20th December 2010
The European Financial Stability Facility (EFSF) was created in May following the €110 billion Greek bailout. The temporary measure provides €440 billion to ease funding problems for indebted States. The newly agreed European Stability Mechanism (ESM) will take over from 2013. Analysts expect to follow a similar model to the EFSF.
The question is whether either will be sufficient to calm markets, restore liquidity and stave off one or more sovereign defaults. The answer appears to be ‘non'. The spreads paid by weak countries remain wide. This week, the Spanish government paid around 150 basis points more on its latest 15 year bonds than it did just two months ago.
John McNeil, head of interest rates and fixed income at AEGON, says: "The market still has a fundamental question. It is not about access or liquidity, it is about solvency. The EU can provide liquidity but that does not solve the underlying problem."
By his reckoning, Greece has gone beyond liquidity issues. It is insolvent. Ireland will have to default next year without help.
Portugal faces the music in the New Year. When it does, questions will resurface about the cost of access and how many countries can get the funds they need to roll over their debts. €440 billion will only go so far.
Bond markets are not confident that the measures will work. When a country accepts help from the IMF or the EFSF, sovereign debt holders such as pension funds instantly drop down the scale of seniority. If a country subsequently defaults, their likely recovery rates are lowered.
The seniority point is subtle but serious. It will deter international investors, including Asian central banks, from buying weak debt at any price. Even if yields soar, they will be worried about the ability of any nation to sustain payments until bonds mature.
As McNeil says of current EU efforts: "It looks like a car with square tyres. It is not fast, nor comfortable for the occupants. And it certainly looks ungainly to passersby."
The EFSF website comes overlaid with a cutesy Christmas card design and ‘best wishes for 2011'. One year's best wishes appear woefully inadequate at present.
Telegraph readers seem to agree: expertgovernment wrote: "This seems to me a game the EU leaders cannot win. They have no money and so need to borrow to stem interest rate rises required by lenders. Those lending money have realised they can win if they act to force up rates. Of course the real losers are the tax payers, who must support the crazy spending of their so called leaders."