Facts – do you remember those? They used to serve as the basis of arguments. These days, however, emotion and myths are making all the running. Take the Greek debt crisis. If some of the more excitable European politicians are to be believed, the chaos of the past few weeks was caused by a bunch of greedy Anglo-Saxon hedge funds manipulating the credit default swaps (CDS) market (which measures the cost of insuring against default and hence estimates the probability of the Greek government going bust).
This conspiracy theory view does not hold up to scrutiny. For a start, the Greek CDS market is quite small – transactions are worth around 8 per cent of government bond transactions, according to the Depository, Trust and Clearing Corporation; and the overall value of the Greek government CDS market is just 4 per cent of the value of the actual government bonds. So it is not clear how such a small market could derail a whole country; and in any case the yields faced by the Athens government have behaved rationally in recent weeks. There is a non-zero risk of a default – on that nobody can disagree.
Even more damagingly for the “it’s all the fault of the hedge funds” crowd, investors in Greek debt are overwhelmingly European rather than “Anglo Saxon” – only 5 per cent of owners of Greek state debt come from outside the eurozone, according to estimates from Barclays. That is the killer fact, the one you never hear from those in Brussels, Athens and in other Club Med capital cities who are keen to blame London for all their woes. Ironically, it is European banks rather than Anglo Saxon hedge funds who are the big players.
One reason for this, yet again, is that the Basel Accords on capital adequacy treat government bonds very favourably on the assumption that they are safe. Banks must hold varying amounts of capital against their different kinds of assets; as I wrote in this space yesterday, the rules encouraged them to hold securitised bundles of mortgages (whose value collapsed in 2008) rather than actual mortgages, fuelling the crisis. The only asset treated more kindly than asset-backed securities are government bonds, with a zero risk weight – no capital need be put aside against them. Of course, government debt usually yields less than other securities, which means it doesn’t always make sense for banks to hold them; but the rules nevertheless failed to make a proper distinction between bonds of strong and weak countries and encouraged eurozone banks to invest in Greek debt. What a mess.