"It's a Ponzi scheme, it's a fraud, it's a sham," observed Jim Rogers this week when interviewed on the BBC World Service. One of the world's most successful investors was, however, not giving his verdict on the dastardly deeds which have confined Bernard Madoff to prison for 150 years, but rather the current strategy of the European Central Bank (ECB) and European leaders in trying to solve the euro zone sovereign debt crisis. For Rogers, their approach is based more on Peter Pan than sound monetary policy.
Ever since euro zone banks snapped up almost half a trillion euros in very low interest three-year loans offered by the ECB last week, the question was to what extent these banks would do the sovereigns a favour, as Nicholas Sarkozy hoped, by buying the bonds of euro zone governments. The answer, based on the results of Italy's latest bond auction on Thursday, is not encouraging. Investors are simply not prepared to lend money to Italy on a long-term basis without a cripplingly high premium, which at 6.98% is barely below the 7% level that forced Ireland, Greece and Portugal to request international bailouts.
If investors in government bonds seem a little nervous at the prospect of buying what until recently were seen as virtually risk-free financial assets, the reason for this reticence, as Jim Rogers observed, is not hard to discern. Money, as Harvard historian Niall Ferguson notes, is about trust and over the last two years the euro zone's political leaders have been extraordinarily successful at blowing every opportunity to solve the debt crisis and restore trust in the single currency project. When ordinary citizens can borrow money at less interest than the Italian state, then it's clear just how serious this crisis has become. For Anthony Crescenzi, executive vice president at Pimco, the largest bond fund in the world, European sovereign debt is "toxic" with about the same status that subprime mortgage assets have had ever since the financial crisis of 2008.
If the markets were convinced that a credible government treasury like that of Germany was standing full square behind Europe's monetary union project, confidence could be restored, but every botched EU summit and failed rescue plan shows just how rickety the euro edifice has become. Resolving a systemic banking crisis requires that the politicians involved in finding a solution recognise that the markets do not move at the glacial pace of government. Investors in sovereign bonds will render judgements swiftly and ruthlessly if the measures taken are not seen as credible. Even as the ECB continues to inject money into the crippled banking system, the hope of its policymakers is that some of this liquidity will either find its way into the real economy or at least bring down the borrowing costs for the euro zone's governments. To paraphrase Jim Rogers, 'Welcome to Never Never Land'! Far more likely is that this suffocating embrace between indebted euro zone governments and their living dead banks will simply ensure that when the day of reckoning comes, when the bond markets finally say "No more money," the pain will be that much greater.