spotfxtrader

Sitting here watching the €uro get hammered on the Greece rumour, I was idly trawling through some of my favourite sites and re-read this piece from Gonzalo Lira written a while back [December 2010]. Seems that now the pressure is off the USD, (obviously, now Gold and Silver have had a ‘correction’), attention has turned again to the other problem currency.

☞ Possible EMU Collapse: What To Pay Attention To In 2011

After the Greek and Irish bailouts, it looks like Portugal and possibly Belgium are up next in this perverse game of musical chairs played to the tune of sovereign debt—

—but these smaller countries are dwarfed by Spain: Spain, as I argued here, is where the European game is really at.

As I pointed out, Spain is twice the size of Greece, Ireland and Portugal combined—Spain is roughly half the size of Germany—Spain has a fiscal deficit of over 11% of GDP for 2010, and a total debt of over 80% of GDP, data here (I am counting the accumulated debt of comunidades autónomas, which is so far 10.2% of GDP and steadily rising; data here)—Spain has an unemployment of over 20%—

—in short, Spain is trouble.

Not “Spain is in trouble”—that’s obvious, but that’s not my point: Spain is trouble. Trouble for the German banks that own so much of the Spanish debt. Trouble for Germany, which is propping up its insolvent banks (What, you think German politicians are any less craven than American politicians?). Spain is trouble for the European Union, for what a German banking crisis might mean for the EU as a whole and as an institution.

More than anything, Spain is trouble for the European Financial Stability Facility, because Spain is too big to be saved—and there’s really no way to finesse that hard fact.

You know what a lynchpin is? Actually, I didn’t—I had to look it up. According to the dictionary, a lynchpin is “a pin passed through the end of an axle to keep the wheel in position”. Hence the figure of speech: Without a lynchpin, the wheel comes off, and the whole vehicle crashes.

In the case of Europe, the lynchpin can come off awfully fast—think of Ireland. A few impolitic words from Angela Merkel, and suddenly the Irish bond market panics. Suddenly, Ireland is teetering on the brink of insolvency, unable to meet its funding needs. And that was Ireland—all due respect to those wonderful people, but we’re talking a GDP of a paltry $227 billion. Ben Bernanke takes a morning dump bigger than that. What’s Ireland’s $227 billion when compared to Spain’s economy of $1.5 trillion?

Spain: During 2011, Spain will be the flash-point—so you want to keep one eye on Spanish sovereign bond spreads, and one eye on Brussels:

When Spanish debt spreads over German bunds creep into the 3.5% to 4% range, you know trouble is coming. And when the Spanish spread decisively crosses 4.25% over the German 10-year, then you know trouble’s arrived—and it won’t be leaving town ‘til it’s had its chance to run riot in the streets.

How the EU and the ECB handle an eventual Spanish sovereign debt crisis will determine the very future of the European Union.

Because there will be a Spanish sovereign debt crisis—it’s inevitable. The Spanish balance sheet is not improving fast enough, even with so-called “austerity” measures, because even though the Spanish government might be cutting spending, the comunidades autónomas—roughly analogous to states or regions—are expanding their budgets in order to take up the slack, and thereby increasing the Spanish deficit. Don’t believe me? Check the figures I just cited.

So when Spain goes into crisis—which should take place no later than August 2011, and perhaps as early as this coming March—the European Union’s collective and institutional reaction to this crisis event will determine whether a smaller, healthier European Monetary Union continues to exist, or whether the whole concept of EMU is ripped to shreds by events.

If the EU and the ECB are clever, and brave, and humble in the face of failure, then they’ll expel Greece, Ireland, Portugal, Spain and Italy from the European Monetary Union. The euro will remain the currency of the stronger economies—France, Holland, Germany—while the weaker economies will go back to their original currencies, and immediately devalue so as to kickstart their economies.

If, however, the European Union and European Central Bank leadership proves to be stupid, cowardly, and arrogant—as is very likely, considering their confused, self-defeating actions and reactions to the Greek and Irish crises—then there will be some sort of European-wide convulsion, when the bond markets panic, and leave Spain locked out of any funding.

This is the key event of 2011: Whether the European Monetary Union survives. Unless Brussels gets its collective shit together and realizes it has to cut the weaker economies loose from the euro, odds are high the euro goes the way of the dodo.

From Der Spiegel

German bund futures rose to an almost one-month high after Der Spiegel reported that Greece is considering withdrawing from the euro region, prompting investors to seek a refuge in Europe’s benchmark securities.

The futures contract expiring in June climbed 0.6 percent to 123.76 as of 6:20 p.m. in London. Greece isn’t considering abandoning use of the euro as its currency, the Athens-based Finance Ministry said in an e-mailed statement today. Such reports have been repeatedly denied by Greece in the past as well as by governments of other European Union countries, the statement said.

Greece is lobbying for easier terms on the 110 billion euros ($164 billion) of bailout loans as speculation of a default mounts a year after European leaders set up the unprecedented emergency fund to prevent the nation’s debt woes from spreading.

“Some sort of Greek restructuring was priced in the market, but the thought of them leaving the euro-zone never really was,” said Anthony Cronin, a Treasury trader at Societe General in New York. “If there’s something that happens over there this weekend, you’ve got to be properly positioned for it.”

The euro fell against all of its 16 most-traded counterparts, extending its two-day loss as much as 3.1 percent, the most since May 2010. U.S. Treasury notes reversed earlier losses as investors also sought U.S. government debt as a haven.

Debt Burden

EU leaders agreed in March to create a permanent rescue mechanism for the euro area, the European Stability Mechanism, or ESM. The ESM, which becomes effective in mid-2013 after a temporary facility expires, will make loans to fiscally strained governments under strict conditions. When governments can’t cover their debts in full, the ESM’s loans may be paid first, before private bondholders.

Even under cuts imposed as a bailout condition, Greece’s debt is forecast to climb to 159 percent of gross domestic product in 2012. The nation’s economy is forecast by the government to shrink for a third year in 2011, before returning to growth in 2012.

Greece’s possible exit from the euro area isn’t being discussed in the EU, said Steffen Seibert, German Chancellor Angela Merkel’s chief spokesman. “This isn’t on the table and hasn’t been on the table for the German government and isn’t a topic at the European level,” he said by telephone today.

Since exit is the sensible option for the people of Greece, this denial by Herr Siebert could signal an outbreak of common sense…

After a pro EU piece the other week, (and by pro EU I mean anti Europe – his suggested most favourable outcome for the crisis being the introduction of a debt union, i.e. an outcome which would amount to the crushing of any democratic opposition to the EU Superstate), Mr Münchau appears to have seen the error of his ways….

As we’ve been saying all along, the ‘system’ is non-linear, and as it has now become totally unstable, the chances of the crisis being resolved in anything approaching an orderly manner are extremely slim. After considering his earlier piece pretty contemptible, I do like his description of EU decision makers as ‘serially incompetent’. I would venture that that description universally applies to the political classes throughout Europe and the US, with very few exceptions.

Ultimately he suffers from the delusion that the whole edifice could be managed if only good decisions could be made. The only good decision would be not to have attempted the creation of a superstate founded in subterfuge in the first place.

By Wolfgang Münchau

Published April 24 2011, 19:51

I was uncharacteristically optimistic last week, and had planned to end my informal series on eurozone crisis resolution with a benign scenario. The eurozone would survive in one piece; there would be no blood on the streets, just a once-and-for-all, albeit reluctant, bail-out, accompanied by a limited fiscal union. But as several readers have pointed out, my scenario is prone to a very large accident. I accept that point. Last week, we caught a glimpse of how such an accident may come about. My benign scenario looks a lot less certain today than it did a week ago.

The week began with the strong showing of two parties in the Finnish election, which are advocating a partial Portuguese debt default as a condition for a rescue package. The results triggered a renewed outbreak of the financial crisis, as eurozone spreads rose to near record levels once again.

The most disturbing news, however, was a revolt within Angela Merkel’s increasingly fragile coalition. It looks as though the German chancellor is on the verge of losing her majority over the domestic legislation of the European Stability Mechanism (ESM), the long-term financial umbrella for the eurozone. She may have to rely on the opposition to ratify the ESM, which may come at a heavy political cost. The Bundestag already postponed the vote on the ESM until the autumn, hoping to keep it clear from the controversial decision to pass the Portuguese rescue programme in May.

As opposition to the ESM mounted, German officials fell over themselves to be quoted by various newspapers pronouncing that a Greek restructuring was inevitable. Even Wolfgang Schäuble, finance minister, talked about the possibility of default. Some wily speculators unleashed the rumour that Greece would spring a surprise debt restructuring. The rumours prompted a criminal investigation. Another week in the eurozone’s debt crisis!

A monetary union is at a natural disadvantage when it comes to the handling of crises. There is no central government that takes decisions, which makes communications hard to control. What is less forgivable is the serial incompetence of the eurozone’s decision-makers, as exemplified by the perpetual eagerness to declare the crisis over the very second financial market pressure subsides. Not only do they know little about financial markets, they have surrounded themselves with policy advisers who know little too.

Their ignorance is an ideal breeding ground for quack solutions. One such is immediate default. German Christian Democrats and Finnish isolationists spent the last week trying to convince themselves that a Greek debt-restructuring would save them a lot of money.

That belief is premised on two false assumptions. The first is that a voluntary restructuring could solve the Greek debt problem. It can work in limited cases, but not when countries are insolvent. Greece, however, faces no short-term liquidity squeeze, because it is supported by the European Union and the International Monetary Fund. There is no need for any restructuring, voluntary or involuntary, right now. But Greece may need to impose a “haircut” in the future to ensure debt-sustainability. The ideal moment would be when the country achieves a primary surplus, probably in 2013.

The second wrong assumption is that the Greek banking sector would survive a restructuring unscathed. This is a conditional error. If you believe that a voluntary restructuring would be sufficient, then the Greek banking sector would indeed survive. But it would surely not survive a large and involuntary haircut. The European Central Bank would face a haircut on its direct investments of Greek government bonds, and, more importantly, much of the collateral posted by Greek banks would vanish. On my calculation, the cost of a Greek default to the German taxpayer alone would be at least €40bn ($58bn), including recapitalisation of the ECB. A bail-out would be cheaper.

A premature Greek default would change everything. As would the failure by the EU and Portugal to agree a rescue package in time; or an escalation in the EU’s dispute with Ireland over corporate taxes; or a ratification failure of the ESM in the German, Finnish or Dutch parliaments; or a German veto for a top-up loan for Greece in 2012; or the refusal by the Greek parliament to accept the new austerity measures; or a realisation that the Spanish cajas are in much worse shape than recognised, and that Spain cannot raise sufficient capital.

Then there is the downgrade threat for French sovereign bonds. I recall asking a French official about this, and getting the smug answer that the rating agencies could hardly downgrade France if they maintained a triple A rating for the US. That was before last week. By extension, France must also now be in danger. A downgrade would destroy the logic of the European financial stability facility. It is built on guarantees by the triple-A countries. Without France, the lending ceiling of the EFSF would melt down further.

The list of potential accidents is long, but they share a joint theme – serial political crisis mismanagement. We saw another glimpse of that last week. If we go down the route of premature default, and allow the True Finns and the true Germans to run the show, the eurozone as we know it will be finished.

paraphrased from the Daily Crux…(I think).

The World’s Third-Largest Bank is Bust

The Fed is a bank with $2.55 trillion of assets. Only BNP Paribas, and Royal Bank of Scotland are larger. It’s way too big to fail.

When it goes bust, it will be bailed out. And Ben Bernanke, chairman of the US Federal Reserve, will have no choice but to fire up the printing presses all over again.

However, first let’s examine exactly how banks make money. And how they go bust…

How banks make money

Let’s start with the balance sheet. A bank’s assets are mainly loans made to individuals, businesses, even governments. Loans are assets because they are money owed to the bank.

Now let’s talk about the other side of the balance sheet – the liabilities. Most of the money a bank lends to customers comes from money that the bank itself borrows. It can borrow from you and me through the savings we deposit. It may also borrow from companies that place cash on deposit. And the bank may borrow from investors – insurance companies, pension funds, even other banks. All of these are liabilities – debts the bank owes to someone else.

The other main item on the liabilities side is capital. Suppose the bank collected all the money owed by the borrowers. And then repaid all the money it owes. Capital is the money left over. It is the bank’s true value.

The balance sheet must always balance. So capital + debt = assets.

Banks make money by lending at higher interest rates than they pay to borrow. Borrowers want long-term loans, usually at fixed interest rates. On the other hand, depositors want easy (short-term) access. And depositors often prefer variable interest rates.

So this is the crucial role banks play in the economy. They take short-term variable rate savings, and recycle them into longer-term, fixed-rate loans.

And this is where the problems of the world’s third-largest bank start.

How a bank goes bust

From the point of view of a bank, when interest rates rise, the value of a fixed-rate loan falls. The bank receives less income from that fixed-rate loan than it could now get elsewhere.

And interest rates on US ten-year government bonds have indeed been rising. Since last August, they’ve risen by about one percentage point.

Now, accounting rules dictate what happens next. Under certain conditions, banks must mark down the value of these loans. That’s called ‘marking to market’. And when it happens, capital also falls – otherwise the balance sheet doesn’t balance any more.

But the Fed, the world’s third-largest bank, doesn’t follow the same accounting rules as every other bank. It refuses to restate the value of its assets. That’s why they’re surely worth less than the reported figure. In fact, if I’m right, the bank has no capital left. It has zero value. It’s bust.

I can’t prove this. But here’s why I think I’m right.

$1.14 trillion (45%) of the Fed’s assets are fixed-rate loans of ten years or more. Let’s suppose the ten-year bonds pay interest of 4%. If the yield rises to 5%, the price falls by about 8% (bond prices fall as yields rise). If yields rise to 6%, the price falls by 16%.

I don’t know exactly when the Fed made these loans. So I don’t know the current yields or prices. But I do know that US government bond yields have risen by one percentage point since last August. And I think they’ll keep going up.

So it’s a fair bet that the Fed’s ten-year loans are worth less than it paid for them. An 8% loss on $1.14 trillion is $91 billion. And that excludes any losses on the $1.41 trillion of shorter loans that it holds, which are also affected.

The Fed has been lending like the credit crunch never happened

Of course, bank capital (as well as loss reserves) is designed to cushion against such losses. Since the credit crisis, most banks have reduced their lending, boosted reserves and raised more capital.

But not the Fed. It carried on lending like the crisis never happened. Worse still, it has no loan loss reserves. And it’s not raised a cent of extra capital.

Want to guess how much capital the Fed holds against its $2.55 trillion in assets? $53 billion. That’s just 2% of total assets. So a 2% fall in the value of those assets would wipe out every last dollar of capital. So it may already be insolvent. If not, it soon will be.

The US Federal Reserve Bank is bust – and that’s not just my opinion

This is serious. It may be the US central bank, but it’s still a bank like all the rest.

Most of its assets are US government bonds, bought as part of its quantitative easing (QE) programmes.

Its liabilities include about $1 trillion of notes and coins in circulation. There are also $1.4 trillion of deposits owing to US commercial banks, which are required to hold reserves at the Fed. There are also some deposits owed to the US Treasury. And there’s $53 billion in capital.

So the Fed can go bust just like any other bank. And I’m not the only one saying it. William Ford, a former president of the Atlanta Federal Reserve, one of the 12 member banks of the Fed itself, broke ranks to warn about it on 11 January.

Ford points out that the Fed can hide insolvency because it does not mark its assets to market. So we’ll only know that it’s bust when it sells some bonds. Only then would it have to take the losses from selling them for less than it paid.

Of course, the Fed going bust would be very embarrassing. So you can be sure it will be quietly bailed out behind closed doors. In fact, if the bail-out is timed to coincide with the losses, we might not even notice.

Who will bail out the Fed?

Why does this matter to you? Well, guess who would rescue the Fed? The US Treasury, a department of the US government, would have to inject extra capital to restore solvency. But the US government is not exactly flush these days.

So how would they get the money? They’d issue more bonds. And the Fed would buy them as part of its QE programme.

So let’s be clear. The Fed goes bust. So it lends money to the US government (i.e. it buys US bonds), and the US Treasury gives it back to the Fed as capital. So the Fed is printing money to bail itself out. What do you think this will do for investor confidence in the US government and the dollar?

I’m pretty sure that the value of US Treasury bonds and the dollar will be worth less afterwards. And that’s why you should have 8-12% of your portfolio in gold. It is sound money in an era when most currencies are not. It is insurance against further debasement of paper money.

As reported in the Telegraph by Emma Rowley.

http://www.telegraph.co.uk/finance/currency/8427703/One-in-seven-chance-that-nations-will-abandon-euro.html

‘One in seven’ chance that nations will abandon euro

The risk is roughly one in seven that Europe’s ongoing debt crisis will push member nations to abandon the shared currency, raising the spectre of the “effective end of the euro area,” the Economist Intelligence Unit has warned.

Attempts to restore investors’ confidence in debt-laden nations’ ability to honour their commitments could see the weaker eurozone members grow ever wearier of the demands placed on them, according to a new report from the research body.

Meanwhile, those countries whose finances are in better shape could lose patience with propping up other member nations, in this worse case or “ultimate risk” scenario.

The pressure on politicians from voters at home to leave the shared currency could then become “irresistible”, resulting in either stragglers like Portugal or Ireland or a robust economy such as Germany deciding to leave, before other members follow suit.

“This scenario posits that sooner or later, the cement that has held European countries together for decades cracks and the progression towards ever-closer union comes to a spectacular halt,” said researchers, who gave it a likelihood of 15pc.

The report’s central scenario – put at a 50pc probability – is that the eurozone will muddle through the crisis, with the most indebted countries accepting the harsh reforms needed to cut their deficits and stronger members reluctantly offering enough support to contain the crisis.

However even this relatively benign resolution of the crisis expects some countries to default on their debt, with Greece seen as the most likely. The least probable scenario, put at a 10pc likelihood, is that the eurozone will undergo a resurgence as countries manage to rein in their public finances, researchers thought.

The European Central Bank is on Thursday expected to raise interest rates to fight inflation across the eurozone, but there are fears it will make conditions even harder for the struggling periphery.

There was no mention of the probabilty that the politicians responsible for this will face any criminal charges for their unconstitutional and anti-democratic actions in attempting the euro project in the first place. OK, I added that last bit. But these people are wholly culpable for the extensive misery the whole euro project has caused to millions of people across the continent.

But raising interest rates in euro land is the correct thing to do to prevent hyperinflation and maintain sound money. The peripheral countries will be forced to leave… the 15% probability assigned to this outcome is wishful thinking.

If (when) rates rise, the Euro (i.e the Deutschmark in disguise) will rapidly strengthen.

from Jeremy Warner in the telegraph…

One of the effects of relatively high inflation is to ease the burden of debt by reducing its real value. For a highly indebted nation such as Britain, inflation therefore seems to make sense as an economic strategy.

With no control over their own monetary policy, the Portuguese and other fiscally-challenged eurozone nations don’t have that luxury. Without inflation to do the work for them, the austerity required to get public debt under control becomes that much greater, which is one of the reasons why Portugal will soon be following Greece and Ireland into seeking a bail-out. Britain, by contrast, gets a relatively pain-free way out of the mire.

That’s the conventional wisdom, anyway, but it is also largely rubbish. Wednesday’s analysis of the public finances by the Office for Budget Responsibility provides further evidence of why elevated inflation can never be economically benign.

Three powerfully negative effects are identified by the OBR. As a result of higher than expected inflation, living standards will fall for longer than previously anticipated, public borrowing will end up higher, and real terms cuts in public spending will have to be deeper.

So adverse are the consequences that the Government may have to abandon its commitment to real increases in health spending over the Parliament.
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Using the OBR numbers, the Institute for Fiscal Studies calculates that in fact real spending on the National Health Service will fall by 0.9pc unless the Government tops it up from somewhere else. In the round, the public spending cuts will have to be £4bn deeper, while borrowing will end up £46bn higher. So much for inflating away the nation’s debts.

The cause of this phenomenon is obvious when you think about it. Large elements of spending, including benefits and the costs of servicing index linked gilts, will continue to rise in line with inflation, but because earnings are lagging prices, there will be a shortfall on the revenue side of the ledger, thereby increasing the amount the Government has to borrow.

Similarly, higher inflation – but no change to the cash size of departmental spending limits means that the real size of the cuts will be bigger.

One of the biggest shockers from the detail of Thursday’s OBR assessment is the escalating amount of money going straight down the drain of debt servicing costs. As public debt rises, these payments rise from £30.9bn last year to £66.8bn in 2015/16, or from 4.6pc to 8.8pc of all government spending.

Worse, these numbers are an understatement of the true position. According to data aired at a Taxpayers’ Alliance seminar on Thursday, once private finance initiative payments, public sector pensions and other off-balance sheet liabilities are taken into account, the true size of the interest bill will be more like £200bn by the end of the Parliament. I won’t trouble you with the projected costs of social security and tax credits, but they are little less alarming.

Against this backdrop of rising expenditure, Ed Balls, the shadow chancellor, accuses the Government of putting the economy “back in the danger zone” by seeking to apply at least a degree of restraint. Mr Balls is much more highly qualified in economics than I am, but he obviously understands nothing about the basic principles of finance.

The miracle is that the bond markets remain as compliant as they are given this toxic mix of inflation and continued public indebtedness. Moody’s reaffirmed the UK’s triple A rating on Thursday, but it warned inflation posed a significant risk. They can say that again. There must come a point when the gilts market turns. What higher interest rates would do to that £200bn debt servicing bill scarcely bears thinking about.

The growth forecasts are precarious enough as it is without the hammer blow to the public finances and the wider economy that higher borrowing costs would deliver.

this time from Bill Bonner in the Daily Reckoning…

Another thing taking a beating today is Europe’s periphery debt after the Portuguese voted against austerity. To put this into perspective, there are only two ways to go. When you borrow too much money from the future, you either have to pay it back or you go broke. The Portuguese were trying to pay down their debts, by cutting “services.” But it’s harder to cut services than you might think. Modern democratic welfare states are built on a fraud — that the government can give people more in services than they pay for. Typically, the government takes the extra money from groups that are politically weak — such as the next generation, which doesn’t get a vote.

Citizens don’t like it when the government tries to cut back. And when a majority of voters are on the taking end of the exchange — getting more from the feds than they pay in taxes — it’s very hard (maybe impossible) to impose “austerity” measures.

What the Portuguese election is telling us is that many governments will go broke before they pay down their debt. At least, that’s what it implies…

from Peter Oborne writing in the Telegraph…

Some European countries are in the habit of going bankrupt

A few hours after George Osborne’s faintly banal Budget speech, José Sócrates, the Portuguese prime minister, resigned. So far as I know, these two events were not in any way connected. Nevertheless, it is a very good bet that this little Iberian drama will have far more effect on British household finances and our national prosperity over the coming year than the Osborne Budget.

The resignation plunges the eurozone into a crisis it cannot survive. Mr Socrates’s failure to force his austerity package through the Portuguese parliament marks a crucial turning point.

It is the moment when the peripheral eurozone countries refuse to take orders any more from the centre. Effectively, Portugal has adopted blackmail as an economic strategy – and very effective it is, too.
The country is ready to be bailed out of its chronic financial mess, but only on its own terms. Otherwise it has a deadly card to play. It has the option of going bankrupt, an act of naked malice which would set in motion a second round of the banking crisis which began in 2007.

The consequences of this would be terrible: the break-up of the euro, mass unemployment, financial collapse, social despair. The scary truth is that the scale of the problem facing the eurozone has been gravely underestimated by British commentators. The reasons are shaming. One significant factor is the financial and economic illiteracy of political journalists and foreign correspondents. Too many are ill-equipped to look behind the bland statements made by European chancellors or to interpret the deliberately misleading balance sheets of major European banks.

This problem is exacerbated by the fact that almost all leading financial journalists share the moral and emotional commitment the European political class has long felt for the euro. The Financial Times, for example, has been a passionate supporter of the single currency since its inception, a pathology which runs so deep that its chief political columnist recently dedicated a column to making the extraordinary argument that the British economy would have been better off if we had joined the euro when it was first introduced.

But the most important problem is the failure to study history. Here the facts are devastating, and bear repetition. Portugal has defaulted on its national debt five times since 1800, Greece five times, Spain no less than seven times (and 13 times in all since 1500).

By contrast, Anglo-Saxon countries rarely, if ever, default. In this country, we haven’t reneged on our debts in nearly 1,000 years, though there have been close shaves. The same applies to Canada, Australia and the United States.

Many European countries are culturally attuned to bankruptcy. Indeed, Greece has spent approximately half of the 182 years since it achieved independence from the Ottoman Empire in a state of default and therefore denied access to international capital markets – a position it is likely to resume in the very near future.

The importance of these statistics is very great. They show that the widespread assumption by bureaucrats, senior politicians and commentators alike that eurozone countries could never go bankrupt is simply wrong.

In fact, the opposite is the case. The normal and indeed the automatic response of Spain, Portugal, Greece and many other European countries to major financial crises such as the one we are living through today has been to renege on their debts. So it would be extraordinary were they not to do so. History also shows that currency unions such as the eurozone invariably fail: the most relevant case in point is the Latin monetary union formed by France, Belgium, Italy and Switzerland in 1865, with Spain and Greece joining a few years later. Once again, these failures are invariably sparked by grand financial crises of the kind the world faces today.

These historical facts make contemporary European political discourse completely baffling. It is universally assumed by members of the European political class that the single currency cannot possibly fail because the political will to make the venture succeed is so powerful. There is no doubt about the will: French president Nicolas Sarkozy announced this year at the World Economic Forum in Davos that he and Angela Merkel, the German Chancellor, will “never, never… turn our backs on the euro… We will never let the euro go or be destroyed.”

Sarkozy and Merkel are dreaming. They are out of their depth, struggling against forces they cannot control and which will in due course wash them away. It is economic reality, not political speeches, that will determine the success or failure of the single currency, and the facts on the ground are so devastating that it is hard to see a way forward.

The experiment of imposing a single currency and a single monetary policy upon economies as divergent as those of Germany and Greece has gone tragically wrong. Germany, bolstered by an artificially low exchange rate and rock-bottom interest rates, is enjoying a boom. But the economies of Ireland, Portugal, Greece and others are being destroyed – businesses closing, unemployment surging, dependent on bailouts, all self-respect and independence gone.

It cannot be emphasised too strongly that were these countries outside the eurozone, there would be no real problem. The IMF could intervene, reschedule their debts and allow the national currencies to float until they reached a competitive level. In the case of Greece, this level would be well under half where it stands today as a member of the euro.

In the very short term, all is well. Portugal will get its bailout: the European Central Bank and its German paymasters have no choice if they are to avoid catastrophe. But it is now impossible that in the medium term the eurozone can survive intact, and increasingly likely that its collapse will be accompanied by a fresh banking crisis that will throw the entire Continent into another crippling recession, in all likelihood far more devastating than the one from which we have just emerged.

Ten years ago, William Hague, then Tory leader, forecast with astonishing precision the predicament that faces the 17 eurozone states today. He compared membership of the euro to being stuck in a burning building with no exits.

Luckily, we do not find ourselves in that position. But houses are already blazing in the next street, and Britain urgently needs to take steps to protect itself. First, and least important, we must minimise our financial commitments to the eurozone. It now looks certain that Britain will be legally obliged to make a very significant financial contribution when the Portuguese bailout comes. This is as a result of the reckless commitment made by former chancellor Alistair Darling in the dying days of the Brown government. Sadly, there seems no way out of this.

More importantly, however, we can take steps to reduce our national exposure to European sovereign debt, much of which is likely to become valueless. George Osborne controls two banks, RBS and Lloyds TSB, a legacy of the 2007 crisis. He needs to prune their balance sheets. Individuals, too, can play their part. Depositors should be chary of placing more than £50,000, the maximum insured by the state, on deposit with Santander (which owns what used to be the Abbey National and Bradford & Bingley). Santander is Spain’s best-run bank by some distance. But we are entering terrifying times, and there is no need at all to take unnecessary risks.

Portugal’s prime minister resigned on Wednesday evening after losing a confidence vote on austerity measures in a move that threw Portugal into political crisis and raised the likelihood of it seeking an international bail-out.

Jose Socrates was driven to quit his post after failing to win parliamentary support for the latest austerity package, the fourth and most severe put forward by the minority government in less than a year.

“This crisis occurs in the worst possible moment for Portugal,” Mr Socrates said on the steps of Belem Palace in Lisbon after tendering his resignation to the nation’s president Anibal Cavaco Silva.

“Today every opposition party rejected the measures proposed by the government to prevent Portugal being forced to resort to external aid,” Mr Socrates, who has led a minority government since 2009, said in a televised address.

The main opposition centre-right Social Democratic Party (PSD) had allowed past austerity plans to pass by abstaining from voting. But last minute negotiations failed to garner support and the government was only able to count on the vote of 97 members in the 230-seat parliament.

Despite the government warning that rejection of the austerity package would push Portugal closer to seeking a bail-out the opposition refused to accept further tax increases and cuts to social spending arguing that it hit the most vulnerable members of society.

“This crisis will have very serious consequences in terms of the confidence Portugal needs to enjoy with institutions and financial markets,” Socrates said.

“So from now on it is those who provoked it who will be responsible for its consequences,” he added.

The events in Lisbon came on the eve of a two-day EU summit, a meeting aimed at repairing the damage done to the euro by Irish and Greek bailouts last year.

An election in Portugal could not occur before 55 days, according to parliamentary rules, raising additional fears that Mr Socrates – who will head a caretaker administration with limited powers in the interim – will be unable to prevent a full collapse in market confidence.

President Silva said in a statement he will meet with all political parties on Friday to decide the way forward.

Portugal’s government is on the verge of collapse after opposition parties withdrew their support for another round of austerity policies aimed at averting a financial bailout.

The expected defeat of the minority government’s latest spending plans in a parliamentary vote Wednesday will likely force its resignation and could stall national and European efforts to deal with the continent’s protracted debt crisis.

The vote comes on the eve of a two-day European Union summit where policymakers are hoping to take new steps to restore investor faith in the fiscal soundness of the 17-nation eurozone, including Portugal.

The governing Socialist Party’s parliamentary leader Francisco Assis made an 11th-hour appeal for opposition rivals to negotiate changes to the latest austerity package and ensure the government’s survival. Prime Minister Jose Socrates, who heads the government, has said he will no longer be able to run the country if the package is rejected.

But opposition parties say the center-left government’s latest austerity plan goes too far because it hurts the weaker sections of society, especially pensioners who will pay more tax. The package also introduces further hikes in personal income and corporate tax, broadens previous welfare cuts and raises public transport fares.

The leader of the main opposition center-right Social Democratic Party, Pedro Passos Coelho, said late Monday that the political deadlock made an early election “inevitable.”

As in Greece, the austerity policies have prompted numerous strikes, with train engineers set to walk off the job during the morning commute Wednesday.

Portugal’s plight stems from a decade of miserly growth. While growing at the tepid rate of 1 percent a year, it ran up debt to finance its western European lifestyle.
Bloomberg reports Portugal Faces Lawmaker Vote Threatening to Push Toward Election, Bailout

Portuguese Prime Minister Jose Socrates will today face a vote in parliament against his deficit-cutting plan which threatens to push the country toward early elections and the need for a European Union bailout.

Lawmakers will discuss the government’s so-called stability and growth program of austerity measures at 3 p.m. in Lisbon. The opposition Social Democratic and Communist parties both pledged yesterday to table resolutions against the plan.

“If parliament decides on a motion against the stability and growth program, that means the government is not in a condition to make commitments internationally,” Socrates said on March 15. “That would mean a political crisis. In my understanding, the consequence of a political crisis is the worsening of the financing risks of our economy and would lead Portugal to request external intervention.”

Portugal is going to fail. Wednesday is as good a day to do it as any.

Thus, sooner, rather than later, another bailout is coming. However, it will not be Portugal who is bailed out, but rather German, French, and UK bank that lent money to Portugal.

Eventually Greece, Ireland, and Portugal will default, even though pretending otherwise may continue for a while.