Matina Stevis is a journalist reporting on the European Union for Dow Jones Newswires and The Wall Street Journal. She is the 2010 winner of the the Economist’s Marjorie Deane financial journalism award.
Explain the European debt crisis. What were major events and where are we today?
So, we started calling what is happening now “the euro zone debt crisis” essentially in May 2010, which is when Greece received its first bailout from the International Monetary Fund and euro zone countries. And since then, the crisis has spread throughout the euro zone to several other countries – Ireland, then Portugal, then Spain and Cyprus, and reaching Italy – and has mutated from a strictly sovereign debt crisis to a banking crisis and a sort of sector crisis. These bubbles – either in government spending, or in the banks, or the property sector – were essentially fueled by what always drives crises in human history, which is hubris and excess.
What was the impact on key players and markets?
So one of the first signs of this crisis, that’s now become a fixture and a daily concern for people like me, is how the markets have reacted to what has been an escalating, spreading, and deepening crisis in the euro zone. The first manifestations of that have been significantly increased borrowing costs. See, before 2010, markets have assumed that euro zone countries were pretty much similar in terms of risk, so you saw Greece borrowing as cheaply – well, not as cheaply but almost as cheaply – as Germany, which is the strongest and biggest economy in Europe. After 2010, the markets started realizing that this was not at all the case and just started charging a lot more to many euro zone countries. That in turn led to countries not being able to refinance their debt. It meant that essentially Greece couldn’t borrow at a sustainable rate in the markets to pay back for the debt it already accumulated in the good time when it was borrowing so cheaply. And it wasn’t just Greece. Because it was bigger countries, now Italy and Spain, that became a real issue. So the market just essentially changed its opinion about how risky those countries were. They used to be considered almost as safe as the U.S. and U.S. treasuries. But now we see that’s not at all the case. Now we see Germany getting paid to sell its debt, which is what we call negative yield; whereas other countries like Greece have to pay 25% almost to borrow for ten years, which is higher than any war zone we’re seeing in the world right now.
What are the effects of this?
So another way the markets have really been impacted by what’s happening in Europe right now is the market for currency. With the euro, the common currency shared by seventeen countries here in Europe, with its value against the American dollar and other currencies that are considered a lot safer. The euro’s value has declined significantly and has hit record lows.
That’s great news for countries in Europe that export because they can export their products for less. But it’s not a good thing for the more closed economies that don’t’ export that much. For Germany, which is basically an export-led economy, its great news, but Germany is doing well already; whereas Greece and Portugal, which are more closed economies that desperately need a boost, they’re getting essentially battered by a very weak euro. Beyond that, we’ve also seen a real change in how banks in Europe lend to each other – the so-called interbank market that’s also frozen up with banks depending on the European Central Bank for their lending. So the market has changed in fundamental ways, in various ways, in various parts; and eventually and essentially a major issue is how banks lend on to houses and individuals and small businesses that drive economies forward. And, frankly, that avenue is pretty much frozen up.
Who is involved in this?
Many people, myself included, have lamented how slowly this crisis has been dealt with, how many summits and meetings have had to go into the wee hours, and, frankly, how unconvincing and incremental this kind of muddling through strategy is. There’s a reason for that – we’re not a United States of Europe. In the States, you have your local government, your state government, and your federal government. You pretty much know the architecture of who governs, who legislates, and who runs the show. In Europe, it’s a little more complicated. You start with the national governments – the first one being the German government. Germany being the leader of the project – always has been – and the biggest economy and the strongest economy in Europe, taking the lead and being essentially the second actor in this drama. The French government comes second to that also being an important influence. Then you have the governments in the countries that have been adversely hit by this crisis like the Greek government and the Spanish government and the Irish and Portuguese governments. And they have their own constituencies and their own electorates to represent, and they have to do battle at home, which is a very different story all together.
Now add to that a layer of euro zone institutions; so organizations that were built to deal with Europe and the euro zone. One of them is the European Commission, which is based in Brussels, and they are essentially the administrators and the bureaucrats of the European project. But also crucially, there is the European Central Bank (ECB) in Frankfurt; which is the central bank for all seventeen euro zone countries and the closest thing the euro zone has to the Fed, only it’s not as essential and doesn’t perceive itself as powerful as the Fed. And it has always practiced its central bank activities with constraint, because the ECB’s mandate – its formal mandate – says to maintain prices stable and inflation low. And therefore its hands are tied in other ways to perform what the Fed has been doing in terms of quantitative easing and pumping more notes into the economy.
What are short and long term solutions?
A first issue that politicians and policy makers need to deal with is just how high those borrowing costs are, not just for small countries like Greece – which frankly just represents 2% of euro zone GDP, its economic output – but also Spain and Italy. Now that’s the real problem because Italy is the third largest economy in the euro zone, Spain the fourth. So when these countries are borrowing at extortion rates in the markets, and are finding themselves unable to pay their own debt and also fund their activities as governments, that is a real issue. And so many have argued here that there needs to be immediate action, especially by the ECB, of going to those markets and buying debt – Italian debt, Spanish debt – to bring the costs down and essentially fill that gap of those lenders who say, “I think this is too risky, I’m not going to lend you anymore money, and if I do, I’m going to get paid a lot to do that.” And beyond that, beyond the costs of borrowing, there’s also a real issue with the banks. We have seen the development of a really intricate and really vicious negative feedback loop between weak countries and weak banks. The banks buy the debt of the countries, the countries become weaker, the banks become weaker, and so on – it’s a catch-22. And euro zone politicians and people here in Brussels have been trying to square the circle of how do you separate those banks from their countries. And inevitably it seems now, to do what the U.S. did back in 2008 at the start of the subprime crisis, which is you have to shut some of these banks down. You have to unwind them, and you have to make sure that ones that remain are healthy and robust.
The taxpayer, like in the U.S., will be footing that bill, if not all of it. And, essentially, another realization has come to the surface now, and that is that you need an eye to keep the entire euro zone financial sector under its purview. You need a centralized bank supervisor, because the system is so interconnected; and so euro zone politicians are work on building a banking supervisor under the ECB. They’ll have a 360 degree view of financial institutions. At the end of the day, Europe and the euro zone face an existential question: Can we become the United States of Europe? Can we have the more power countries like Germany or the Netherlands foot the bill, share risk? Can we issue debt together? Can the woes of Athens be supported forever by taxpayers in Berlin? And that is a question that the guys who are in the hot seats right now may not be able to answer, but it may be the next guys. Eventually, pretty soon, someone will need to be able to say, “Yes we can be a United States of Europe” or “No, that’s not what we want.” But it’s far too many people that need to answer that question.
What are the best and worse case scenarios?
So a best case scenario, given where we are standing right now, is that the euro survives as a project but is fundamentally changed. It’s essentially redesigned. It’s like euro 2.0.; restart, reboot, build the architecture again, have a proper central bank, and have a common banking supervisor. Eventually issue common debt, but make sure the countries at the bottom in terms of responsibility and output are reformed to spend less, spend more responsibly, and also be more creative; be better economies but also more open economies. And that is a dream.
Unfortunately, since that feels quite far away from where we’re standing right now, we must contemplate the worst case scenario, which would be one country leaving the euro followed by several others; a complete collapse of confidence in the European project and the euro zone project, losing several banks, people in the streets, riots, and essentially returning to a lot like what Europe used to look like after the Second World War. Rather, after the Cold War, was a stronger Germany with a strong currency versus a weaker periphery with very unstable economies, very unstable currencies, and also is geopolitically different and might align itself with other parts of the world than the European project.
What is the impact on the U.S.?
Everyone has been saying how interconnected the world is; how we’re all connected by dots and arrows. It’s completely understandable when you’re so far remote from Europe to be like: “Well, this doesn’t affect me because these guys are over there and I’m over here.” Of course, the American economy is a different animal altogether than the European one, but there are several ways that what happens in euro zone affects the states. One is banks. You can’t ignore the fact that there are very large banks that operate both in Europe and the U.S. They have cross-border activity; multinational, investment, and commercial banks that have become this dreaded phrase that we started using back in ’08 that is “too big to fail.” If something happens in one of those major banks in Europe, it will directly impact its ability to do business and how it operates within the U.S. context. On top of that, the U.S. has already been a robust exporter of goods and services to Europe, and with consumers in Europe feeling so bleak about the future; holding back, not spending, and actually many of them – having lost a significant amount of their income – are unable to spend. A recession, a prolonged recession and stagnation in Europe, would affect that big market for U.S. manufacturing, essential for jobs in America. And, finally, there’s also just the issue of confidence in the “old world” and our ability to reinvent ourselves. And really, America is part of that. America is, in fact, a leader in that global system. And that’s why the American role has been very important in the euro zone crisis, and we’ve seen President Obama and we’ve seen Timothy Geitner weigh in, talk to their counterparts in Europe. They would not do that if they didn’t have skin in the game.
So what about the impact on hedge funds in the U.S.?
So what we’ve seen since 2010 is that major European banks essentially have been selling this increasingly toxic debt of governments that are falling or failing – like the Greek one, like the Irish and Portuguese one – to hedge funds. The hedge fund industry is mostly based in the States. So this transfer of bad debt from governments that are no longer reliable from Europe to America can’t be ignored. Essentially, of course, hedge funds charge a lot more to support and to own this kind of debt, but that still means that they’re off the books of big European banks and on the books of a New York based hedge fund.
How is Asia involved?
Asia has already found a good, receptive, warm market for its products in Europe. European consumers make more money, spend more money, adopt new technologies; and all those markets that Asia has been trying to take the lead in. And despite the fact that obviously the U.S. is a massive market for Asia, especially for China, and Europe is not their biggest market, that doesn’t mean that it’s not an important market. It means that prolonged stagnation and recession in Europe will affect Asian markets as well, not least because of the financial market aspects, but also in who buys what and how much they pay for it. It’s a very important market for Asian exporters.
What is the mood on the street?
I’ve personally experienced the change of mood in my hometown, which is Athens. I was born and raised in Greece. Over the last two and a half years, watching a warm and welcoming city for me turning angry; turning at times extremely violent with moments feeling like it’s a war zone. And that’s not just in Athens. We’ve seen the same scenes in Madrid, the same scenes in Lisbon. Essentially what you’re seeing is just increasing anger, because taxpayers know that they will have to foot the bill for this one. Also they feel that they’ve been continually, chronically, and criminally misrepresented by their governments; a feeling of frustration that is global and citizens across the world can relate to. But at the same time: What of the German taxpayer? What of the German, Austrian, and Dutch citizens, who have always paid their taxes; who live in a law-abiding society where the state works and they depend on it? They’re now seeing their hard-earned income being transferred to what they view as profligate countries. In Europe, that kind of animosity, coming from the ground level up, can be extremely toxic and dangerous because we’ve seen a return to a Second World War system of stereotypes, clichés and national hatred; whereas the European project was supposed to put that to rest once and for all, and bring European peoples together as Europeans rather than as Greeks and Germans and whatever. The euro zone crisis has done so much to undo the European project, and perhaps that will be the saddest legacy.
How is this impacting young people?
I hate to bring statistics into the conversation, but the young people between the ages of sixteen and twenty-four statistically, but also kids who are still in school or people who are just leaving university or other forms of education; no one has felt the impact of this crisis more than those guys. They are facing for the first time in Europe, but also in the developed world. The developed world is based on this premise of progress. The next generation will be better than the previous one; that’s what’s been driving us forward in the States and right here. And for the first time, this generation – my generation – feels they will not be better off than their parents. They will not be able to buy property. They will not be able to save. They will not be able to get to the markets and keep a job that pays well. They will have families later, not because they choose to but because they can’t afford that. And so we’ve seen youth movements across the euro zone with unemployment for youth hitting fifty percent and surpassing that in Spain and in Greece. You are really creating a basis for a generation that can be unpredictable, but will be deeply and forever scarred by what’s happening right now.