis]
This is a reminder that the euro crisis that began in 2009 has always been a banking crisis manifesting itself as a sovereign debt crisis.

Since 2009, the mismanagement of the sovereign debt crisis under the misleadership of German Chancellor Angela Merkel has added other problems. Such as the one Jeff Madrick describes as the "extreme deprivation across the south of Europe, where unemployment remains extremely high and GOP is well below pre-crisis levels." ("How Germany Reconquered Europe: The euro and its discontents" Harper's Feb 2014)

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