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How dependent and vulnerable are we today regarding the European debt crisis?

By : Ziad K. Abdelnour| 19 September 2011
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It is clear to everyone today that Europe is in a deep debt crisis and that the multinational bailout of European banks won’t do much.

After UBS announced it had lost $2 billion due to an alleged rogue trader, the world’s major central banks stepped into the void created by the euro zone debt crisis.

The Federal Reserve and the European Central Bank, in co-ordination with the Bank of England, Swiss National Bank and Bank of Japan recently announced a plan to offer three-month dollar loans to commercial banks in order to avoid a liquidity crisis in the euro zone banking system.

While liquidity is not as big a problem as it was in late 2008 following the collapse of Lehman Brothers, I believe solvency is.

In fact, even if banks in the euro-zone have less of a liquidity problem on their hands today than they did in late 2008, they have a greater solvency problem. This is reflected in the fact that the cost of insuring against a default by the banks is today much higher.

Policymakers’ response to the financial crisis was to recapitalize the banks and transfer risk to the public sector. This is now coming back to haunt the banks, as they hold so much government debt and the governments themselves are in no position to offer renewed support.

Hence, I expect a further near- to medium-term escalation of the euro zone crisis involving the default of a sovereign in, and the possible departure from monetary union of, at least one country.

By the same token, I guess the Fed is now going to be taking huge piles of your money and loaning it to commercial banks in Europe. The Congress cannot overrule this decision. Neither can Barack Obama. Because it has so much power and there are basically no significant “checks and balances” on the Federal Reserve. If you don’t like the fact that the Federal Reserve is racing in to help big foreign banks survive the European debt crisis that is just too bad. The Federal Reserve pretty much gets to do whatever it wants to do, and the folks over at the Fed simply do not care whether you like that or not.

The Federal Reserve and other major central banks around the world decided that lending big European banks gigantic piles of dollars would be a good idea, so they are just doing it.

So how much money is going to be loaned out?

Well, it seems that big European banks are going to be able to borrow ‘any amount’ of money in three separate auctions in October, November and December. Banks will have to put up collateral, or security, to tap the emergency funds.

But it’s not just Europe …U.S banks and money market funds are exposed to the meltdown in Europe as well. So the meltdown in Europe could and will most probably cause real problems in the U.S

Indeed, if Wall Street insured much of the European debt through derivatives contracts, the fallout could be amplified many times over.

The less conservative figure, the gross exposure, is $78.7 billion for Greece, according to Markit. And there are many other types of contracts, like about $44 billion in other guarantees tied to Greece, according to the Bank of International Settlements. The gross exposure of the five most financially pressed European Union countries — Portugal, Italy, Ireland, Greece and Spain — is about $616 billion. And the broader figure on all derivatives from those countries is unknown.

According to Matt Taibbi, what caused the European crisis wasn’t a rogue trader, but a rogue bank … or more accurately, all big banks have gone rogue.

As such, the European crisis continues to worsen, just as the U.S. economy is worsening because no amount of band-aids will cure a cancer (i.e.: fraud) that is not dealt with immediately.

The government is deploying all of its equipment to rescue the economy…..But rather than fixing the US economy, the equipment is just getting swallowed up.

Why?

Ben Bernanke’s answer to all of the water running out of the bathtub (high unemployment, falling home prices, slow growth, etc.) is to pour more and more water (easy money) into the tub (quantitative easing, zero percent interest rates, etc.)

Similarly, Geithner and Obama and Congress can throw all of the money at the giant banks through direct and hidden bailouts that they like, but – until the hole is plugged – nothing they do will work.

The water will just keep running away.

What’s the hole that is swallowing up the economy? The failure to follow the rule of law.

I strongly believe No investor – or taxpayer – in Europe or America (or any other part of the world) will be safe until the rule of law is restored and it hasn’t been yet. This will not only lead to the fall of Obama no matter how much money he raises for his Presidential campaign but will put this country into much deeper trouble….Mark my words.

Your feedback is as always greatly appreciated.

Thanks much for your consideration.

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