Wednesday, September 28, 2011
Leveraging the EFSF is attractive, but risky
September 28, 2011
When the idea of leveraging the European Financial Stability Facility to increase its firepower was touted as the solution to the European sovereign debt crisis at the International Monetary Fund meetings last weekend, markets rallied sharply. They saw this (rightly) as the first sign of a policy initiative which might actually be large enough to get ahead of the deteriorating crisis. But I commented here on Sunday that there was no real indication that Germany was ready to embrace the scheme and, sure enough, Wolfgang Schäuble, finance minister, yesterday described the approach as “a silly idea” which “makes no sense”.
Germany’s public opposition to increasing the size of the EFSF may be partly tactical, given tomorrow’s key vote on the fund in the Bundestag. But it is also based on a crucial sticking point. The strong economies fear that increasing the size of the fund would result in them losing their own triple A status and they have consistently given a greater weight to these costs than to the less certain, but potentially much larger, costs of a euro breakdown.
Therefore the key question is whether the EFSF leverage plan would overcome this obstacle. In my view, it does not, but it changes the trade-off. A leveraged EFSF would increase its chances of solving the crisis, but only at the risk of increasing the long term fiscal transfers which Germany and the other strong economies would have to make if things went badly wrong.
Posted by Yulie Foka-Kavalieraki at 4:15 PM