The EU summit produced a vaguely worded agreement that can and has been read in different ways in different nations. This column provides a quick reaction to what was and was not decided. It concludes that useful progress was made, but this was far from the decisive turn-around that many had hoped for. The crisis will continue to unfold in the months ahead.
Reading the official documents from the June 28 summit requires linguistic and divination skills. The texts are convoluted and clearly aim at giving various positive impressions while shying away from deep commitments.
- The clearest result is that EFSF/ESM funds can be used directly to support banks.
The summit attendees seem to have successfully drawn the conclusion that this was necessary from the disastrous impact of their mid-June decision on new lending to Spanish authorities to shore up their banks. Within hours, the main conclusion drawn by the markets was that the Spanish public debt had grown by €100 billion, bringing Spain closer to the fate of Ireland (bad bank debt dragging down a government with an otherwise healthy fiscal position).
The new agreement suggests that in the future, banks will be bailed out by the collective effort of Eurozone countries. This means that should the bank rescue turn sour, losses will jointly assumed, in proportion to each country’s size – so, for examples, Greek taxpayers could take a share in poorly managed rescues of Italian banks. This is solidarity, but…
- First, this arrangement is to be finalised by the end of the year.
This means that, in the end, the Spanish debt will rise by €100 billion (the market participants who enthusiastically celebrated the decision by raising the price of Spanish bonds will eventually understand that). Ditto in the not unlikely case that some Italian or French banks wobble before December.
- Second, conditions will be attached to such a rescue.
These recommendations could be clever if they require “Swedish-style” bank restructuring whereby shareholders and other major stakeholders are made to absorb first the losses, and if a new clearly untainted management replaces the previous one.
Such interventions limit the costs to taxpayers; they can even turn a profit. Of course, the conditions could also be silly, raising the costs to taxpayers to huge levels.
At this stage, both outcomes are possible.
- Third, the arrangement is linked to the establishment of a “single supervisory mechanism involving the ECB”.
This could be a single Eurozone supervisor built inside the ECB, which would go a long way to plugging one the worst mistakes in the Maastricht Treaty (lack of a joint regulation and resolution regime for banks).
But this is not what the official text says, which makes one suspect that policymakers have not agreed to something simple and clean. Most likely, they will keep negotiating and come with the usual 17-headed monster that exhausted diplomats are wont to invent.
This is important because a contagious banking crisis that hits several large banks would require much more money than is available in the EFSF-EMS facilities. In that case, the ECB will have to step in. In fact, the whole idea to have a single supervisor trusted by the ECB is to make it possible for the ECB – at long last act – to as a lender of last resort.
Unless the supervision regime is clear and clean, the ECB will not be able to do its job and a contagious crisis would turn into a full-blown disaster.
Compact for Growth and Jobs
The summit also agreed on a “Compact for Growth and Jobs”. This is a long and familiar litany of all the good supply-friendly reforms that have been advocated bi-weekly by the Commission for some twenty years plus a present to President Hollande. The present has been crafted in Berlin to give the new president a face-saving “victory”: he can go home and claim that he has obtained a victory in his determined war on austerity.
The pact allows for the mobilisation of various EU facilities for a total amount of some 1% of EU. Given that these amounts are tied to all sorts of criteria (small and medium enterprises, energy and broadband infrastructure, and other great causes), that they will be spent “across the whole European Union, including in the most vulnerable countries”, and that “fast disbursement” by the European bureaucracy does not operate on the same time scale as a financial crisis, this compact costs little and will do nothing for the Eurozone debt crisis.
Finally, the official texts include vague references to the possible use of EFSF/ESM funds to bail out governments with limited conditionality. It is very hard to understand what that really means beyond pleasing prime ministers Monti and Rajoy. Light conditionality, as they requested, is bound to collapse at the foot of the Bundestag, which must approve every single loan.
At the end of the day, the summit was a little move in the right direction on bank supervision, but keep watching; we still don’t know what will actually be put in place. There was nothing on collapsing Greece, nothing on unsustainable public debts in several countries, and no end in sight to recession in an increasing number of countries.
There was no knock-out winner in this summit, but on points I’d have to say that the winner is the crisis.