After Merkel’s decision to allow Eurozone funds to be used to bail out Spanish and Italian banks, the press tomorrow may declare – yet again – that some kind of breakthrough has been reached and that the Teutonic queen of austerity has been forced down from her throne. But, as ever with the Euro summits, there is less – far less – than meets the eye. Here’s my take:
1. Growth pact. Any pact representing no more than 0.0096 per cent of Eurozone GDP is hardly going to have a discernible effect, so let’s not pretend otherwise.
2. About those no-strings bailouts. It seems countries can access bailout funds without conditions forcing more austerity, as long as they comply with the Stability and Growth Pact. But how many countries at risk of needing money from bailout funds comply with those pacts? Zero.
3. Good news for Italy. According to its European commitments, Italy should close its fiscal deficit in 2012. If Eurozone authorities are generous in a likely request from Italy that the bailout mechanism purchases Italian bonds to drive down yields, Italy may pass. It seems safe to say that we will probably find out before long.
4. Numbers don’t add up. To calm the markets, any bailout mechanism would have to have more than €2 trillion at its disposal. Together, the EFSF and the ESM have the capacity to lend €500 billion. As the Eurozone has committed itself to assist the Spanish banking sector with €100 billion, only €400 billion euros remain, of which a further €100 billion could be needed for Portugal and Ireland, and after other commitments have been met only €250bn will remain. That won’t take the Eurozone far if it is to purchase Spanish and Italian bonds.
5. The bailout fund is not fit for purpose. I hate to say it, but there is insufficient money in the bailout structure to cover such a scenario. If all new resources recently raised by the IMF are also used, total financing needs for Spain and Italy in 2012-2014 could possibly be covered. But that would exhaust all existing committed resources, and a structure like the ESM is not built to be completely exhausted. Its credibility on the markets is based on the combination of paid-in capital and the capacity of big solvent economies to actually cover their capital-subscription liabilities if required. Like other schemes of this kind, the Eurozone bailout fund is durable only so long as investors believe that countries will not be asked to cover their liabilities.
6. This summit is no turning point. It may improve the flow of bailout funds to needy countries, but it is not a game changer. Only the European Central bank has pockets deep enough to give the much-needed systemic guarantee of the euro’s survival.