The battle to assemble the funds for the Greek bailout and the short-term bridging finance for the gap between the immediate needs of the Greeks for liquidity which would allow Greek banks to open for business has demonstrated to the world what most economists have known for years – there is no real money behind these bailouts. There has been precious little actual transfers of cash between the ECB, the IMF and the European Union to debtors like Spain, Ireland, Portugal and Greece. The sums involved are transfers of promises, not cash. These are notional sums, notional credits. However, with the introduction of capital controls by the central bank in Greece it has meant the real loss of cash availability for private savers, pensioners and investors. In Cyprus it also involved a ‘haircut’ for account holders of real cash. The actual money the banks hold is not their money; it belongs to their clients. When the banks are in trouble, as in Greece, the banks ration the cash available to the people or companies to whom the cash belongs.
Fundamentally, the Euro exists as a currency but is founded on the willing suspension of disbelief that somewhere, under the piles of excrement, there is a real pony passing nutrients through its system which constantly augments the piles. The simple fact is that reading the piles of excremental waste which surround the Euro has become a ritualised art form, like phrenology, which allows experts to pretend that in this elaborate system there is real money somewhere.
The best example which springs to mind is the paradoxical question of Schrὃdinger’s Cat; postulated by the Austrian physicist Erwin Schrὃdinger in 1935. It was his response to the Copenhagen interpretation of quantum mechanics applied to everyday objects. The Copenhagen interpretation of the problem of quantum entanglement (the co-existence of two systems which remained together but identifiably apart) meant that the resultant system was neither together nor apart in a constant state. The Copenhagen interpretation implies that the possible state of the two systems collapses into a definite state when one of the systems is measured. One wouldn’t know if either state definitely existed until one took it apart and measured it. Until the system was taken apart and measured there were potentially two possible outcomes (together or apart). This is a contradiction with common sense.
Schrὃdinger devised an experiment to examine this puzzle. Schrödinger’s experiment required that a cat, a flask of poison, and a radioactive substance be placed in a sealed box. If an internal monitor detects radioactivity in the substance (i.e. a single atom decaying), the flask is shattered, releasing the poison that kills the cat. The Copenhagen interpretation of quantum mechanics implies that after a period of time, the cat is simultaneously dead and alive inside the sealed box because one doesn’t know if the radioactive decay has taken place. There are probabilities of such decay but no certainties. Until the box is opened one doesn’t know if the cat is really alive or dead. Common sense says that a cat cannot be both alive and dead at the same time. This poses the question of when exactly supposition ends and reality collapses into one possibility or the other. The paradox is that the observation (‘measurement’) affects the outcome, so the outcome doesn’t exist until the measurement is made. This is very similar to how the Euro has survived in its present state as both a successful international currency and as a troubled instrument of debt and financial grief.
Banks have special rules which affect their business. A bank is an institution which rents money from its depositors and relets the money to consumers (companies, financial institutions, governments) at a higher rate of return. The rules which govern these banks allow for the banks to use leverage in their lending. That is, since it is a bank, the rules say that it can lend out multiples of the money it is renting from its clients. For every dollar it would have as an asset it can lend out three, four, five or ten dollars to those with whom the banks contract. A certain portion must be retained in the bank as a reserve, but the rest can be lent out to its customers as a multiple of its reserve requirement. Since it actually doesn’t have these multiples as cash to hand over it relies on its ability to create financial instruments and obligations to replace actual cash transfers to its clients. In return the clients issue financial instruments (stocks, shares, bonds, leases, etc.) to the bank with a notional value based on the demand for such commercial paper in the wider market.
Once the bank starts delivering the financial instruments which represent its leverage of the actual cash value of the money it is renting from its depositors the nature of the transaction has moved from reality to notional money. The bank is lending notional money to its clients and they are responding by issuing notional commercial paper to the bank as its pledge to pay to the bank a sum of money in the future, secured by the share value or assets of the company or institution – a variable notional asset. In recent years, with the rise of derivatives, the relationship between these derivatives and futures and real money has become almost unobservable and is almost always carried out in notional money.
So, when the Euro was formed and the subsequent instrumentalities belonging to the Euro (the ECB, ESF, EFSM, etc.) they were capitalised by pledges from the member states. The members pledged these sums but, for the most part, never actually parted with cash. The EFSM was linked to the EU member states contribution to the EU budget but was not a cash-holder of its own. This worked well as long as there was prosperity and growth. Much of the money which changed hands was between governments and commercial entities which used private banks as their vehicle of exchange. In the funding of arms purchases or infrastructural projects like dams, railroads, etc. the European governments issued guarantees or bonds to private commercial banks which represented the sellers. However, when there was a turn in the market and the economies began to accrue greater debts than they could pay, these private commercial banks went to the European institutions and demanded that they take over the indebtedness of the European governments towards them or face a ‘banking crash’. The European institutions embarked on a series of ‘bailout’ programs in several countries which loaned notional funds to Ireland, Portugal, Spain and Greece. Most of the proceeds of these bailouts were not paid to the recipient nations; they were transferred to the private commercial banks holding the paper of these countries. In Greece, for example, over 90% of the first bailout went directly to the commercial banks. This changed the debt from a commercial bank to the European taxpayers.
This bailout also funded debts which were occasionally generated by failures of the commercial enterprises to complete the underlying transactions properly. This was the case in the German company, Ferrostal, which sold faulty submarines to Greece. The submarines were never delivered but the purported Greek debt for these was taken over by Germany, relieving its commercial bank of its liabilities, despite the fact that Greece had paid almost €2.8 billion for undelivered submarines.
In March 2010, two months before the announcement of the first Greek bailout, European banks had €134 billion worth of claims on Greece. French banks had by far the largest exposure: €52 billion – this was 1.6 times that of Germany, eleven times that of Italy, and sixty-two times that of Spain. Some of this was for Mirage jet fighters. . The €110 billion of loans provided to Greece by the IMF and Eurozone in May 2010 enabled Greece to avoid default on its obligations to these banks. In the absence of such loans, France would have been forced into a massive bailout of its banking system. Instead, French banks were able virtually to eliminate their exposure to Greece by selling bonds, allowing bonds to mature, and taking partial write-offs in 2012. The impact of this backdoor bailout of French banks is being felt now, with Greece on the precipice of an historic default. Whereas in March 2010 about 40% of total European lending to Greece was via French banks, today only 0.6% is. Governments have filled the breach, but not in proportion to their banks’ exposure in 2010. Rather, it is in proportion to their paid-up capital at the ECB – which in France’s case is only 20%.
If Greece is forced out of the euro the country will not only default on its EMU rescue packages, but also on its “Target2” liabilities to the European Central Bank. The Target2 “debts” owed by Greece’s central bank to the ECB jumped to €49bn in December 2014 as capital flight accelerated on fears of a Syriza victory. They have now reached €65bn or €70bn. The German position is more complicated. There is the belief that Germany has a strong economy which can withstand the buffets of an unstructured collapse of the Euro. This is not true. The Bundesbank has used up its entire private assets and has expended over 250 billion Euros in the credits for the EMU support system. All in, the Bundesbank has used 496 billion Euros of ‘Target 2’ automatic payments to other central banks. The Bundesbank now owes 228 billion Euros to German banks. The Bundesbank already holds 12 billion Euros of Greek debt. Unlike others, the Bundesbank does not have legal immunity for its losses.
Until the recent negotiation between Tsipras and the Eurozone which has demanded a renewal of a program of fierce austerity it was not certain if Schrὃdinger’s Cat; was alive or dead. The meeting in Brussels exposed the contents of the box and proved the cat was dead. The burial services for the Euro have not yet begun but the process of decay and putrefaction have become visible to all. It is no longer a possibility – it is a sure thing.
The Eurozone is a classic example of the Gadarene Swine Fallacy; that is the fallacy of supposing that because a group is in the right formation, it is necessarily on the right course; and conversely, of supposing that because an individual has strayed from the group and isn’t in formation, that he is off course. The individual may seem lost to the group but not off course to an ideal observer. While the Greeks may be ‘off-course’ relative to the rest of the Eurozone in rejecting austerity they may well be on a far truer course than Gadarene Swine embarked on their austerity formation.