Too Big Too Fail

Italy is truly too big too fail. Every bank in the World would be bankrupt if Italy went down. If not by holding Italian debt than by holding debt of others who hold Italian debt. I don't want to belittle the issue but I cannot see that happening. One can even argue that this will force the hand of the EU to conduct some sort of massive operation.

2 comments:

Anonymous said...

The end of world bluff is running thin.   World does not end when banks fail.  Banks are shells and easily rebuilt in 2 weeks at a fraction of the cost to rebuild.  The only ones who lose long term are the old men who have a hand in bank legacy.  Basically the ultra rich would get screwed.  The average man doesn't.

frank r said...

Not just the ultrarich. Also pension plans, small savers with money-market funds or corp bond funds. Debt = wealth. Wiping out debt means wiping out a good chunk of the developed world's wealth. Which is why is won't be allowed to happen. There will continue to be bailouts. The money used for the bailouts circulates through the economy and finally comes to rest in the sinkholes (pockets of the ultrarich misers) from whence it never emerges as consumption or investment spending, so there is no risk of inflation. But the misers might spend some of their horde on bribing politicians so as to stifle change. So the stagnation could go on indefinitely. Europe was ruled by rentiers, and kept stagnant, for hundreds of years.

Assuming we do have many decades of rentier rule ahead of us, bonds are a safe bet. Equities another story. They are being propped up by low discount rates, but discount rates have to be applied to the profit stream, and nothing says profits can't fall. Given a choice between inflation and low profits, I believe rentiers will choose the latter. Consider housing. Fat lot of good low discount rates have done that asset class. Prices fell to match imputed rents, and imputed rents are low becaus the government has chosen to keep inflation down. It would be child's play to create inflation (give everyone a milliion dollars, for example) and that would raise imputed rents and push housing up, thus pleasing the housing equity owners. But the debt owners have prevailed. Same thing could happen for stocks.