IT is a messy, angry and confusing picture. But some elements of the long-awaited deal to “rescue” the Eurozone are beginning to emerge. Banks will have to raise over €100bn in capital; France’s proposal to boost the firepower of the bailout fund by turning it into a bank and letting it borrow from the European Central Bank has been defeated. We will probably end up with some horrible system to guarantee some losses on Italian and Spanish bonds, combined with an off-balance sheet vehicle, possibly backed by the IMF. This may “work” in the sense that it could ring-fence Greece (whose haircut will probably be 50-60 per cent, not the pathetic 21 per cent previously agreed) but at the cost of destroying the finances of other countries and building vast resentment among the public. The scheme won’t tackle the root cause of the problem: the weaker economies are losing competitiveness and stagnating because they don’t have the political strength to reform their economies and cut costs – and can no longer opt for the cheap way out of debasing their currencies.
We are now likely to see a scramble for capital, as institutions try to raise the funds they need to cope with writing down toxic sovereign debt and ensuring they meet the 9 per cent capital requirements. Existing shareholders as well as sovereign wealth funds will be tapped; but governments and the bailout fund may also step in.
This will have unintended consequences: because capital is scarce, many institutions will find it easier to meet requirements by reducing their balance sheets, rather than by finding extra funds. This means fewer loans, increasing the chances of recession. And even though the toxic debt responsible for this crisis was issued by failed governments, and that financial institutions must for regulatory reasons stock up on sovereign debt, bailouts will prove to be another reputational and political disaster for Eurozone banks and all financial institutions. If they had any sense, governments would authorise bail-ins in the form of debt for equity swaps, recapitalising banks without the need for any taxpayer cash. To avoid panicking the bond markets, this could be phased in over a longer period.
Given this backdrop, and the absurdity of the European machinery, it beggars belief that David Cameron has chosen this moment to pick a fight with his backbenchers over Europe. It is obviously true that there are huge costs to the UK’s membership of the EU. There are also benefits, of course, but these are less than the costs, which keep going up as a result of new regulations, some of them deliberately targeted to inflict maximum damage on London (such as the proposed Tobin tax). As Cameron himself has promised repeatedly, it is time for the UK to forge a new settlement with the EU. The UK, fortunately, is not part of the euro (the only major decision Gordon Brown got right) but it also needs to regain control over its economic and social policies, as well as over a raft of other areas.
Reasonable people can disagree on how exactly this should be done. But the status quo is no longer tenable. It is crippling the economy, increasing unemployment and blocking a supply-side revolution to liberate Britain’s economy and society. The Tory backbenchers who will be revolting today may be destroying their careers, courtesy of the prime minister’s strange refusal to see sense – but they will be doing their country a favour.
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