I have commented on Target2 liabilities before.
Perhaps a Mish-modified translation from the Welt article Imbalance in the Euro System Reaches a New Record will ring a bell.
The central banks of Germany’s euro partners Italy, Spain and France owe the Bundesbank almost a trillion euros . This is a new high. – more than ever before. Tendency continues to rise. There is no security for this money.
Read that last line again and again until it sinks in. Italy is €464.7 billion in the hole. Spain is €376.6 billion in the hole.
Debtors owe Germany, the Netherlands, and Finland over €1.157 trillion.
In May, Italian liabilities increased by almost 40 billion euros.
“Capital flight to Germany is in full swing,” says Hans-Werner Sinn, longtime head of the Ifo Institute and one of the most prominent economists in the Federal Republic.
Originally, Target2 was designed to facilitate cross-border transactions within the eurozone. The system achieved this goal. From the point of view of critics, this means that the Deutsche Bundesbank provides long-term unsecured and non-interest-bearing loans to the central banks of other eurozone countries , especially the central banks of southern countries Italy, Spain and Portugal.
Fundamental Eurozone Flaw
Target2 is a fundamental problem of the Eurozone.
- The ECB guarantees these loans.
- As long as they are guaranteed, then hells bells, why not make more loans?
Germany Will Pay
Germany will pay one way or another. Here are the possibilities.
- Germany and the creditor nations forgive enough debt for Europe to grow. This is the transfer union solution.
- Permanently high unemployment and slow growth in Spain, Greece, Italy, with stagnation elsewhere in Europe
- Breakup of the eurozone
Those are the alternatives.
Germany will not allow number 1. It is unreasonable to expect number 2 to last forever. The only door left open is door number 3.
The best move would be for Germany to leave the eurozone. Germany is in the best shape to suffer the consequences.
Unfortunately, the most likely outcome is a destructive breakup of the eurozone, starting in Italy or Greece.
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Mike “Mish” Shedlock
Target2 balances are indeed an indicator of capital flight. Italians and Spaniards moving euros into Germany cause the balance to go up.
However these balances are not loans or real debt, that is, the Bundesbank is not really lending the Bank of Italy €465 bn or the Bank of Spain €377 bn – provided all countries stay in the Euro. In this case it is just an accounting mechanism and the money is not being squandered if the trade balances are even.
Target2 balances are not foreign debt either, as for every euro owed to the Bundesbank there would be one euro in Germany owed to the Italian or Spanish investor. So Target2 balances are country-neutral if generated by capital movements (accumulated trade deficits are a different story).
Should let’s say, Italy, leave the Eurozone, then the Target2 Bundesbank “credit” balance would become foreign reserves of the Bundesbank and the Bank of Italy’s liability. In principle, Bank of Italy would still owe the Bundesbank euros, the risk being that in a euro break-up Italy reconverts all State liabilities into the new currency. So the Bundesbank may end up owning a lot of Lira. Whether this would lead to losses it is a possibility if the Lira depreciates a lot. In the (unlikely) event of the Lira appreciating vs. the euro the Bundesbank would even make money! In real life all this would be subject to negotiations between the two countries involved.
Actually the more i think about it, if there is no cost at the moment then Germany are already effectively transferring annually Eur 30bn real money (in lost interest) to the peripheral states already. The ECB has brought about the transfer union already, without the German people being aware ! How sneaky is that ?
Germany and the creditor nations are already forgiving the debt as they presumably are not being paid interest on their loans to Italy thru the T2 mechanism. It obviously is already a transfer union.
Mish, Ok I understand yours. But a couple of Qs.
Are you sure that the Italians et al under Target 2 do not have to put up any collateral under the Target 2 system?
and
If the Interest rate charged by the ECB is 0%, why would it not be possible to ad infinitum carry on. since it is just technically a stealth default on the Germans, and brings about the transfer union which is necessary under scenario 1, by the back door.
Or Germany just dictates the slave states until WW3 ends the EU.
So importing even more muslims won’t solve this?
Option 5, or the American option: tax Germans, Dutch and Finns and use the money to set up military bases in Italy, Spain and Portugal. And hire Italians, Spanish and Portuguese to be your soldiers and fight your wars. Think NY and Cali as Germany and Italy/Spain as Alabama, Mississippi.
This is why wars were invented. Instant book balancing and anything leftover can be balanced with reparations, looking back centuries if necessary.
Yes – debtors – fixed
The first PIIG to pull out and reinstate their old currency will be the first to recover.
Number 1 would be a best for Europe, but not for Germany.
I can see no. 2 being the choice, basically the status quo extended. Germany runs a net trade surplus with the rest of the Eurozone and the rest of the world. A Deutschemark on its own would be a stronger currency and eat into this.
Germany will not leave the Euro but will put up with other EU countries teetering on the edge because they only improve the competitiveness of exporters though the suppressed exchange rate.
only solution actually that I see. somebody needs to devalue, why not all at once? saves the system.
I think you may be onto something there.
Hi Mish. 10 yr follower, first comment today! I would suggest solution #4 : central bank coordinated gold reval & debt scrap. Largest gold holders in EU are 1. Germany , 2. Italy funny enough…
Is this money created out of thin air by Germany like QE or is it crowding out other lending? If it is created out of thin air, it can disappear out of thin air. Europe wants to be like Japan.
If one looks at the economic damage in the periphery and the growth of anti-establishment movements throughout the EU, the break-up of the EU is well underway. However, since the formal break-up will bring an end to unelected bureaucratic jobs in Brussels, don’t expect the break-up to be civil. BTW, during the break-up process, where do you think capital will run?
If Germany leaves the eurozone, the Euro will go bye bye. And hence all debt denominated in Euros will be denounced. Germany’s only hope is to stay in the eurozone and hope austerity takes hold in the Mediterranean countries and Germany gradually gets paid back. Not saying it’s likely to happen.
Mish, Italy WILL NOT voluntarily leave the Euro. Crunch time is coming and something has to give but Italy will not leave voluntarily. Solution is unknown but perhaps not on your list above.