If European leaders hoped that the dual listing plan of salvation of Ireland for 85 billion euros and the new European Mechanism for Stability calm nervous markets, they need to think again, judging by yesterday's enthusiastic reaction. EUR, which jumped to 1.3350 in early Asian trading after the announcement a day earlier, fell to 1.31 by the middle of the day, before the new two-month minimum. European debt markets were once again in a fright, providing a hard time for Spain, Portugal, Italy and Belgium. Yield of long-term government bonds to the Bund in the four markets at some point raised by another 20 basis points.
This is not surprising. The reason for the last debt crisis was never just a guess Merkel that bondholders should share the burden with taxpayers. This is a combination of many factors, including the following:
A) Many European banks have become more dependent on funding the ECB (and have completed an acceptable security);
B) wholesale (interbank) lending for these banks is almost entirely absent;
B) holders of retail deposits are deeply concerned profitability of their investments, despite the government guarantees safety of deposits;
D) holders of bonds, no matter large or small, are concerned at the loss;
H) Governments have provided guarantees on deposits at a time when mass raises the question of the amount of debt governments themselves and their fiscal deficits;
E) assets on the balance sheets of these banks under severe pressure, and
M), the German government under pressure from taxpayers who do not want to participate in future rescue of European countries.
Late last week, the IMF strongly pressed the Irish government to ensure that large bondholders accepted the restructuring. This was opposed by European leaders, who feared the further spread of fears for the fragile debt markets. Smaller bond holders in the Anglo Irish already were required to adopt a "haircut" 80%, although some of them feel humiliated, because large holders of bonds do not have such conditions. In the case of Ireland the opportunity for major bondholders to take losses in the three major Irish banks is limited because only a third of the bonds of these banks have government guarantees, or not protected. From our point of view, the bond holders in Ireland, as in Portugal, Spain, Greece and perhaps even in Italy, will be forced to participate in debt restructuring. Ajay Chopra, a leading man in the negotiations of the IMF in Dublin, it seems, continues to believe that the big bond holders are likely to contribute to Ireland. We think as well.
Speaking in general, the longer it will take European governments to accept the inevitability of "haircuts" for bondholders, the more confidence falls to European leaders and causing more damage to the single currency from the perspective of its use for reserves. To preserve their dignity, Europe can not long evade the issue. Taxpayers are unlikely to take long steps of salvation, if the burden of rescue will not be shared with investors.
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