THE
INDECISIVENESS of German Chancellor Angela Merkel and French President Nicolas
Sarkozy (Markozy) over the last two years on how to handle the sovereign debt
crisis of the eurozone has reached its final act.
There are dire predictions of a break up of
the eurozone, rumours of secret talks of the new Frankfurt Group (FG) to set up
a two speed Europe and of course the market instability which now claims to be
the new political force changing prime ministers of two eurozone countries -
Greece and Italy.
The euro may have brought significant benefits
to the average man/woman in the street and to trade between the members but it
has really been doomed from the start when countries with hugely different
economies and fiscal tradition were allowed to join for political reasons.
In the next few weeks there will have to be a
resolution to the crisis or it will be imposed by the markets. The Cyprus
economy will be adversely affected and the message from the FG is that fiscal
irresponsibility is out since the future is in a fiscal union. Hence the new
measures which the Minister of Finance is considering should be credible and
lead to a sustained fall in the budget deficit. If he has grasped the message
of the FG and the rating agencies he better act; no Russian loans or the gas
will help in the next year since Cyprus may be downgraded to junk and the cost
of borrowing will be even higher.
Let us examine how the EU politicians got us
in this mess. The puppet show we have been witnessing each time the EU Council
met to deal with Greece for the most part of the last year reached its peak
show time when in October the Markozy show came out of a long meeting claiming
a success.
The solution in broad terms comprised of three
key elements (the details to be worked out); a private sector involvement (PSI)
of a 50 per cent haircut for Greek bondholders, a re-capitalisation of banks to
cope with the losses and a bailout fund to reach €1.2trillion and hey presto
the markets would believe this half baked solution.
The fact that the head of the Eurorpean
Financial Stability Fund rushed to China for help with the bailout fund was a
clear sign that the German government was not prepared to increase its
contribution and the European Central Bank was not to be the lender of last
resort.
President Sarkozy hosted a self congratulatory
interview on French TV claiming to have averted a Greek tragedy and that the
eurozone will come out stronger. He needed desperately to show the French
public that France was at the forefront of the decisions taken and he was the
protagonist.
The truth was that France climbed down to
German insistence on the haircut and no ECB lender of last resort. All Sarkozy
wanted was to “protect” the AAA rating of France and the French banks from
taking a bit hit from the PSI on which Germany has insisted for the best part
of last year.
The whole show could have been wrapped up a
year ago without any contagion to Italy had the French agreed to German
insistence on PSI. The duo of Sarkozy and Christine Lagarde, the French Finance
Minister, held up any real progress on Greece to protect the French banks.
Lagarde changed her stance only when she was appointed as Head of the IMF and
got a wake- up call. She upset all the Europeans when soon after taking office
she called for a huge recapitalisation of EU banks; why did she do this when
she left the French Finance Ministry?
The EU politicians and the hopeless EU
Commission had to threaten Greece with expulsion soon after their success in
October when Papa sprung up a surprise with a call for a Greek referendum.
For the first time the Markozy show took on a
self destructive side show with a threat that Greece either accept the terms of
the EU or out. What a reversal of fortune for Mr Sarkozy and his avoidance of a
Greek tragedy!
The respected US economist and prophet of doom
Nouriel Roubini has recently published an article stating that Italy’s days in
the eurozone are numbered and it may break up. The Italian PM has been forced
out and there is a real crisis of confidence in the eurozone and yet the euro
has not really collapsed. There is a reason for this.
The markets believe that Germany in the end
will climb down from its paranoia of not wanting the ECB to print money and
bailout out Italy, and if necessary, Spain. The current global financial
situation is so dire that the fear of inflation must be sidelined. This author
agrees with Rounbini’s view that the ECB will in the end be called upon, as it
is the only institution that can, to provide all the liquidity needed.
Just the announcement of such a development
will convince markets that the final solution has arrived. If this does not
happen then Germany and its Frankfurt group could leave the eurozone and create
a new eurozone of similar economies excluding the PIIGS.
How this will impact Cyprus should be of
serious concern to the government, the parties and of course all the economic
stakeholders. The economic model hitherto has served Cyprus well but dependence
on tourism and business services is not sufficient.
In fact Cyprus is losing its competitiveness
and has not come up with any new growth opportunities. The economy suits
lawyers and accountants but this is not sustainable. Politicians have paid lip
service to getting Cyprus to be a medical centre and have not provided enough
incentives to the private sector to develop infrastructure that may put Cyprus
on the map.
The Cypriot government must decide whether it
wants to be the Hong Kong of Russia or the Singapore of the Mediterranean.
By Erol Riza
Cyprus Mail
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