Questo articolo è stato pubblicato il 24 dicembre 2011 alle ore 11:39.
When a theatre goes on fire and spectators disorderly rush towards the exit, blocking one another, there is a risk of a tragedy. Even a liberalist like me recognizes that it is better for the police to intervene and to force people to exit in an orderly manner. It is the only way to save as many spectators as possible.
This image helps us understand how to come out of Italy's public bond crisis.
In most markets negative expectations cannot alter the long-term equilibrium. If too many consumers become (excessively) pessimistic on future potato harvests, potato prices go up.
The price increase reduces potato consumption and increases the supply of potatoes, reducing the price and bringing it back to the original point of equilibrium.
The public bond market is different. If (excessively) pessimistic expectations prevail on the capability of a Country to sustain debt, the interest rate demanded by the market to refinance debt increases.
The more the interest rate rises, the more difficult it becomes for a country to sustain the weight of debt and therefore expectations become more pessimistic. In other words, in the public bond market expectations that initially are unfounded can become reality, shifting the market from a good equilibrium (in which everyone believes that a country is solvent and the country is solvent) to a bad equilibrium (where everyone thinks that the country is insolvent and so it becomes).
The existence of this problem of multiple equilibriums is well known to economists and policy makers, and it is often abused of. Each state on the brink of insolvency claims that it is simply a bad equilibrium.
That is what the European Union said for Greece in 2010 when it was clear that Greece was insolvent. But the fact that the boy cried wolf too many times in vain does not eliminate the possibility that the wolf sooner or later really will come.
At this point I am convinced Italy finds itself in this situation. It was different in July when the Government was overwhelmed by scandals and unable to carry out a serious budget. But now after the approval of the Monti budget it is easier to believe in Italy's solvency. If Monti manages to impose a serious privatization and liberalization program I am convinced Italy can make it.
Unfortunately this is not enough. Fear prevails on international markets and there is the serious risk that despite all the sacrifices we will end up just like Greece. The fact that the spread continues to hover
around 500 basis points is a bad sign in this sense. It is possible that the ECB's credit lines will solve this problem, if banks use them to buy in heavy doses public bonds.
However, if this budget does not work, what alternative do we have? Of course, if the Germans guaranteed our debt or if they allowed the ECB to intervene strongly on the market the risk of falling into a bad equilibrium would disappear. But even during the Christmas season it is difficult to believe in Santa Claus. If Germany does not give us any present, what will we do?
An option is to wait and see. If interest rates go down we are safe; if not we have to ask the International Monetary Fund for help. Like in Greece, the IMF aid mainly aims at allowing international creditors to come out unscathed, making the entire weight of the adjustment fall on Italy. If Greece had announced a partial default in 2010 a 20-30% haircut applied to the entire debt would have been enough. Now that half the debt is held by international organizations that have priority over other creditors, a 60% haircut is needed. In the meantime the only winners are German banks that between 2010 and 2011 sold Greek bonds in the ECB's portfolio. Do we want to end up like Greece?
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