The Resounding Message Coming Out Of The Bretton Woods Conference Is A Call For Leadership To Solve The Euro Crisis

The resounding message coming out of the world's economic leaders at the Bretton Woods conference today is that we need action.

And that in order for action, we need a strong leader. The fact that one does not exist right now was clearly on the speakers' minds as they spoke today.

Jean-Claude Trichet said that swift decisive action is needed in Europe.

Speaking at the Bretton Woods Conference in Washington DC on Friday (which we attended), the ECB President said that the world faces a sovereign crisis that is centered in Europe but has spread to larger economies. The rapidly rising risk of contagion threatens financial stability. In order to prevent contagion, Trichet says, decisive action is needed soon.

It sounds like the consensus is that we need a leader to come forward to propose and implement a solution to the crisis. The U.S., because historically it has been the global leader, has an opportunity to play that role. Unfortunately, Obama acts as a leader of the American middle class, etc, and not the world economy.

He also might not have enough business experience for his proposed action to be taken seriously, were he to make one. That suggests he would have to propose someone else's solution. Obama's war with business leaders makes that an unlikely possibility.

At the conference today there were multiple signs that the world's top economic intellectuals and leaders believe that what we really need is leadership.

Brazilian central banker Alexandre Tombini said that we must move fast to resolve the confidence crisis, and that the solution must come in a single message.

And Trichet said that we need authorities to who possess unquestioned authority, so that people have confidence in a solution, to deliver that message. What this leader would say, according to Trichet, would have to have 2 key components to it: triggering action – but not despair.

He echoed Larry Summers’ statement earlier Friday at the conference that one of the most difficult problems during a crisis is finding the language that generates concern and action, but that won’t trigger despair.

The obstacle right now is a leader who will deliver that message, or a lack there of.

These are solvable problems, said Summers. We just need action.

One action that has been gaining enthusiasm is the implementation of the EFSF, which could leverage investments by private investors to buy bad bank assets, among other TARP-like stability-increasing functions. However like TARP initially, the EFSF doesn’t have broad support yet.

PIMCO's Mohammed El-Erian said that the solution will involve convincing healthy balance sheets to engage in funding, which they will only do if they're convinced that the rest of Europe will participate.

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A CRISIS FOR THE WORLD: Citi's Willem Buiter Warns What Happens If Greece Quits The Euro

Citi's Willem Buiter is out with a new note firmly opposing all those who toy with the idea of a Greek exit from the eurozone.

"The prospect of Greece exiting the euro area is seldom viewed with the proper degree of fear and trepidation," he writes.

While Buiter admits that a Greek exit could have euro-positive implications in the long term, in the short term it would be an "economic disaster" for both Greece and the remaining 16 euro states with "severe economic and political implications" for the rest of the world.

Here are a few of his main points:

- A Greek exit is still unlikely but has become a lot more possible in the last few weeks.

- While the Euro Area can't formally kick Greece out of the euro, denying it bailout funds or forcing it to adopt unfeasible austerity measures would virtually amount to booting the Greeks out. Buiter cites stalled negotiations (set to resume tomorrow) between Greek officials and ECB/EU/IMF troika inspectors as a bad sign that this not impossible. "For the sake of economic stability and growth in the euro area, the wider European Union and the global economy, we hope that this message is taken to heart by the European authorities."

- Buiter believes that the troika will continue to give Greece funding, but will probably force Greece to endure more austerity cuts and will be directly involved in designing the program.

- Private creditors to Greece will probably accept a haircut of 65-80% net present value of their investments. More than 90 percent of Greek sovereign debt held by private creditors was issued under Greek law. That means Greece could pass a single law and walk away from all these debts. Creditors would have no recourse. Not that Greece will do that -- just that it can.

- Were Greece to exit from the euro, however, Buiter would expect private creditors to lose 90-100% net present value on all Greek debt.

- Greece will not leave the euro on its own. "A collapsed banking system, widespread default throughout the economy, a continuing non-competitive economy and high inflation with a material risk of hyperinflation would make for a deep and enduring recession/depression in Greece. Social and political dislocation would be certain. There would, in our view, be a material risk of a downward spiral of dysfunctional politics and economics."

Here's what would happen in Greece if it left the euro:

- Greece immediately issues a new currency, a run on banks would ensue, and no one will be able to get cash in Greece. The banking system there would be kaput. This also wouldn't restore growth or competitiveness to Greece in the long run.

- The big deal for the rest of the euro area is that an exit from the area was allowed and precedent was broken.

- After a Greek exit, markets would immediately focus on the PIIGS countries most likely to follow suit. Investors would withdraw any deposits they would have there.

He paints a pretty picture of just what would happen:

Apart from bank runs in every country deemed, by markets and investors, to be even remotely at risk of exit from the euro area, there would be de facto funding strikes by external investors and lenders for borrowers from these countries. Again, putting under foreign law (most likely English or New York) all cross-border (or perhaps even all domestic) financial contracts and instruments could at most mitigate this but would not cure it.

The funding strike and deposit run out of the periphery euro area member states (defined very broadly), would create financial havoc and mostly like cause a financial crisis followed by a deep recession in the euro area broad periphery. The counterparty inflow of deposits and diversion of funding to the ‘hard core’ euro area and the removal (or at least substantial reduction) of the risk of ECB monetisation of EA sovereign and bank debt would drive up the euro exchange rate. So the remaining euro area members would suffer (at least temporarily) from an uncompetitive exchange rate as well from the spillovers of the financial and economic crises in the broad periphery.

DON'T MISS: Here's who gets crushed if Greece goes bust >

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Here's The Right Way To Put An End To The Eurozone Crisis

Greece is not sustainable without a continual influx of subsidized capital, the Greek systems will crash simply under the weight of its sovereign debt, and that’s assuming that the banks don’t crash it first.

The choice for the rest of Europe is an unenviable one.

Either subsidize Greece and any other countries who can’t meet their bills in perpetuity or eject them from the eurozone.

However, Greece is not an island and ejecting them would cause cascading bank failures in Spain, Italy, France and the rest of the eurozone in a matter of a few weeks, so before you can seriously discuss ejecting Greece from the eurozone, you first have to build a structure that can contain the damage.

Step one is to ratify an agreement called the EFSF2 that is already under discussion in most European Parliaments.

The original EFSF, the European Financial Stability Facility, was designed to serve as the bailout regiment — it is in place.

The reforms, part two if you will, were designed to broaden its scope and allow it to deal with, for example, banking crises and make the bailouts more sustainable in the long run.

This program is currently being debated in all of the European capitals right now, pending ratification.

EFSF2 faces two major challenges. The first is from a series of states led by Finland and the Netherlands who are seeking collateral deals. Now, in the end, STRATFOR sees these collateral deals being allowed and struck probably by the end of the month, certainly by the end of the quarter. That’s not where we see the major problem. The major problem is that Germany, the country who wrote the EFSF protocols, won’t ratify it themselves. The EFSF protocols in specific are not very popular with German voters, particularly among the conservative parties that form the current government. It is possible, although not particularly likely, that the German parliament may reject the very reforms proposed and written by the German government. The final vote will be at the end of September.

That’s step one. Step two is to expand the bailout facility so that it can handle additional problems. Currently, the EFSF has the authority to raise 440 billion euros backed up by various state guarantees. That might be sufficient for a Greece or an island, but it’s woefully insufficient for the scope of the problems ahead. Those problems are twofold. First, you have Italy with 1.9 trillion euro in outstanding government debt. If Greece falls or is ejected, it’s highly likely that the Italians are going to be following suit. The EFSF strategy to date has been to provide a bailout package to damaged states in a volume equal to their total financing needs for a three-year period. In the case of Italy, you’re talking about 700-800 billion euro.

Additionally, one must assume that if Greece is ejected from the eurozone, that it will default in short order on its debt, causing the banking crisis cascade of failures that was mentioned before. This will require, at a minimum, about 400 billion euro to stop cold any Greek-specific contagion — that’s about the outstanding value of Greek government debt. It will also require a cushion of funds to counter the inevitable market chaos that will happen once Greece defaults. Using the American 2008 financial crisis as a template you’re looking at needing a fund of about 800 billion euros to backstop all the European banks that are exposed to distressed government debt. Add that together and you get a ballpark figure of about 2 trillion euros of bailout funds needed. STRATFOR expects the expansion of the EFSF to be the issue of 2012 in Europe. Without a bailout facility of that size, it would be impossible to head off the Italian catastrophe or a major European banking crisis, either of which could easily lead to the dissolution of the eurozone.

Now obviously there is any number of ways that this could all go horribly wrong. For example, a number of states, most notably including Germany, could decide that the cost of the bailout program is simply too high and vote it down, triggering a complete collapse of the system right off the bat. Greek authorities could come to the conclusion that they’re about to be jettisoned anyway and preemptively default, taking the entire system with them before the EFSF is ready to handle the collateral damage. An unexpected government failure could lead to a debt meltdown somewhere else. Right now Italy and Belgium are the two leading candidates. Already the Italian prime minister is scheduling meetings with senior European personnel to avoid having to meet with Italian prosecutors. And Belgium, which hasn’t had a government for 17 months and whose caretaker prime minister announced that he was going to quit today.

Finally the European banking system might actually be in worse shape than it looks like and 800 billion euro might not cut it. After all, major French banks were all downgraded just today, but shy of allowing every capital poor state in Europe to go on the doll permanently — this is the only road forward that can salvage the eurozone.

"This post originally appeared at STRATFOR, the world's leading private intelligence firm. To get access to more intelligence from STRATFOR, click here."

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El Erian: We're Getting Close To A "Full-Blown Banking Crisis" In Europe

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PIMCO's Mohammad El-Erian says we're on the verge of a European banking crisis.

El Erian told Bloomberg Surveillance:

“We’re getting close to a full-blown banking crisis in Europe... We are in a synchronized global slowdown. There’s very little confidence in economic policy making both in Europe and the U.S.”

“The light should be flashing yellow, if not red, in Washington, D.C., and hopefully the IMF meeting can be the catalyst for getting to a common analysis and setting the stage for the G-20."

The IMF needs to act with European banks at risk of being engulfed in the region’s sovereign-debt crisis, according to El-Erian.

That puts the spotlight on French banks, which will be among the worst hit if Greece defaults. France has $57.6 billion in exposure to Greek creditors, more than any other nation.

The first sign of a Euro banking crisis was Deutsche Bank CEO Josej Ackermann's speech last weekend. He said European banks would not survive if assets were marked to market.

And the countdown to a Euro bank bailout marches on.

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Here Are Five Ways Europe's Debt Crisis Has Been Put To Good Use

Europe's debt crisis often seems like a giant snowball accelerating down a hill.

With each rotation, it picks up more destructive power.

Squabbling officials are tossed to the side, unable to agree on robust responses.

Citizens feel crushed.

Financial markets speculate on which country will be flattened next, and how that will affect the American economy.

And yet, Europe is not facing political or economic collapse.

The euro remains a resilient currency.

In fact, stepping back from the crisis provides quite a different view: lasting transformation that will – in the long run – strengthen the 27-member European Union as a whole, and the 17 nations that share the euro currency.

Reforms in the weaker euro economies on Europe's periphery – Greece, Portugal, Italy, and Spain for instance – are so dramatic, it's as if the Margaret Thatcher of the 1980s has hopped the English Channel.

These changes may not be sufficient to avert short-term problems, such as a further restructuring of Greek government debt or more instability reverberating from Italy’s notoriously dysfunctional political system. But in five critical ways, they will make the EU far better equipped to face long-term political and economic challenges.

This post originally appeared at The Christian Science Monitor.

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INFOGRAPHIC: The American Debt Crisis

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