Citi’s Chief Economist Willem Buiter is out with a new note, and it’s negative about the long-term prospects for European sovereigns like Italy, Spain, and Belgium—not to mention the already ailing Portugal, Ireland and Greece.
The European Central Bank, he believes, will successfully reassure markets that it will back Italy and Spain at Friday’s summit of EU leaders, but they won’t present a single solution. In fact, “solving” the crisis is only going to come from years of austerity or debt restructuring.
ECB support will not be open-ended, nor unconditional. Its willingness to act as lender of last resort to sovereigns will be revealed one intervention at a time, over a period of months – possibly years. The Summit deal will not by itself resolve the euro area’s current fiscal issues, or eliminate the risk of future crises. Nor will it restart growth in the euro area. It should allay concerns about disorderly sovereign defaults by Italy or Spain and about euro area break-up.
The ECB will step in to make sure that Italy, Spain, France, and Belgium are able to maintain access to funds, but the bank will not go as far as making any unconditional commitments.
Further, bank strain will continue, and the mandate to raise core capital ratios to 9% by mid-2012 will likely be suspended.
This paints a grim picture for Europe in the long term, but that’s ultimately what “solving the crisis” is going to be:
Either the sovereigns that matter will, after many years of austerity, restore solvency or there will be orderly restructuring of Italy, Spain et. al. in addition to Greece, Portugal and Ireland. I call that solving the crisis. Slow growth or negative growth with high and/or rising unemployment is the new normal for the EA, the UK, Japan and the US, unless non-market ways of restructuring excessive sovereign, bank and household debt are pursued. Even then, potential output growth is likely to be modest, well below levels deemed feasible prior to the crisis, especially in the US and the UK. Reasons are demographics, worsening quality of human capital, inadequate infrastructure and a tendency towards over-regulation in the financial sector.
Lousy prospects, but not a crisis.
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