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ECB Expected to Unleash QE after Launching of Euro-Bonds

Gary Dorsch
Editor Global Money Trends magazine

Nov 30, 2011

Hardly a week goes by, without a major summit between German Chancellor Angela Merkel and French President Nicolas Sarkozy, trying to devise another clever scheme to save the Euro. Yet after 1-½ years of trying to contain the wildfire, - the Euro-zone’s debt crisis is more dangerous than ever. The collapse of Greece’s €360-billion bond market, now trading at 26% of face value, has triggered contagion sales from periphery of the Euro-zone - Greece, Ireland and Portugal, and into the next upper tier of the Euro-zone, namely, the bond markets of Spain and Italy, which together owe €3-trillion of debt.

Even after Spain's right-wing Popular Party routed the social democrats in a national election and assumed power, pledging even more severe austerity measures, - Spain’s borrowing costs continued to ratchet higher. The yield on Spain’s ten-year bonds approached 7% last week, a level considered prohibitively high enough to topple the Euro-zone’s fourth largest economy into a depression in 2012. Despite assurances from Italy’s new Prime Minister Mario Monti of new austerity measures, Italy’s 10-year yield hit 7.50% last week, a 15-year high.

The newly installed governments of Greece, Italy and Spain are promising to imposed deeper spending cuts, further layoffs of public workers, and raising taxes, - all measures that can push their economies into a deep recession. However, as the Wall Street Journal noted on Nov 21st, “Whether the ECB decides to boost its bond-buying or not, investors seem to be coming to the conclusion that any true solution to the European debt crisis will be a years-long process in which governments will be asking electorates to accept enormous sacrifices, in the form of entitlement cuts and tax increases, as well as weak growth and high unemployment.”

The origins of the Euro-zone debt crisis began in the Greek bond market. Traders began to realize that Greece’s small workforce of 6-million wage earners couldn’t possibly payback €360-billion ($478-billion) of debt that was accumulated by the crooked politicians in Athens. Last year, Greece’s total debt increased to 142% of gross domestic product (GDP). This year, it’s expected to reach 160-percent. Yet it’s nearly impossible for a government to run a budget surplus when its economy is shrinking, and tax revenues are falling.

In 2010, Greece’s economic output fell by -4.5% and roughly 65,000 private companies declared bankruptcy. More than 200,000 people lost their jobs. The situation has gotten much worse this year. Greece’s jobless rate hit a record high of 18.4% in August. The country is suffering from painful austerity measures demanded by foreign lenders. The jobless rate for workers in the 15-24-year category reached 43.5%, twice its level three years ago, and is a tinderbox that could explode at any moment. Greece’s economy is now seen shrinking for a fourth consecutive year in 2011, at an annual pace of -5.5-percent.

At the same time, foreign lenders refuse to lend money to Greece. The rating agencies have downgraded the country so low that Athens must pay 152% for two-year bonds.If the EU and IMF hadn’t agreed to cover Greece’s €110-billion borrowing needs thru 2013, Athens would’ve already declared state bankruptcy. This would’ve resulted in massive losses for the European banking Oligarchs and Euro-zone governments that hold the toxic debt.

Under the guidance of Berlin and Paris, a large portion of Greece’s toxic debt has already been clandestinely shifted from the portfolios of the banking Oligarchs, and dumped into the hands of the Euro-zone taxpayers. In 2009, private banks held 100% of Greek public debt. However, through backdoor bailouts arranged by the IMF, the Euro-zone’s Financial Stability fund and the ECB, much of the toxic debt is being transferred from the books of the banking Oligarchs to public hands. Bankers will probably still hold about €180-billion of Greek debt by the end of 2013, compared to just under €300-billion in 2009.

It’s highly doubtful that Greece’s downtrodden workers would agree to remain slaves to Europe’s Oligarchic bankers for long. Athens is now demanding that its lenders write-off three-quarters of the debt owed, in a new restructuring deal. The alternative is for Greece to abandon the European monetary system and reintroduce the drachma as its national currency. That would bankrupt the Greek banks and pension funds that have loaned the Greek state €75-billion. The export sector would see little benefit from devaluation, as exports contribute only 7% of GDP. Most likely, the introduction of the drachma would result in hyper inflation, and decimate the living conditions of broad layers of the population. For Greece, there are no good choices to choose from in Dante’s Inferno.

Up until now, the Franco-German strategy for dealing with the sharp decline in the Euro-zone bond markets has been the same prescription employed by the IMF when lending to foreign governments. The EU has demanded brutal austerity measures that make the working class pay the heavy price for bailout money, that goes into the coffers of the banking Oligarchs, and not into the local economies of the impoverished workers. The result is higher unemployment among broad layers of the population amid a deepening economic slump, a sharp fall in tax revenues, and a worsening of the debt crisis.Berlin and Paris now aim to force Athens into selling off the country’s crown jewels at fire-sale prices, in return for the bailout loans.

Italy and Spain are trying to pare down their running debt balances through painful austerity measures, but the results are record high unemployment of 21.5% in Spain, and a sharp plunge in Italy’s industrial output. Yet the banking Oligarchs are still driving the borrowing costs of Italy and Spain sharply higher, - to their highest levels in 15-years. In turn, the Euro-zone’s third and fourth largest economies are at great risk of slipping into a deepening recession. This in part reflects the intention of the Oligarchic banks to ratchet up the pressure on the new governments to follow their dictates. Bank traders are jacking- up bond yields in order to create the impression of a full blown crisis that will scare the European Central Bank (ECB) and Berlin into dropping their opposition to full scale “quantitative easing,” (QE), - the ECB’s unlimited purchasing of the toxic debt on the secondary markets.

To prepare the groundwork for full scale QE, - the monetization of toxic debts, - the political cronies in Berlin and Paris are maneuvering towards a new arrangement that would blackmail member states of the Euro, into surrendering their sovereignty over fiscal policy. Meeting with French president Nicolas Sarkozy and the new Italian Prime Minister Mario Monti on Nov 24th, Germany’s Merkel presented proposals for changes in the EU treaties within a few days. The aim is to give Brussels the means to enforce even harsher austerity measures, - such as deeper spending cuts and higher taxes, without giving a political voice to the working class that must endure the austerity measures. Those who violate the Stability and Growth Pact “must be called to account,” and sanctioned, Merkel insisted.

According to recent reports, Merkel and Sarkozy have apparently agreed that if member states want to remain in the Euro monetary system, they must surrender their national sovereignty over spending and tax policies. Republican presidential candidate and former House Speaker Newt Gingrich commented on Nov 4th, “The European system is designed to block the people from having power. The elites in Europe work very hard at controlling the European people by indirect means. And it’s only when you get to referendums that you see how decisively the people of Europe are unhappy with the current governments,” he said. Having already surrendered their national currencies and decisions about interest rates to the ECB, it would be a fateful step to surrender fiscal policy.

In return for surrendering fiscal policy to Brussels, - Berlin and Paris, the key paymasters of the Euro-zone, would agree to the creation of a common Eurobond that would pool the credit ratings and collateral of all participating Euro-zone countries into a single fixed income instrument. Chancellor Merkel says that German borrowing costs will jump higher because of the creation of a Eurobond, though she is prepared to consider Eurobonds, if the legal framework is in place to ensure all countries in the zone observe the rules.

What Merkel wants to see at the December 9th EU summit is greater harmony of fiscal policies in the Euro-Zone, backed by legally enforceable rules of financial discipline. These would include automatic sanctions on countries that violate the existing rules, - such as annual budget deficits of member states cannot exceed 3% of GDP and that total public debt should be no more than 60% of the GDP. Every Euro-zone country has breached these rules.

However, if big debtor nations such as Greece, Ireland, Portugal, Spain and Italy refuse to surrender their sovereignty over fiscal policy to Brussels, - the alternative could be the situation that Greece now finds itself - purgatory. About 19-years ago, the governments of Italy and Spain had to pay more than 13% for borrowing funds for ten years. Since joining the Euro currency however, 10-year bond yields for Italy and Spain averaged around 4.50%, until contagion sales from Greece reached their borders in the summer of 2011.

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Gary Dorsch

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Mr Dorsch worked on the trading floor of the Chicago Mercantile Exchange for nine years as the chief Financial Futures Analyst for three clearing firms, Oppenheimer Rouse Futures Inc, GH Miller and Company, and a commodity fund at the LNS Financial Group. As a transactional broker for Charles Schwab's Global Investment Services department, Mr Dorsch handled thousands of customer trades in 45 stock exchanges around the world, including Australia, Canada, Japan, Hong Kong, the Euro zone, London, Toronto, South Africa, Mexico, and New Zealand, and Canadian oil trusts, ADRs and Exchange Traded Funds.

He wrote a weekly newsletter from 2000 thru September 2005 called,"Foreign Currency Trends" for Charles Schwab's Global Investment department, featuring inter-market technical analysis, to understand the dynamic inter relationships between the foreign exchange, global bond and stock markets, and key industrial commodities.

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