Thursday, August 02, 2012

Euro crisis solution from Richard Werner

The Euro solutions thicken, to say nothing of the plot which has been lost sight of - but was it ever a sound plot?  George Soros in Prospect Magazine for August says the main cause of the euro crisis is that member states surrendered their rights to print money to the European Central Bank (Maastricht 1992). But Soros' solution is highly complex to non-economists (also probably to most politicians who would have to implement it). A few diagrams would have helped the article - he suggests the formation of three new bodies/ entitities. 

Jean-Claude Trichet ex-head of the ECB in an article in the FT (7 July2012) Europe needs the UK  highlights 'the present 99% correlation between the creditworthiness of the banks and the creditworthiness of the sovereign [state] as a great source of vulnerability'.

Wolfgang Munchau (FT 9 Jul12) Why we won't solve the eurozone crisis for 20 years shows what I mean about solutions getting thicker. He concludes - No Resolution.

Gene Frieda (FT 26Jul12 ) Europe needs bigger firewall as break-up threat grows
says ' Markets have been quick to discern eurozone governments cannot credibly socialise the losses on private debt incurred by banks'.

All these things set me to turning to that trusty source of clarity in banking and economic matters: Richard Werner, International Banking Professor at University of Southampton. In his book New Paradigm in Macroeconomics (Palgrave Macmillan 2005) on page 264 he suggests the most efficient scheme from the viewpoint of the entire economy:

'This would be for the central bank, in fulfilment of its function, to solve the bad debt problem in the banking system at zero cost to society, namely by conducting a one-off purchase operation of all declared bad debts from the banks at the original book value. 
The banks' balance sheets  would immediately be among the strongest in the world and they would begin to engage in their normal credit business again. 
Unlike a fiscal bailout,this would not burden the taxpayer and thus would not crowd out the private sector. Moreover it would be a 'free lunch', since there would be no cost to the economy. The central bank could simply keep those assets on its books at the face value ad infinitum.'

Werner explains that the central banks would make no loss on this as their fundraising costs are zero, in fact they would gain something from even the very low value assets purchased for nothing. He goes on to explain how any danger of moral hazard through the scheme (encouraging bankers to recklessly try the same bad lending again) could be safeguarded against.

With such a straightfoward solution on the stocks, one wonders why such things are not widely discussed.
posted by Charles Bazlinton. Author: The Free Lunch  

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