And Italy is looking bad

Reuters this morning described the economic growth, cutting programmes, loan repayments and asset sales facing Greece as ‘a Herculean task’. S&P seems to agree: the ratings agency has in the last two hours told the media, “”It is our view that each of the two financing options described in the (French banks’) proposal would likely amount to a default under our criteria.” As The Slog opined last week, it is also an offence under EU banking law: but political denial knows no boundaries and recognises no laws.

European politicians and bankers had expressed confidence last week that the French proposal would not trigger a default, but ratings agency Standard & Poor’s said it would involve losses to debt holders, thus earning Greece a “selective default” rating. All of this is somewhat academic because the lending sector is already treating Greece as a default anyway.

This development is absolutely crucial, and another reminder of the inevitability of formal Greek default: the euro was built on the assumption that no country in it would ever default, and as a result there is no precedent and, more important still, no mechanism for what is about to happen.

All this makes a nonsense of the Troika/Merkel/French banks ‘strategy’, but Luxembourg’s Prime Minister seems determined to stir the pot some more. A warning from Eurogroup chairman Jean-Claude Juncker that Greece must “lose sovereignty and jobs to meet these criteria” has enraged Greek trade unions. Public sector union ADEDY, which has launched crippling strikes and protests, reacted angrily to his comments. Its President Spyros Papaspyros said Juncker was being inflammatory. “Mr Juncker interferes in the internal affairs of a country, provokes European rules and is an embarrassment for the country whose government tolerates him,” said Papaspyros.

But the elephant reserve in Brussels has always been the certainty of more Clubmeds going the same way. As I’ve suggested for several months now, the dark horse of Italy is galloping over the horizon.

The Italian government’s forecast of 1.5+% growth in 2013 and 2014 “will raise some eyebrows,” said Marcel Alexandrovich, an economist at Jefferies International. And although government bonds responded well to the austerity package announced last Thursday, Standard & Poor’s reiterated its negative outlook on the country’s €1.8 trillion in sovereign debt. Weak economic growth prospects translate into “substantial downside risks” for efforts to reduce public debt, currently almost 120% of GDP, credit analyst Eileen Zhang said.

The reason for pessimism about Italy’s unrealistic growth forecasts is the clear existence of fundamental economic indicators signalling major problems ahead. Unemployment rose in May, and a key manufacturing survey showed contraction in June. Meanwhile, the €47 billion in fiscal savings the government revealed last week cast a shadow over growth prospects.

“It’s like a dog chasing its tail,” said Mario Baldassarri, a former vice minister of the Treasury. The government’s fiscal plan may “put a brake on growth, which in turn will mean other fiscal shortfalls and more deficits,” he warned. This is, of course, if you believe the cuts data anyway: given that credit contacts known to The Slog don’t, I’m not sure I do either.

It may all seem like just another episode of the comedy known as The Sprouts That Number 27, but Greece’s Herculean task is the EU’s Achilles heel. It has a central bank, twenty odd private banks and two dominant governments at war with every combination of the combatants – and an insurance policy big enough to drown Wall Street. The debt forgiveness being kicked down the road will require increasingly forgiving lenders with every month that passes. Left for too much longer, it will kill those lenders with an injudicious mixture of two poisons: bad debt, and called-in credit derivatives.

Crash 2 is rapidly moving on to the next Mediterranean stage: uncontrollable citizen revolt alongside falling bank dominoes.

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