There’s a wider theme running through the relatively technical question of how the European Central Bank’s massive holdings of Greek government bonds will fare in any Hellenic debt restructuring.
There are plenty of market participants who already believe the likelihood the ECB will have to suffer the same losses as private investors on their Greek debt investment, is very very low. They figure the central bank will seek preferred creditor status, lowering the payouts left for other investors. Then there are others who argue that the ECB should seek de facto preferred creditor status to avoid a pari passu precedent. Then there are people like Roubini who argue that the ECB has already claimed de facto juniority (?) because it’s agreed to be on the hook for about €91bn worth of Greek liquidity lines.
Confused yet? Let’s move on.
Deus Ex Macchiato has a lovely post that takes the debate a little further. As he points out, governments face limited options when it comes to seemingly endless post-financial crisis indebtedness; either they get money from taxpayers, from (private) bondholders or foreigners.
And, as he notes:
The last won’t work for ever; you can’t keep increasing your borrowing as a percentage of GDP. Sovereign default or restructuring works, but it stops you from being able to borrow again for some time. Thus central bankers often think that you have to bear most of the burden internally. That makes it a pain allocation problem. Increase taxes; decrease services: these things are unpopular.
No kidding. In the meantime of course, central bankers fret that forcibly taking money from bondholders will entirely undermine a still fragile financial system. Why would investors want to invest in government bonds or bank debt, knowing that bail-ins and haircuts or whatever are on the horizon?
Deus Ex Macchiato also points to an intriguing “third way” however.
It’s a paper — handily titled “The liquidation of government debt” — from economist Carmen Reinhart and her colleague M. Belen Sbrancia. Picked up by the Financial Times’ Gillian Tett this week, it’s all about subtler ways in which governments can claw back money from the financial sector.
From the abstract:
Historically, periods of high indebtedness have been associated with a rising incidence of default or restructuring of public and private debts. A subtle type of debt restructuring takes the form of “financial repression.” Financial repression includes directed lending to government by captive domestic audiences (such as pension funds), explicit or implicit caps on interest rates, regulation of cross-border capital movements, and (generally) a tighter connection between government and banks.
‘Twas a theme that’s been pointed out elsewhere recently. A Finnish politician labeled it a “symbiosis” which had developed between banks and governments, “where political leaders borrow ever more money to pay off the banks, which return the favor by lending ever more money back to our governments.” We used to call it ‘bank bondage‘ but now it’s got a new less-S&M-ish phrase.
As Peter Atwater, president of Financial Insyghts, told us:
On your “symbiosis” point, I would remind you of the regulators call for the banking industry to hold more liquidity during the banking crisis. While perceived by the market as a strength builder, in fact it was a great “repression” trade (to borrow from [Gillian Tett’s] commentary from earlier this week) as banks bought government bonds. In fact, I’d argue that the preferential treatment of sovereign debt under the Basel rules is both a great example of the repression trade and also a contributing factor to the sovereign debt crisis…
One wonders what risks our new (financially repressed) future might hold.
Bagehot, bailout and banks – the entwining continues – FT Alphaville
So we’re all being financially repressed in the developed world – Bond Vigilantes
Financial stability’s getting difficult – FT Alphaville