Tuesday May 18, 2010 - 18:24:03 GMT
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Forex Blog - Germany Goes Rogue, EUR Sacrificial Lamb
When all goes wrong with Greece, Club Med debt, sovereign CDS and bank stocks, what is Germany to do? Go rogue. With my jaw inches above my floor in the wake of news from Berlin of capital controls in Germany (bans on naked short sales of 10 large German financials, EU sovereign debt and CDS on that debt) all the while EU finance ministers are meeting in Brussels (with the ECB), I can only conclude that Germany has had enough of the one for sixteen and sixteen for one approach to the financial crisis spinning ever increasingly out of control in Europe (and coming to a theater near you). Merkel must be channeling an East German pre-unification policy response to the problem in the banking system linked directly to the debt issued by weak EZ sovereign credits. I still canâ€™t believe this was not coordinated with the Eurogroup and Ecofinâ€¦it is almost as if Germany decided enough with being told or coerced into actions and now it is time to do what comes naturally. If financial crises are the work of speculators, ban speculation (EU is doing all it can to make hedge funds a near impossibility on the continent).
What few senior government officials seem to grasp in EU is that hedge funds never lied about Greek deficit figures to qualify for EMU. Nor did they create the Great Recession that exposed the downside from large deficits. Rather than accepting funds as a liquidity enhancing partner in markets driving efficiency and policy checks and balances on the macro side, they have been castigated as the root of all evil in the European debt, stock and CDS markets.
So close doors key to liquidity and two-way risk and the problems go away right Angela? Hardly. If markets are not free to establish prices in assets as key as the 10 largest stocks and 16 governmentsâ€™securities, why would counterparties have any confidence in the underlying securities and the institutions that own them.
Bunds have soared (presumably naked shorts are covering and some are buying betting on this reaction function)â€¦but this will not persist. Stocks have sold off in the US. And the EUR has fallen sharply. Assuming Germany gets its way here and market participants do not simply short German banks and EZ government debt in another center outside Germany, todayâ€™s decision will simply channel more investors and speculators to express a negative view in the currencyâ€¦unlimited EUR downside ahead.
Lastly, the Bank of Italy said it was telling Italian banks they no longer needed to mark-to-market losses on European government debt. Now that is one way to boost bank capitalâ€¦mark to make believe. Why would any Italian bank counterparty feel better about a trade with one of these banks using a Pinocchio par valuation model after today?
In every crisis officials are bound to make policy mistakes and often they are near fatal as in US officials letting Lehman fail. I fear that today is one of those daysâ€¦capital controls in response to the debt crisis come banking crisis unfolding in Europe could be the Lehman policy mistake that takes the global financial system to the brink, again.
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