Friday, November 11, 2011

What's endgame for Italy's sovereign debt crisis?

I don't think anyone definitively knows the exact formula for the endgame of Italy's sovereign debt crisis, but I do think "the writing on the wall" is for a bailout of some sort by the European Commission (EC.) How much comes from the European Central Bank (ECB) or the European Financial Stability Facility (EFSF) or individual European countries or the IMF or China or the UK or even the U.S., and what haircut debtholders will be asked to "voluntarily" accept remains to be seen, but the bottom line is that "the fix is in"; some sort of bailout will be arranged. It may not be pretty, it may not be what people really want, and it definitely won't satisfy the "euro critics", but it will happen. Why will it happen? What is the guarantee that it will happen? It's simply the way they do things in Europe. It's the whole point of the European Union. There is simply no compelling reason for Europe not to do it.
Is there a magical "window" when it has to happen and is that purported window "closing"? Not really. The Europeans will take their time and work things out at their own pace, regardless of what any "euro critics" think they have to say about the matter. The big benefit of stretching it out is that it helps to eliminate the "moral hazard" of bailouts. Sure, there is a moral hazard for bailouts, but if investors get the message that relief does not come quickly and without pain (e.g., the haircut), the moral hazard is minimized. Stretching out the process assures that everyone has had a full chance to be heard, that all options have been explored, and then as many people as possible are "on board" with the final approach. Yes, stretching the process out builds anxiety, but it also minimizes anxiety at the end.
So, yes, Italy, et al will continue to quite a drama in the coming weeks and even months, but the ultimate outcome (some sort of bailout) should not be a matter of dispute, even if the details must be haggled over.


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