Last-chance saloon closing for business

Spain's 'total emergency' could bring down the entire euro zone, argues Eddie Ford

“Single currency gloom goes viral” - so went the headline to an especially downbeat editorial in the Financial Times, a newspaper to be avoided these days if you are after a cheery read (June 1). The universally gloomy economic news is reviving unfortunate memories of late 2008 and the collapse of the once mighty Lehman Brothers, which sent the world’s major economies into a tailspin - and only massive state intervention by a reluctant George Bush saved the day for the global financial/banking system.

But this time round the stakes are, if anything, even higher - a potentially catastrophic break-up of the euro zone itself which triggers an unprecedented global slump. Yet the capitalist ruling class as a whole seems paralysed by the pace of events, seemingly unable to come up with any viable plan or strategy to save their system. Instead, locked into a state of near permanent crisis management, they jet from one carbon-unfriendly summit to another - going precisely nowhere. Giving the unfolding story an air of tragic - or farcical? - inevitability. In the words of one online broker, “When the tide is this strong, there is no point in swimming against it: simply get in your lifeboat and hope for the best.” An almost perfect summation of the bankrupt capitalist system, seemingly drifting towards the abyss.

Grim data

Billions were wiped off stock markets in a panic sell-off between June 1 and 4 as investors responded to the relentlessly grim data about the state of the world economy - everywhere you look things are bad. The markets were particularly spooked by the deteriorating performance of the US and Chinese economies, the supposed economic powerhouses that would come to the rescue of capitalism.

Hence the jolting news that just 69,000 jobs were created in the US last month, meaning that unemployment went up by one percentage point from the last quarter to 8.2%. This naturally increased fears that weak demand from crisis-hit Europe is directly hitting US businesses and growth prospects in general. Of course, these statistics conceal even greater human misery. Almost half of the 8.2% without a job are long-term unemployed and thus may find it a lot harder to return to work when - and if - the jobs eventually come back.

But the situation for US workers is even worse than that when you consider that the official unemployment rate only includes those who have ‘actively’ looked for a job - or are deemed to have done so - in the previous four weeks. Therefore the so-called underemployment rate, which includes part-time workers who would prefer to work full-time as well as people who have simply given up looking for work, remains extremely high at 14.5%. It almost goes without saying that the number of temporary workers has significantly increased, indicating that bosses are reluctant to take on permanent staff, and that hourly earnings rose by a mere 1% - showing that most of the jobs created are insecure, low-paying, positions.

There was more gloomy US economic data over the last week, as it emerged that orders for new factory goods were down for the third time in four months. Consequently the manufacturing PMI index for May registered at 53.5 points, a decrease of 1.3 when compared to April’s reading of 54.8 (a reading above 50 indicates that the manufacturing economy is generally expanding; below 50 indicates that it is generally contracting). Overall, according to the commerce department, GDP in the US rose just 1.9% in the first quarter - significantly slower than the 3% reported in the fourth quarter of last year.

Then there is China. ‘Normally’, if you can use such an expression about China, the country can be relied on to produce rocketing official growth figures that put a broad smile on the faces of ‘official communists’ and corporate capitalists alike. Not any more, it seems. China’s services sector, which accounts for almost 43% of China’s total economy, saw its pace of growth slow down considerably in May - leading the non-manufacturing PMI index to drop to 55.2 from the 56.1 in April.

That news comes just days after Beijing reported a sharp drop in activity in its manufacturing sector during the month. Thus the PMI for manufacturing fell from 53.3 to 50.4 in May, its lowest in five months. Yes, it was the Chinese PMI’s sixth straight month above the 50 level, but the index fall highlights a clear slowing of growth momentum. Other official economic data for May appears to confirm this trend. The sub-index for output fell 4.3 points to 52.9, while the new orders sub-index was down 4.7 points to 49.8, signalling an outright contraction and a continued fall in economic growth.

Needless to say, European economic data goes from bad to worse, to even worse. The euro zone’s jobless rate has now hit a record high of 11% and is only set to get higher and higher. Europe’s service sector, quite predictably, has suffered its worst monthly decline in almost three years. The Markit Group reported that Germany’s service sector barely grew in May, when its PMI score was 51.8 - but that is positively booming compared to France (45.1), Italy (42.8) and Spain (41.8). The euro zone’s private sector shrank at its fastest pace since June 2009. At only 46.0, May’s ‘composite’ PMI for the euro zone area was the fourth month in a row to show a marked contraction. Even Germany’s output fell, although at a slower rate than the rest of the euro zone. Take comfort from that if you wish.

Meanwhile, in the UK, which relies, of course, on the rest of Europe for almost half of its exports, the PMI slumped from 50.2 to 45.9 - the second steepest fall in its 20-year history. With the economy already in a double-dip recession, Bank of England governor Sir Mervyn King has warned that the UK will not remain unscathed with the euro zone “tearing itself apart” - so we might see another round of quantitative easing and a further cut in interest rates.

Perhaps more critically still, the very latest economic data shows that the real money supply (ie, cash and overnight deposits) for China, the euro zone, Britain and the US has been contracting rapidly since the early spring - a sure sign that a full-blown global recession is in the offing. Such facts help to explain why commodity prices are falling hard, with Brent crude down to a 16-month low of under $97 a barrel.


Unsurprisingly, there is mounting anger in some sections of the North American political establishment - and amongst the Asia elites - over the chronic failure of the European governments to harness their vast resources to contain the bushfires that have broken out in Greece and now Spain. With each radical inaction taken, the crisis steadily escalates.

Capturing this sentiment, George Soros, the notorious billionaire investor, declared on June 3 that Germany only had three months to save the euro or risk the destruction of the European Union and a “lost decade”. In his assessment, Greek voters were likely to elect a ‘pro-bailout’ government on June 17, but no future government could meet the conditions insisted upon by the European Commission, European Central Bank and International Monetary Fund troika. Meaning that the Greek crisis, as far as Soros is concerned, is “liable to come to a climax” in the autumn. By that time, however, the German economy will also be weakening so that the Angela Merkel administration will find it “even more difficult than today” to persuade the German public or taxpayer to shoulder any further European responsibilities - such as effectively bailing out Greece or the dysfunctional Spanish banking system through a new system of ‘mutualised debt’ (ie, Eurobonds). Therefore, for Soros, this creates a three month “window” within which the German government and the Bundesbank have the opportunity - if they show leadership - to do something serious to save the euro.

Yet there is still no sign of any sort of coherent plan being adopted - whether in German governmental circles or elsewhere. Rather, we had what was widely billed as an ‘emergency’ teleconference between G7 finance chiefs on June 5. Curiously though, given the enormity of the crisis, they could not even be bothered to issue a joint statement afterwards. All we got was an incredibly bland statement from the US treasury saying that the G7 ministers and governors “reviewed” developments in the global economy and the “policy response under consideration”, including the “progress towards financial and fiscal union” in Europe - a development that is more imagined than real, as things stand now. Amazingly, Japan’s finance minister, Jun Azumi, told reporters in Tokyo that the possibility of Greece leaving the euro zone was not even discussed during the teleconference - despite the fact that the rest of the world is endlessly talking about it and, more to the point, planning for it to one degree or another.

More upfront, British officials described the G7 teleconference call as a “stocktaking session” ahead of the upcoming G20 summit on June 18-19 in Los Cabos, Mexico - another meeting about a meeting. Apparently, a blueprint for a “federalised” euro zone will be unveiled at Los Cabos. Having said that, we might have to wait until an EU summit scheduled for the end of June to see more details. Though it would be inadvisable to hold your breath until then, we do read that Paris and the EC - maybe heeding Spain’s pleas for an EU rescue of its banks - have voiced strong support for a euro zone “banking union”. The scheme, insofar as there is one, could see national debt and banking liabilities pooled - then buttressed in turn by the financial strength of Germany. If established, this banking union could use the EFSF/ESM to inject cash into collapsing banks - direct payments of this nature being impermissible under the existing rules.

As part of the deal, the respective euro zone governments will have to surrender sovereignty over their budgets and fiscal policies to a centralised euro zone authority. You could even call it, approvingly or disapprovingly, an outline for a United States of Europe. “You can’t demand Eurobonds but not be prepared for the next step in European integration,” Merkel sternly but logically argued over the weekend, contending that “no-one outside will lend us money any more” without seeing moves towards greater union - politically, economically and fiscally.

And on June 6 the EC also unveiled proposals designed to stop taxpayers’ money being used to bail out failed banks, the stated aim being to ensure that losses are borne mainly by bank shareholders and creditors as opposed to you and me. However, as is always the way with such things, new legislation to this effect is unlikely to come into force before at least 2014. Under current conditions, however, that is almost an age away and, given the dismal track record so far of all the various ‘blueprints’ and ‘plans’ to save the euro, it is impossible to escape the feeling that it is far too little, far too late - if it happens at all. There are only so many times the world leaders can enjoy a drink at the last-chance saloon before it closes for business.

Total emergency

Inevitably, tensions are surfacing again within the euro-bureaucracy. Olli Rehn, the EC vice-president, told journalists at the beginning of the week that use of the EFSF/ESM to bail out lenders was a “serious possibility” - adding that it was imperative to “break the link between banks and sovereigns”. However, there is no evidence whatsoever that the German government is willing to abandon its veto on such action. For Merkel, barring a Damascean conversion, the proposed banking union - and closer banking supervision - is a “mid-term goal”.

Similarly, the German finance minister, Wolfgang Schäuble, strongly emphasised that anything which “resemble Eurobonds” are for the “distant future” - no matter how desirable that lofty goal might be. There are no quick fixes. Playing hardball, Schäuble bluntly asserted that “it’s up to national governments [like Spain] to decide whether they want to avail themselves of aid” - as “the rules prescribe”. And Spain is now a country which in the opinion of Felipe González, the former prime minister, is in state of “total emergency”. In fact, González claimed, Spain is facing the “gravest danger” since the end of the Franco dictatorship.

He might have a point. International market confidence in Spain has drained away since Mariano Rajoy, the prime minister, announced plans for a €23.5 billion rescue of Bankia, the country’s fourth biggest lender. Of course, feeding into the mix, a raft of other Spanish banks are also struggling under toxic property loans - part of the poisonous legacy generated by the implosion of the property market in 2008. Spain’s borrowing costs have soared to some 6.7% for 10-year government bonds with the risk premium for ‘safe haven’ German bonds reaching a euro-era record. For example, German two-year bond yields at one stage went negative for the first time in history - meaning investors are effectively paying Berlin in order to have the pleasure to lend money to it. A totally unsustainable position.

The markets are on tenterhooks, as Madrid plans to issue €1-2 billion worth in 10-year debt on June 6 in a key market test. There is every possibility that Spanish yields will reach the same sort of levels that compelled it to launch a €1 trillion liquidity blitz last November - only to find itself back in the same position after six months. So what will the ECB do this time? Andrew Roberts, credit chief at Royal Bank of Scotland, said that “nobody” is dealing in short-term Spanish debt at present because they are “expecting imminent ECB intervention”. But if such help does not arrive and Spanish yields hit 6.8% and more, “we’re going to see a hyperbolic sell-off”. Meanwhile, Spanish tax revenues have collapsed, replicating the pattern in Greece. Fiscal revenues have fallen by 4.8% over the last year and VAT returns have slumped 14.6%, while the cost of servicing debt has risen by 18%. Do the maths yourself.

Clearly, the central Spanish government cannot afford to bail out the banks. Economists at the US bank JP Morgan have estimated that Spain might require a bailout of €350 billion, of which €75 billion needs to be directly pumped into the ailing banking sector. Rajoy needs and wants a bailout of some description, which has to come from what he termed “European institutions”. Cristobal Montoro, Spain’s finance minister, openly admitted that the credit markets were “effectively shut” to his country.

Yet Rajoy is desperate to avoid requesting a full-scale ‘official’ bailout from the troika, or similar bodies, due to the humiliating and politically destabilising conditions that would be attached to such funds. Just look at Greece which at best, from the viewpoint of the euro establishment, will on June 17 essentially reproduce the results of the May 6 parliamentary elections - continued electoral stalemate and a fundamental constitutional crisis, if not a developing revolutionary situation (some opinion polls have Syriza with a narrow lead over New Democracy). Definitely not what the Rajoy government wants. Hence he told the Spanish senate that Europe must underline the “irreversibility” of the euro by agreeing a “common banking union” and the introduction of Eurobonds. But will Merkel blink?