Thread: Euro zone breakup ?

Thinking the unthinkable — euro zone breakup

Problems in Ireland, Portugal, Spain spark fresh doubts about union,

updated 11/25/2010 12:44:13 PM ET 2010-11-25T17:44:13

BERLIN — Contagion spreads from Ireland to Portugal and then to Spain, forcing European leaders to exhaust the $1 trillion bailout fund they set up only half a year ago to defend their ambitious single currency project.

Sniping within the 16-nation euro zone mounts and popular support for the euro erodes as German taxpayers rebel against a series of costly rescues and austerity fatigue in the bloc's periphery reaches breaking point.

Eventually one or more countries decide enough is enough and break away or are forced out, reintroducing the national currencies they used before tying their fate to Europe's audacious economic and monetary union.

Unthinkable only a few weeks ago, a small but growing number of experts now believe some version of this nightmare scenario could become a reality for the euro zone if policymakers fail to unite behind a more forceful strategy for saving the euro and address investor concerns about fiscal and economic imbalances.

Until now, doomsday predictions of a euro zone breakup have come mainly from Anglo-Saxon skeptics, some of whom saw the single currency bloc and its one-size-fits-all monetary policy as fatally flawed from the very start.

Over the summer, British economist Christopher Smallwood of consultants Capital Economics produced a 20-page paper entitled "Why the euro zone needs to break up" and U.S. economist Nouriel Roubini, alias Dr. Doom, predicted euro members would be forced to abandon the single currency.

But as the second wave of Europe's debt crisis gathers pace, engulfing Ireland and heaping pressure on Portugal and Spain, a new group of doubters is emerging. They believe it may be difficult for the euro zone to hold in its current form, even if many think that remains the most likely scenario.

Some, like Financial Times commentator Gideon Rachman, say Germany could bolt if public frustration with bailouts mounts or if Berlin is unable to convince its euro partners to back its controversial plan for a new permanent rescue mechanism.

Dissident academics have challenged the legality of German participation in the Greek rescue in the Federal Constitutional Court. If they won, the impact on the euro could be devastating.

Others see a risk that economic divergence between Europe's stable core and debt-saddled periphery could end up splintering the bloc into a two-tier "Euro-North" and "Euro-South."

Still others believe Germany could engineer the expulsion of euro weaklings like Greece that it feels should never have been allowed in.

"I don't think we'll see a breakup of the euro and Germany returning to the deutschemark, but what we could see is a more homogeneous euro area purged of its low performers," said Domenico Lombardi, a former executive board member at the IMF who is president of the Oxford Institute for Economic Policy.

These voices still represent a small minority, and few of the skeptics are convinced the euro zone will fracture anytime soon.

Close observers of Europe, and the policymakers charged with defending the euro, dismiss the possibility of a breakup out of hand.

They cite the huge emotional as well as economic investment in the project, the political will behind it, and the pain, complexity and humiliation an exit would bring.

They point to the resilience of the euro itself, which has lost some 6 percent of its value against the U.S. dollar in the past three weeks but remains a strong, stable currency by historical standards.

German Bundesbank president Axel Weber said Wednesday there was "no way back" from the euro, reassuring his French audience that politicians would simply come up with more money if their $1 trillion safety net proved insufficient.

"My guess is that for quite a few years yet policymakers will do whatever they can to save this thing," said Katinka Barysch, deputy director of the Centre for European Reform.

"If you sit in London, it's doomed. They don't understand the political investment. They look at the bond spreads and think it's doomed."

Jacob Funk Kirkegaard, a fellow at the Peterson Institute for International Economics in Washington, said a breakup remained "unthinkable" and pointed to the bloc's response to the Greek meltdown, in which, after repeated delays, it tore up the rulebook and took decisive action to stop the rot.

"If the euro were seriously at risk one could expect a much more forceful response," he said. "You would see the ECB printing 500 euro notes and dropping them from helicopters before Spain was forced to default or could endanger the euro."

Still, if the recent turbulence has proven anything, it's that "shock and awe" measures are unlikely to appease investors for long, nor change their view that the bloc is fundamentally flawed because of a steep competitiveness gap that only a closer fiscal union may be able to solve.

Going down this path is a non-starter for Germany, which has insisted instead that peripheral euro countries push through deflationary wage cuts and painful structural reforms to boost productivity, in line with its own successful economic model.

The Greeks, Irish and Portuguese are going along with these policies for now, but skeptics worry that in the years to come this strategy will be exposed as deeply flawed and that destabilizing imbalances within the bloc will re-emerge.

http://www.msnbc.msn.com/id/40371908/ns ... _business/

No risk of euro zone breakup in Irish crisis: EU

Irish government confident budget will pass

Merkel assures investors no euro risk before 2013

By Paul Carrel and Paul Taylor
BERLIN/PARIS | Thu Nov 25, 2010 10:56am EST

BERLIN/PARIS (Reuters) - Senior euro zone officials dismissed any risk of the single currency area breaking up after financial markets, alarmed by Ireland's debt crisis, forced the borrowing costs of Portugal and Spain to record highs.

"There is zero danger," Klaus Regling, chief of the euro's financial safety net, European Financial Stability Facility (EFSF), told German daily Bild in an interview published on Thursday when asked if the euro zone could break apart.

"It is inconceivable that the euro fails," he said.

Some economists and commentators, mostly in Britain and the United States, have suggested the 16-nation common currency launched in 1999 could split because of peripheral members' high debts and deficits, and a loss of competitiveness with Germany.

But Regling said: "No country will give up the euro of its own will: for weaker countries that would be economic suicide, likewise for the stronger countries. And politically Europe would only have half the value without the euro."

Greece received a three-year 110-billion-euro EU/IMF bailout in May, leading to the creation of the EFSF, which Ireland has now applied to tap to cope with the devastating impact of a banking crisis on its public finances.

The cost of insuring Irish debt against default continued to rise on Thursday amid market doubts about Dublin's austerity plan. In another sign of waning confidence, European clearing house LCH.Clearnet increased the deposit it requires traders in Irish government bonds to post for the third time this month.

The euro tumbled this week after German Chancellor Angela Merkel alarmed markets by saying the single currency was in an "exceptionally serious" situation.

German Bundesbank chief Axel Weber, a powerful member of the European Central Bank's governing council, said he was convinced EU leaders would do whatever it takes to repel what he called an "opportunistic attack" on the currency area.

Weber noted that the EFSF and other EU rescue funds had enough money, if necessary, to cover the borrowing needs of the four financially troubled members of the euro zone -- Greece, Ireland, Portugal and Spain.

"If that is not enough, I am convinced euro zone states will do what is necessary to protect the euro," Weber told French business and political leaders in Paris on Wednesday evening. "But 750 billion (euros) should be more than enough to see off an attack on the euro zone."

Currency and credit markets have been unnerved by German proposals to force bond holders to share the cost of any future default by highly indebted euro zone countries, as well as by the alarmist tone of recent comments by Merkel and European Council President Herman Van Rompuy.

ECB policymaker Ewald Nowotny voiced irritation at Merkel for not "differentiating between the euro as a currency and the problems of individual (euro zone) states."

Euro zone policymakers are hoping that Spain and Portugal can stave off an Irish- or Greek-style debt meltdown.

A Reuters poll this week showed 34 out of 50 analysts surveyed believe Portugal will be forced to follow Ireland and ask for help. In a separate survey only four out of 50 economists thought Spain would seek external aid.

http://www.reuters.com/article/idUSLDE6AO0HG20101125

25 November 2010 Last updated at 17:23 ET

Merkel in eurozone permanent bail-out vow

Germany's Chancellor Angela Merkel has vowed to implement a permanent bail-out facility amid speculation over a break up of the 16-nation eurozone.

A joint statement with French President Nicolas Sarkozy said the two would propose replacing the existing fund that expires in 2013.

Meanwhile the head of Germany's central bank said the existing fund could be increased if needed.

And the fund's head has dismissed the risk of a eurozone break-up.

Klaus Regling of the European Financial Stability Facility (EFSF) said it was "inconceivable that the euro fails".

There has been speculation that some countries may be forced to give up the euro in light of the Irish debt crisis.

Fund upsize

In their joint statement, the French and German leaders said that they were working "under high pressure on a joint proposal for a crisis mechanism that is to replace the current one beyond 2013".

The EFSF was set up over the summer as a general rescue fund for eurozone governments, in a failed attempt to prevent the Greek debt crisis spreading to other countries.

The two leaders also said they wanted a bail-out of the Irish Republic by the EU and IMF to be finalised as soon as possible.

Mr Weber said the rescue fund could be increased The negotiators plan to conclude talks on Sunday, according to news agency Agence France Presse, citing an anonymous source in Brussels.

Much of the money for the Irish bail-out will come from the EFSF.

In separate comments, Axel Weber - head of Germany's central bank - said that the EFSF could be increased in size by a further 100bn ($134bn, £85bn) euros if need be.

It comes after the German finance ministry was forced to deny a story in German newspaper die Welt that the 440bn euros fund would be doubled in size.

Moves are also under way to carry out a new and tougher round of stress tests on Europe's biggest banks next year, after a run on the government-guaranteed Irish banks forced Dublin to seek its rescue from the EU and IMF.

Market doubts

Worries about the finances of other eurozone governments - in particular Portugal and increasingly Spain - are putting pressure on the euro and government bonds.

The currency has fallen by more than three cents against the dollar this week because of events in the Irish Republic.

The single currency rallied back slightly in Thursday afternoon trading to $1.3375, but has still lost 3.4 cents or 2.5% of its value against the dollar since the beginning of the week.

The euro has fallen 1.2% since Monday against the pound.

The bond yields of debt-troubled eurozone governments have continued to rise, suggesting that markets are becoming ever less comfortable about lending them money.

The 10-year Irish bond yield rose to 9.08% - above the highs seen prior to the start of the bailout talks. Spanish bonds also fell in value, raising the 10-year yield to 5.2%.

In or out?

Meanwhile, Mr Regling - the EFSF's head - told Germany's Bild newspaper there was "zero chance" that the euro would collapse.

"No country will voluntarily give up the euro - for weaker countries that would be economic suicide, likewise for stronger countries," he said.

Germany's Chancellor, Angela Merkel, also chimed in, saying that she was "more confident than this spring that the European Union will emerge strengthened from the current challenges".

It follows more negative comments she made earlier in the week, when she described the euro's plight as "exceptionally serious".

Questions have been raised about the cost to the EU, and the International Monetary Fund, of bailing out eurozone members - over the summer, Greece was bailed out to the tune of 110bn euros ($147bn; £93bn), while the Irish Republic is currently negotiating what is expected to be an 85bn-euro rescue package.

Many commentators have also pointed out that eurozone countries are unable to devalue their own currency - one of the key methods many governments use to trade their way out of recessions, as a weaker currency makes exports cheaper.

As a result, some have suggested that countries like the Irish Republic and Greece would be better off outside the zone.

Bank tests

Meanwhile, the EU intends to hold a new round of stress tests next year, to check the robustness of Europe's banks.

European officials claim that the new tests will be much more stringent than a previous set of tests carried out over the summer.

"We can expect truly demanding tests over the course of 2011," said Jonathan Faull, head of the internal market unit of the European Commission.

The European Central Bank is said to want to include an additional test of whether banks have enough cash in reserve in case they suffer the kind of deposit flight that afflicted those from Ireland.

The results of the first stress tests were published in July in a bid to reassure markets during an earlier chapter of the sovereign debt crisis.

Of the 91 major European banks scrutinised, only seven - in Greece and Spain - failed.

All of the major Irish banks passed. However, now the Irish government is set to almost completely nationalise Allied Irish Banks and Bank of Ireland.

http://www.bbc.co.uk/news/business-11836514

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