1. The Citi deal shifts pressure from US financial institutions, at least for a while. But to the markets it raises the question: who or what is next? And the indications again point to the eurozone. Credit default swap spreads indicate increasing differentiation between Germany on the one hand and, say, Greece (or Ireland or Italy or Spain) on the other hand. I don’t want to single out Greece, but the recent IMF Article IV Report has some very interesting debt path simulations (the report’s Figure 3) – if you update these in the light of current global circumstances, you can see why Greece may well need a bailout before too long (remember: their government debt is in euros and cannot be inflated away, unlike in the US or UK, for example.) The market view is that some European governments could not really afford the generous bank bailouts they provided in October.
2. For all the increased discussion among politicians and academics about reforming the global system, to preempt the next crisis, why would the most powerful people on Wall Street want this? The Citi deal shows that the clout of the US financial industry has, if anything, actually increased over the past eighteen months. “Wall Street owns the upside and the taxpayer owns the downside” is an old saying which seems more appropriate now – and on a bigger scale – than ever. There is no harm in proposing changes to deficient national regulatory systems and international, rather creaky, Bretton Woods structures. But strong forces just found out that these structures are completely compatible with rather juicy bailouts (and there may be more to come), so don’t expect rapid or meaningful real reform.
3. If we are now at the next stage of bailouts and of figuring out who can afford to do the bailing, then existing resources – in and around the IMF – for helping emerging markets are really not enough. The G7’s strategy proposal to emerging markets is clearly: ”finance, don’t adjust (much),” i.e., keep on growing one way or another. This might or might not be a good idea, but it will only work if backed by enough official loan support when needed – this is what many countries will need to sustain a current account deficit or offset capital outflows and keep growth on track. IMF available resources, even with the recent loan from Japan, are only around $200bn. You really cannot save many banks/countries with that amount of money these days – the IMF lent over $40bn this month alone.
Originally published at the Baseline Scenario and reproduced here with the author’s permission.