Global financial markets surged Thursday on the news that European leaders finally agreed to a solution for the euro zone sovereign debt crisis, which has worried the world for more than two years. U.S. markets jumped 3% upon news of the deal, while European bourses were up nearly 5%.
"I'm surprised financial markets have taken this to be a huge step forward," says Zanny Minton-Beddoes, The Economist's economics editor. "Like many of the previous deals — and we've had a number of them— when you look at the details, people are going to be somewhat more disappointed."
The Daily Ticker's Aaron Task caught up with Minton-Beddoes at The Economist's annual Buttonwood Gathering in downtown Manhattan. Of the market boost, she says it is worth remembering that a post-EU summit rally is not uncommon — only time will tell if investors believe this package will truly prevent a crisis.
- The European Financial Stability Facility (EFSF) — aka "the bailout fund" — will increase from roughly $600 billion to $1.4 trillion and will be used to help create a firewall around the EU's most troubled countries, such as Greece, Spain and Italy.
- China and the IMF could help raise money for that bailout fund.
- Private bondholders of Greek debt have agreed to 50% haircuts, which will reduce the country's debt burden from 160% of gross domestic product to 120% by 2020.
- Greece will receive $180 billion in fresh aid.
- Recapitalize the banks with a 9% reserve requirement by June 2009. Estimates show this will cost roughly $147 billion.
"This is a step forward, but hasn't yet solved the problem," says Minton-Beddoes. There are four elements to a comprehensive solution, she argues: 1) create a credible firewall around the PIIGS 2) recapitalize the banks 3) deal decisively with Greek debt and 4) change the governing policies of the entire euro zone. EU leaders did address those key components, but not well enough, in her opinion.
While many are concerned about the details over the haircuts for Greek bondholders, Minton-Beddoes is most concerned about the EFSF. The $1.4 trillion is merely an "aspiration," she says, questioning whether the additional funds, or firepower, can actually be raised. The European Central Bank solution has been ruled out, while France and Germany have vowed not to contribute any more to the crisis.
"Unless you have a clear firewall around countries like Spain and Italy, then it doesn't matter how much you recapitalize your banks if there is still a fear that the problems can lead to Spain and Italy," she says.
But this is a step in the right direction, she reemphasizes, and one cannot discount the fact that markets now trust EU leaders to being "committed to not [letting] this whole thing spiral out of control."
Let's hope she's right!
For additional coverage from Buttonwood, see: