By John Galt
July 24, 2011
While the world sighed relief with the temporary resolution of the crisis in Greece by permitting an actual temporary default which is not a default according to the banksters, the European Union is far from out of the woods as trouble lurks in nation after nation and the myth that debt monetization was forbidden by the structure of the European Central Bank (ECB) has been shattered forever. In fact if one takes a moment to reflect on the growth of monetary aggregates per the ECB’s own data, it would appear that gradual inflation, much like the Federal Reserve’s policy since 1913, was indeed their policy all along as this chart below reflects:
(Click on Chart to Enlarge)
Anyone with two eyes, one eye, and a brain can see that expansion of the European Union’s monetary supply has been expanding for over a decade, yet has plateaued since the financial crisis spread from the United States and infected the Eurozone region. Now the threats from Eastern Europe are starting to emerge and unless the ECB actually follows through with the debt monetization process for the PIIGS and stabilizes the banking system in those nations and in the supposedly stable Northern European banks, the entire union could crash as the destruction of the money supply through sustained deflation in asset valuations in member nations.
The one country that is sounding the warning clarion is a non-E.U. member; Switzerland. The threat the Swiss Franc has indicated to the Euro currency is best expressed when reviewing a decade long chart of the Swiss Franc against the Euro:
(Click on Chart to Enlarge)
The financial crisis of 2008 triggered the flight to safety in the Swiss Franc and since that moment the currency exchange rate has not looked back. The Swiss Franc has strengthened over 27% since the lows of the 2008 time period and a growing recognition of the dangers from the Franc failing to correct and weaken is dawning on the E.U. and Switzerland. Before the financial crisis, it was a very common practice to take advantage of the relatively stable exchange rate between the Swiss Franc and the Euro. That stability encouraged many residents of Eastern Europe to take out home loans denominated in Francs instead of their domestic currencies or in other cases the Euro.
The instability of the system has finally been recognized by the Swiss and Eastern Europeans as the Franc has appreciated. The difficulty for the homeowners to pay back the Franc denominated mortgages was highlighted this week in an article by Matthew Allen of Swissinfo.ch:
Essentially this is the European version of the American sub-prime crisis on steroids. Instead of a variable rate or ARM with a later date reset, mortgages denominated in Swiss Francs are resetting based on the strength of the currency and the day to day trading variables of the Forex markets. The Swiss National Bank has attempted to intervene on behalf of weakening the Franc and holding technical support areas for the U.S. Dollar and Euro, yet failed with each attempt as the chart above outlines. Thus the stronger Franc is crippling Eastern European debtors as they must find sources of income in their local currencies to service the Franc denominated debt.
The article highlighted the myth of nations attempting to control the currency exchange rates with artificial limitations as outlined in this portion of the article discussing the housing crisis in Hungary:
In an effort to stem the rise of home repossessions, the newly elected Hungarian government banned banks from foreclosing most loans in the first quarter of this year.
The franc bought 160 Hungarian forints in the summer of 2008, but has strengthened so much that it can command 230 forints at the moment.
To help stave off social meltdown, the Hungarian authorities have set an artificial exchange rate of 180 to allow homeowners to convert loans into forints without going bust. The scheme comes with a sting in the tail; those taking advantage of the deal must make up the difference from 2015.
“This is a better option than banning banks from foreclosing loans,” György Barcza, chief economist of Hungary’s K&H Bank told swissinfo.ch. “This created a moral hazard as people simply stopped their repayments, believing that the government would bail them out.”
“Allowing people to exchange their francs at an artificial level is less damaging to banks, but it simply delays the debt problems for a few years.”
When one reviews the exchange rate between the Franc and Hungarian Forint it is quite obvious that the solution outlined above will end in disaster for the Hungarian banking system:
(Click on Chart to Enlarge)
The chart is an almost perfect parallel to the EUR/CHF chart above but with the added indication that indeed hyperinflation does appear to be an obvious solution for the Hungarians as there is little hope of artificially setting exchange rates and solving domestic economic issues. The outlier though is the impact on banks in Austria, Italy, Germany, and the Nordic nations which hold the securitized notes for the mortgages in Eastern Europe denominated in Swiss Francs and what happens if the economy does not improve dramatically resulting in a series of defaults on those securities.
To add to the problem however, it goes far beyond just mortgages in Eastern Europe as the article outlines; entire towns borrowed money in Swiss Francs as this excerpt explains:
But it is not just Austrian banks that have been exposed by the rise in the value of the franc. Even local communities were fooled into believing they could boost their finances by trading in francs at a time of low interest rates and high stability.
The town of Payerbach could be left with a bill of up to €50 million (SFr58.6 million) unless it manages to unwind its positions in the Swiss currency, according to the Tages-Anzeiger newspaper.
“It would have been better for the authorities to have gambled the money in a casino,” a local councilor told the journal. “We would then at least have known about the risks.”
In other words the perceived stability created by the solutions outlined in Greece are a temporary mirage, much like the ratings agency’s temporary defaults. The storm might indeed look like it is fading into the night but a larger storm has been created in its wake and when it impacts the E.U. it is doubtful that the union in its current form will or can survive.