The Eurozone Sovereign Debt Crisis
Henry C.K. Liu
Part I: The Eurozone Sovereign Debt Crisis
Part II: The Role of the IMF/ECB/EC Troika
Part III: Supranational Globalization vs Nation State Sovereignty
Part IV: Need for an Orderly Withdrawal Mechanism from the Euro and the Eurozone

Part V: EU Treaty Reform
The conditional agreement reached by Germany and France on Monday, December 5, 2011 on reform of the Lisbon Treaty of late 2009 that governs the constitutional basis of the European Union (EU) was hailed as good news in the press which had been desperately waiting for positive news. The agreement proposes changing the inter-government structure of the Lisbon Treaty toward supranationalism that diminishes the national sovereign authority of member states in the union on the issue of fiscal policy.
If the German-Franco proposal of treaty reform is accepted without changes by all the other 25 sovereign governments of the 27-member European Union (EU), whose support is needed to modify the Lisbon Treaty that had entered into force on December 1, 2009, the supranational European Commission (Ecom) would be given new powers to impose fiscal austerity measures on 17 eurozone member states and also all those non-euro in the EU that deviate from the fiscal criteria set by the Stability and Growth Pact (SGP).
The SGP had been introduced in 1997 as a Protocol of the Maastricht Treaty of 1992 to preempt subsequent need of fiscally undisciplined eurozone sovereign states for bailouts by supranational EU facilities in the framework of intergovernment agreement. Giving the supranational Ecom power to impose fiscal regimes on eurozone member states in financial difficulty will dilute the target countries’ national sovereignty over fiscal policy.
Germany and France Were First to Breach SGP Criteria to Stimulate Growth
The irony is that by 2003, three years after the euro became common currency for the 17 countries in the eurozone, Germany and France, the two largest economies, had been the first countries in the eurozone to violate SGP criteria. Germany had been insisting on reforming SGP criteria to ease limits on national fiscal policy in the eurozone and the EU.
The reason many eurozone governments readily supported the German request for less strict fiscal limits was understandable: SGP criteria depressed growth; and fiscal prudence would cause European economies to fall behind those in the US, UK and Japan, not to mention the BRIC (Brazil, Russia, India, China) economies which had been growing at 10% annually. Such growth could only come from government deficit spending to stimulate the economy by accumulating more sovereign debt. And expansion of sovereign debt from deficit spending would be benign because the GDP would grow to keep the ratio of sovereign debt to GDP constant.
Germany and France Lobbied for SGP Reform in 2005
With several eurozone national economies failing to keep to SGP criteria in the initial years after the limits came into force in 1997, Germany and France lobbied for SGP reform in 2005 to allow eurozone member states more flexibility needed for counter-cyclical fiscal policy. Given the relatively poor record in economic performance of the eurozone’s centralized monetary policy, the failure of the original rigid SGP criteria to simulate growth attracted broad criticism. There was much sympathy to the German-Franco view of the need to reform the SGP.
The Maastricht Treaty of 1992 set mandatory centralized monetary and fiscal rules for member states of the Economic and Monetary Union (EMU): low inflation, low interest rates and controlled public debt and government spending, notwithstanding that many elements of these criteria contradict one another, such as low interest rates and low inflation, as a matter of economic logic.
The SGP, agreed to in 1997, required uniform fiscal rules be applied along with the launching of the euro as a common currency for eurozone economies on January 1, 1999. All EU member governments have since been required to keep within SGP criteria: fiscal deficit not over 3% of GDP, public debt not over 60% of GDP and inflation rate of not more than
1.5 percentage points higher than the average of the three best performing (lowest inflation) member states of the EU.
For non-euro EU member states such as Britain, SGP criteria also applied but their governments were not subject to SGP penalties. Since 1999, the only SGP criteria that eurozone governments managed to meet was keeping inflation rate low and this achievement was made possible by recession rather than government policy.
How SGP Works
The original SGP required all countries in the eurozone to aim at keeping their annual budget deficit below 3% of GDP, total public debt below 60% of GDP and inflation rate of not more than 1.5 percentage points higher than the average of the three best performing (lowest inflation) member states of the EU. If a member state broke the rules, it had to take measures to restore good standing by reducing its fiscal deficit, paying down it sovereign debt and reducing domestic inflation, albeit that the problem of how to fight inflation without monetary authority to raise interest rates was left unspecified. If a member government broke SGP rules in three consecutive years, the Ecom could impose a fine of up to 0.5% of GDP.
The SGP was not effective in preventing eurozone government deficits from exceeding the 3% of GDP threshold.  By 2003 France, Germany, Italy, Portugal, and Greece had all violated SGP criteria, and the Netherlands joined the list by 2004.
European Council Modified SGP Criteria
In March 2005, at the urging of Germany and France, the European Council agreed to reform SGP criteria. On the surface, the reform kept unchanged the key quantitative criteria on fiscal deficits, sovereign debt and low inflation, but the small print of the reform contained a list of exemptions for types of spending that would not be counted as part of the fiscal deficit or public debt. This list included government spending on education, research, defense, aid and spending associated with ‘the unification of Europe’. However, the reforms of 2005 have been criticized and at the height of the global financial crisis in 2008 and during the ensuing recession, there were calls for the EU to do more to penalize states with fiscal deficits that could not be sustained by government revenue in the long run.
All Eurozone Governments violated SGP Criteria by 2006
In 2006,
at the height of world-wide credit bubble, a year before the global financial crisis began in New York in mid July 2007, Germany’s sovereign debt reached 66.8% of GDP and Greece’s was over 100%. In 2010, Germany’s sovereign debt reached over 78%; Greece’s reached over 120%, and  France’s sovereign debt reached over 80.3% of GDP, its highest ever level since the beginning of the euro regime in 1999. Sovereign debt of eurozone governments continued to rise until the crisis hit in 2008.
Arguments For SGP and Reform
The arguments for keeping the SGP and reforming it are many. SGP helps eurozone countries commit to the common currency and to keep the euro as a strong currency. The exemptions proposed in 2005 by Germany and France would make SGP criteria more flexible and allow member governments to adopt counter-cyclical deficit spending as stimulant for continuing economic growth. SGP relieves cyclical political pressure on politicians and  can be a technical shield against domestic political attacks to allow them to adopt long-term policies of stability and sustainable growth with less short-term political cost.

Augments Against SGP

While the initial SGP criteria were too rigid, the reformed version has so many exemptions that it is in fact difficult for member governments to breach the new criteria.  By failing to impose penalties on Germany and France for violating SGP criteria since 2005, the European Commission has shown that there are no unbreakable SGP rules on government fiscal deficits or sovereign debt in the eurozone. The reformed criteria do not provide real solutions on counter-cyclical fiscal needs, and they encourage creative accounting through the use of special purpose vehicles to hide true levels of sovereign debt. The new criteria also fail to allow for deficit capital spending with a balanced current account.
When government budget promises disbursements that regularly exceed its tax receipts even in the boom phase of a business cycle fuel by debt, then the government, even under normal circumstances, will incur a budget deficit that will accumulate more sovereign debt that will implode in the next down phase in the cycle.
Europe’s Fiscal Deficit Bias
A fiscal deficit bias has structural in European government finance since the mid-1970s when fiscal deficit levels for most European countries began to grow. The fiscal deficit bias was due to ineffective and insufficient revenue collection in balance with high government obligation that has become a permanent feature of European democratic politics.
Most European tax regimes have a narrow tax base constructed on a historical principle of using taxation as a means of equalizing income and wealth. There are relatively few people who pay taxes because taxable income threshold is set too high, and tax exemptions are too liberal. The middle class whose members pay taxes demand their tax money be spent on social services on and subsidies for them. The average tax payer gets more social services and benefits than their tax payments could buy.
Most European tax regimes have very high graduated marginal tax rates (the tax rate increases with increased income or profit), leaving high tax bills for those with high income or profit. This tends to lower total tax collection because of a marginal disincentive to maximize income from work, and to encourage pervasive tax avoidance and even evasion. In order to avoid paying high taxes, many taxpayers devote enormous time and energy to hiding their taxable  income from tax collectors, raising the tax burden of those who actually pay. High income taxpayers routinely seek cross-border tax arbitrage to relocate income and assets to lower tax locations.
Europe’s Long History of Moving Toward Equality Reversed
Also, Europe has a long history of government spending on welfare state obligations and equalitarian wealth redistribution. In contrast to the US, many European nations over the course of their history of moving from feudalism to capitalism have been moving from extreme disparity of income and wealth toward equality until recent recent decades during which disparity of income and wealth was allowed to increased in the name of competitiveness in global markets.
US Founding Principle of Equality Reversed
In contrast, equality of income and wealth had been a founding democratic principle of the US, yet over history, disparity of income and wealth had gradually been allowed to increase after special interest groups captured government through the peculiar politics of representative democracy in a costly electoral process that favors the rich despite repeated populist upsurges against excessive disparity of income and wealth after every recurring financial crisis, the burden for which invariably was placed predominantly on the backs of the poor and the middle class. (Please see my articles in the March 2008 series: US Populism: Part I: The Legacy of Free Market Capitalism and Part II: Long-term Effect of the Civil War)
Domestic Social Programs Challenged by the Need for National Competitiveness
Most European countries provide free public health care services to their citizens covering basic medical needs while the US, the richest nation in the world, continue to debate about the validity of universal health care insurance and to celebrate the merits of private education under the hypercritical banner of individual freedom of choice.
Most European governments own and operate large companies in key sectors that have been nationalized to save them from bankruptcy and to keep them afloat with heavy government subsidies. In many European economies, the government heavily subsidizes key industries, specifically agriculture, and provide very liberal unemployment assistance and social security benefits for their citizens. And because of global cross-border wage arbitrage having pushed down wages in most economies engaged in world trade, many workers in Europe have been pushed into government welfare trap to compensate for the disappearance of living wages, similar to other parts of the worlds except that in Europe, welfare programs ae generally more liberal that adds to government fiscal imbalance.
SGP Intended for Preventing Moral Hazard from Infesting Governments
Legislation that limits the size government fiscal deficits to 3% of GDP in countries in the European Monetary Union (EMU) was put in place by the Maastricht Treaty of 1992 to prevent fiscal moral hazard from infecting member governments in the monetary union, as well as to enforce monetary stability and to reduce the deficit bias. If a eurozone member government violates the deficit to GDP ratio put in place by the SGP, it could face a series of fines from the supranational European Commission (Ecom) based on inter-government agreement. Under intense pressure from the offending member states, led by Germany and France, SGP penalties were suspended in 2003 and no fines were issued since for excessive deficits. SGP then became a watchdog with no teeth.
In 2005 a reformed SGP was adopted with new criteria that allowed fiscal deficits to be temporarily larger than the 3% of GDP deficit threshold calculated on an annual basis as long as medium term average stays within the 3% limit. The focus of SGP then turned toward medium-term budgetary objectives.
Fiscal Deficit Made Structurally Necessary by Loss of Sovereignty Over Monetary Policy
Fiscal deficit has been identified as one of the main causes of and its elimination as one of the main solutions to the European sovereign debt crisis denominate in a common currency the monetary policy of which has been voluntarily surrendered by eurozone sovereign states to the supranational European Central Bank (ECB). This means the fiscal discipline of eurozone governments on which the soundness of the common currency depends, must also be imposed by a supranational authority. This is the logic of the German push for supranational authority over eurozone and even EU member states.
Germany and Britain Battle Over Free Financial Markets in the EU
The fiscal problem created by the centralized monetary policy of a common currency has led Germany to demand supranational authority over not only fiscal discipline for eurozone member states but also over the non-euro member states of the EU to replace the inter-government structure of the SGP with a supranational authority, in order to eliminate structural  competitive disadvantage in the same single market between economies with fiscal flexibility disparity. This is the main conflict between Germany and the UK, in that German economic and financial competitiveness would face a structural disadvantage if German fiscal flexibility is more rigid than that of the UK. It is the main reason behind the UK veto on the German proposal on treaty reform.
The treaty reform proposal by Germany is by design a serious challenge to national sovereignty of EU member states in that it seeks to deprive governments of sovereign countries of their fiscal policy independence and prerogative.  And for Britain, the loss of full sovereignty over fiscal policy and over associated liberal regulatory regime in the UK financial sector would threaten the supremacy of the City in London as a world financial center. If traders in the City are forbidden by supranational EU treaty laws to speculate on European sovereign debt to assert market discipline on the global sovereign debt sector, including that of the eurozone, the investment banking firms in the City would have to down size drastically, and the loss of tax revenue from it would cause fiscal problem for the British government.
Contagion Hitting Strong Core Economies in Eurozone
The countries that would have been affected immediately by treaty reform are in the periphery of the eurozone, such Greece, Ireland and Portugal, the so-called Club Med economies that are facing fiscal regimes of extreme austerity imposed by the governments of the stronger economies in the EU, the ECB and the IMF. Yet several core economies, such as those of Italy, Spain and France, and in a worst case scenario, even Germany could be in theory exposed to the same risk of impaired sovereignty, as will the 10 non-euro countries in the EU.
Different National Reasons Behind SGP Violations
After the launch of the euro in 1999, different countries in the eurozone for different national reasons had difficulty meeting the SGP criteria. For the weak economies, for whose economy the euro was an overvalued currency, government fiscal deficit beyond the SGP limit of 3% of GDP was needed to augment their stagnant economies suffering from a dysfunctional overvalued common currency.
At the same time, in the current world economic order of neoliberal globalized trade, growth could be stimulated only with sharp increases in the level of sovereign debt beyond the SGP limit of 60% of GDP. The current globalized neoliberal trade system requires trade competitiveness to be at the expense of domestic economic development through rising wage income. For the weak economies with below par domestic development, the excessive reliance on international trade as the sole venue of growth, denominated in an overvalued currency over which their governments cannot control, is particularly damaging.  Much of the socioeconomic problems faced by emerging economies, including China, can be traced a low wages in the export sector to keep it “competitive”. (Please see my September 2004 article: Liberating Sovereign Credit for Domestic Development)
SGP Criteria Hamper Trade Competitiveness
Before the global financial crisis hit Europe, even with SGP criteria violations, sovereign debt of even the weak economies in the eurozone found ready buyers in global credit markets due to high investor confidence in the euro as a eurozone common currency, which compensated for weakness in the national economies of several eurozone sovereign borrowers. Investors assumed that eurozone sovereign debt denominated in euro would ultimately be backed by the full faith and credit of the eurozone and all eurozone governments to protect the soundness of the euro as a common currency. Credit rating for the weak eurozone economies was lifted by the high credit ratings of the strong eurozone economies through the market's faith in the common currency.  For many years, the weak economies were getting a free ride on the credit ratings of the strong economies through their common currency.
SGP Criteria Hamper Domestic Growth
For the strong economies, such as Germany and France, SGP criteria handicapped their competitiveness in global financial markets against countries such as Britain, the US and Japan, and even the BRIC economies, all with more flexible fiscal policies than those set by the SGP. The petition to the European Council to relax the way SGP criteria are measured focused on compliance within a long wave rather than annually to allow eurozone governments the important and necessary option of using fiscal measures to optimized long-term growth. 
Supranational Institutions of the EU
The European Council (ECoun) is the the EU institution where the member states government representatives sit, i.e. the ministers of each member state with responsibility for a given area. When the Lisbon Treaty came in to force on December 1, 2009, the ECoun became  an institution of the European Union although its existence predates that of the EU. ECoun comprises the heads of state or government of EU member states, along with the President of the European Commission (Ecom), and the President of the European Council (ECoun).
Germany and France Ignored SGP Criteria by Policy
In 2003, the two largest economies in the eurozone, France and Germany, purposely exceeded SGP criteria as a matter of policy to compensate for monetary restriction associated with a centralized monetary regime of a common currency. It is a rational hydraulics of economic policy that given a rigid monetary policy, fiscal policy must compensate to protect the economy from stagnation.
European Commission Tolerance of German and French Violation of SGP
However, since the two countries with the largest economies in the eurozone could be expected to be able to maintain SGP fiscal targets on average over the long term beyond cyclical fluctuations, the European Commission (Ecom) allowed them counter-cyclical fiscal flexibility to enhance their competitiveness in global financial markets. And in so doing, all other eurozone countries also must  be allowed similar flexibility as required by treaty.
But no danger was perceived as the two largest economies were expected to keep the eurozone economy healthy enough to absorb the fiscal problems of the small economies to allow them to correct them at a pace that would not create political or social instability.
Strategy of Fiscal Flexibility Made Inoperative by US Subprime Mortgage Crisis
Tolerance for the the strong eurozone economies to adopt flexible fiscal standards was a reasonable strategy and was in fact the key advantage of a common currency. What eurozone policy-makers did not foresee, was the financial tsunami from across the Atlantic epicenter in New York that rendered the eurozone strategy of growth through debt inoperative.
Supranational Organization of the EU
The European Commission (Ecom) includes the institution itself and the College of Commissioners, which is composed of one commissioner from each of the 27 EU countries. The Ecom is the “guardian of the treaties” that created the European Union and the defender of the general interest of Europe, with the right of initiative in the lawmaking process to propose legislative acts for the European Parliament and the Council of the European Union to adopt.
The Council of the European Union (sometimes simply called the Council and sometimes still referred to as the Council of Ministers) is the institution in the legislature of the European Union (EU) representing the executives of member states, the other legislative body being the European Parliament. The Council is composed of 27 national ministers (one per nation state). The exact membership depends upon the topic; for example, when discussing agricultural policy the Council is formed by the 27 national ministers whose portfolio includes this policy area (with the related European Commissioner contributing but not voting).
The Presidency of the Council rotates every six months between the governments of EU member states, with the relevant minister of the respective country holding the Presidency at any given time ensuring the smooth running of the meetings and setting the daily agenda. The continuity between presidencies is provided by an arrangement under which three successive presidencies, known as Presidency trios, share common political programs.
SGP regulators underestimated the problem in a centralized fiscal regime for a eurozone comprising different national economies: that what is good for the goose is not necessarily good for the gender. The SGP’s one-size-fits-all criteria designed for the benefit of strong economies are not operational for the weak economies.
Effect of SGP Criteria Modification on Weak Economies in Eurozone Periphery
The result of the German-Franco SGP criteria modification in 2003 was that weak economies such as Greece and Portugal were able to take on high levels of sovereign debt denominated in a stable euro as a common currency in excess of the ability of their economies to assume even in the boom phases of business cycles.
Eurozone economies were made to appear robust from the benefits of a stable common currency while in reality these economies were only turbo-charged temporarily by unsustainable levels of sovereign debt denominated in a common currency the strength of which was derived not from the strength of the individual national economies of the sovereign borrowers but from the strength of eurozone economy as a whole.
And the euro is a currency over which these countries with weak economies have no monetary authority. Under the common currency regime, the free spending profligate governments were getting a free ride on the backs of the fiscally prudent governments to sustain the soundness of the common currency, albeit the ability to get the free ride had been handed to the weak economies by none other than Germany and France, the two strongest economies in the eurozone, for their own geo-economic reasons of increasing their own competitiveness in global financial markets.
Further, the emergence of globalized structured finance (securitization of debt which is hedged with derivatives) since the late 1990s, coupled with faulty financial advice from the likes of Goldman Sachs on creative ways to exploit globalized finance deregulation regimes, enabled governments of weak economies to take on high levels of sovereign debt in Special Purpose Vehicles (SPV) designed to hide liability from the balance sheets of their central banks and treasuries in order to float more sovereign debt in global credit markets and to draw loans from the European Central Bank (ECB).
The lax in supervision and enforcement of modified SGP criteria greatly weakened the effectiveness of the SGP as a supervisory-disciplanary body on national fiscal integrity in the eurozone.
In March 2005, the European Council (ECoun) agreed on a reformed SGP that legalized fiscal violations by introducing new flexible rules and liberal definition of terms. Even these reforms were further challenged as too strict in August 2007 by France when President Nicholas Sarkozy wanted to introduce new fiscal policies of deficit financing outside the SGP regime to ward off the effects of contagion on the French economy from the global consequences of the credit crisis that began in New York in Mid July.
US Urged Europe to Adopt Emergency Proactive Fiscal Deficit Policies in 2008
By 2008, urged by US political leaders and finance officials fearful of worldwide depression from the market meltdown that began in New York, EU member states had all adopted proactive fiscal deficit stimulant measures that violated SGP criteria in a frantic effort to deal with the global financial crisis caused by the bursting of the US debt bubble of runaway subprime home mortgages, and to following the US approach of emergency monetary and fiscal rescue measures to reverse a sudden and near fatal meltdown of global financial markets.
European Commission Warning on Eurozone Public Debt
In 2010, the European Commission (Ecom) warned that average public debt in the eurozone was approaching 84% of GDP and rising further by the month, breaching the 60% limit set by the SGP. The public debt growth trend was exacerbated by GDP shrinkage in the eurozone, pushing up the debt to GDP ratio sharply. The Ecom was particularly worried about levels of public debt in Portugal, Ireland, Italy, Greece, and Spain, the so-called PIIGS, and even France.
The Crisis in Greece
But Greece’s spiraling public debt presented the gravest immediate concern as short-term maturity dates of Greek government bonds were coming due at a time when the Greek government was having serious difficulties rolling them over or selling new bonds to retire maturing ones. And the Greek government has no euros in reserve to avoid defaulting the maturing bonds.
The Greek sovereign debt difficulties quickly affected market confidence in the euro, leading to market speculation on the ability of the common currency to survive without massive intervention from EU governments. The strategy of carrying high levels of sovereign debt with high growth suddenly became utopian, as the market could not see any prospect of a short recession. The eurozone was faced with a financial fire in Greece that could jeopardize the stability of the euro and even the eurozone without an effective firewall or fire trucks to extinguish the financial fire with fresh euros.
Marcus Walker of the Wall Street Journal reported from Heraklio, Greece that two years into the European sovereign debt crisis, suicides among the Greek people increased by 40% in the first five months of 2011 over same period in 2010, doubling to 6 per 100,000 persons, according to the Health Ministry of Greece.
While the bailout funds Greece had received to date have gone to enabling the government to pay the foreign creditor banks, the Greek people had to pay for it with severe and open-ended austerity. Greek GDP in Q2 2011 was down 7% form a year before, amid government spending cuts and tax increases that equaled 20%% of GDP. Unemployment reaches 16%, crime, homelessness, emigration and personal bankruptcy are on the rise.
The decline in GDP increased the debt to GDP ration, making Greek sovereign debt credit rating fall further.  The Greek people are paying for the failure of the grand plan to unite Europe through a common currency called the euro.
The downward spiral of the economies in the eurozone, particularly that of Greece, is not expected to reverse anytime soon. The Greek people simply cannot and will not silently suffer the rising financial pain for a decade or more that is generally expected before the Greek economy can complete the process of de-leveraging from debt capitalism before life can return to normal to the way it was before the crisis. Both Greece and Italy are now run by technocrats appointed for their technical skill to appease foreign creditor banks rather than elected by the people who have confidence in their ability to protect the people's interest. These technocrats while applauded by foreign creditor banks, command no loyalty from those they have been appointed to govern.
The Legal Concept of Lender Liability
Its time for the people of Greece to demand the passage of a law based on the legal concept of lender liability that applies to the multinational banks that lent Greece more money than the country could possible afford. 
I have proposed that highly indebted countries (HIC) in the Third World should apply the legal concept of lender liability to their predatory bank lenders who pushed big loan denominated in petro-dollars on developing Third World governments whose economies  were obvious unable to afford or absorb them. The concept should also be applied to the US home mortgage crisis ((Please see my September 14, 2002 article: Perils of a Debt-Propelled Economy) 
Ron Paul, the Republican congressman from Texas, and now a presidential candidate, told Federal Reserve chairman Ben Bernanke in a congressional hearing hearing that the Federal Reserve is operating as a “predatory lender”. But he did not mention that by law, predatory lenders forfeit any right of collection.

In the United States, although predatory lending is not defined by federal law, and various states define abusive lending differently, predatory lending usually involves practices that strip equity away from a home-owing borrower, or equity from a corporate borrower, or that condemn the debtor into perpetual indenture.

Predatory or abusive lending practices can include making a loan to a borrower without regard to the borrower's ability to repay, repeatedly refinancing a loan within a short period of time and charging high points and fees with each refinance, charging excessive rates and fees to a borrower who qualifies for lower rates and/or fees offered by the lender, or imposing new unjustifiably harsh terms for rolling over existing debt.

Perdition breaks the links between an economy's aggregate resource endowment and aggregate consumption and between the interpersonal distribution of endowments and the interpersonal distribution of consumption.

The choice by some to be predators decreases aggregate consumption, both because the predators' resources are wasted and because producers sacrifice production by allocating resources to guarding against predators. Much of welfare economics is based on the concept of pareto optimum, which asserts that resources are optimally distributed when an individual cannot move into a better position without putting someone else into a worse position. In an unjust global society, the pareto optimum will perpetuate injustice.

Why is the legal concept of lender liability not applied to stop foreclosure of homes with young children? In the US, lender liability is embodied in common and statutory law covering a broad spectrum of claims surrounding predatory lending. If a lender knowingly lends to a borrower who is obviously unable to make reasonable beneficial gain from the use of the funds, or causes the borrower to assume responsibilities that are obviously beyond the borrower's capacity to manage, the lender not only risks losing the loan without recourse, but is also liable for the financial damage to the borrower caused by such loans.

For example, if a bank lends to a trust client who is a minor, or someone who had no business experience, to start a risky business that resulted in the loss not only of the loan but also the client trust account, the bank may well be required by the court to make whole the client.

The argument for home mortgage debt forgiveness contains large measures of concepts of lender liability and predatory lending. Debt securitization allows predatory bankers to pass the risk to global credit markets, socializing the potential damage after skimming off the privatized profits.

The housing bubble has been created largely by predatory lending without any lender liability. The argument for forgiving defaulted home mortgage debt is applicable to low- and moderate-income home mortgage borrowers in the US as well.
Lender liability is embodied in common and statutory law covering a broad spectrum of claims surrounding predatory lending. It is a key concept in environmental cleanup litigation.
Now, there is also a close parallel in most Third World sovereign debts and International Monetary Fund (IMF) rescue packages to the above perdition examples where sophisticated international bankers knowingly lend to dubious schemes in developing economies merely to get their fees and high interest, knowing that “countries don’t go bankrupt”, as Walter Wriston of Citibank famously proclaimed to rationalize his aggressive lending of petrol dollars to Third World economies. The argument for Third World debt forgiveness contains large measures of lender liability and predatory lending. Debt securitization allows these bankers to pass the risk to the credit markets, socializing the potential damage after skimming off the privatized profits.
Paying Down Debt with Debt is Just a Ponzi Scheme

Credit is reserved financial resources ready for deployment. Debt basically is unearned money secured with a promise to repay the principal sum plus interest with optimistically anticipated earned money in the future, assuming, for example, that the borrower will not become unemployed through no fault of his own or a business will not be adversely affect by unanticipated shifts in business paradigm, or an economy will not be destroyed by global financial contagion.

Paying down debt with new debt is a Ponzi scheme - the likelihood of its exposure is inversely proportional to its scale of operation. More and more critics are calling the Enron debacle a Ponzi scheme, in that the company filed for bankruptcy even though, for almost a decade up to a few weeks before its bankruptcy filing, many in high places were hailing Enron as the new innovative business model.
Krugman’s Enron “Love Letter to Free Markets”

Neoliberal economist Paul Krugman publicly hailed Enron as a shining example of free market entrepreneurship in what he called "a love letter to free markets". He served on its prestigious advisory board for a annual fee of US$50,000. Neoconservative Weekly Standard editor Bill Kristol received $100,000 from the same Enron advisory board, while contributing editor Irwin Stelzer praised Enron for “leading the fight for competition”.

Greenspan Won the Enron Prize Weeks before Eron Filed Bankruptcy Protection

On November 13, 2001, two weeks before Enron filed bankruptcy on December 2, the Baker Institute honored Alan Greenspan, Chairman of the Federal Reserve Board of Governors, with its Enron Prize, which the official press release said “gives recognition to outstanding individuals for their contributions to public service. The prize is made possible by a generous gift from the Enron Corp ... one of the world's leading electricity, natural-gas and communications companies. Among the previous recipients of the Enron Prize are Colin Powell, current US secretary of state; Mikhail Gorbachev, former president of the Soviet Union; Nelson Mandela, the first black president of South Africa; and Georgian President Eduard Shevardnadze.”  
Emergency EU Summit of 2010
At an emergency EU Summit in February 2010, EU leaders pledged firm commitment to maintaining the soundness of the euro as a common currency for the eurozone. It became evident that despite government promise of tough austerity fiscal measures that already caused social unrest and violent demonstations, Greece would need much stronger financial backing from the EU to avoid imminent sovereign default on some of its maturing debt.
Creation of ESM and EFSF
On May 2, 2010, eurozone member states and the International Monetary Fund (IMF) announced their agreement to create a European Stabilization Mechanism (ESM) – that would operated a fund to be known as the European Finance Stability Fund (EFSF) structured as a Special Purpose Vehicle (SPV) to raise funds in financial markets to issue low-interest loans to eurozone governments in financial distress to avoid sovereign default. The EFSF will be operational until 2013 unless extended.
The eurozone countries provided €80 billion to the EFSF, with a further €30 billion from the IMF. In a move to restore market confidence in the euro, EFSF low interest loans was made available to all Eurozone members. Greece withdrew the first loan on May 18, 2010.
The EFSF was created by eurozone member states following the decisions taken on May 9, 2010 within the framework of the Economic and Financial Affairs Council (Ecofin Council).
The Ecofin Council
The Ecofin Council, together with the Agriculture Council and the General Affairs Council, is one of the oldest configurations of the European Council. It is composed of the economic and finance ministers of EU member states, as well as budget ministers when budgetary issues are discussed. It meets once a month.
The Ecofin Council covers EU policy in a number of areas including: economic policy coordination, economic surveillance, monitoring of member states' budgetary policy and public finances, the euro (legal, practical and international aspects), financial markets and capital movements and economic relations with third countries. It decides mainly by qualified majority, in consultation or codecision with the European Parliament, with the exception of fiscal matters which are decided by unanimity.
The Ecofin Council also prepares and adopts every year, together with the European Parliament, the budget of the European Union which is about €100 billion. The Eurogroup of the Ecofin Council, composed of the member states whose currency is the euro, meets normally the day before the Ecofin Council meeting and deals with issues relating to the Economic and Monetary Union (EMU).
The EMU is an informal body which is not a configuration of the Ecofin Council since at the time of its configuration, the euro was a stable currency that required little monitoring. When the Ecofin Council examines dossiers related to the euro and EMU, the representatives of the member states whose currency is not the euro do not take part in the vote of the Council.
ESM Adopted by European Council based on the Lisbon Treaty
On May 9 2010, the European Council adopted a European Stability Mechanism
(ESM) to preserve financial stability in Europe. The ESM is based on Art. 122.2 of the Lisbon Treaty of late 2009 and an inter-governmental agreement of eurozone member states, not a supranational body. Earlier, the Ecom held an extraordinary meeting to adopt its proposal for a Regulation under Article 122.
This ESM will grant financial assistance to a member state of the EU in difficulties or seriously threatened with severe difficulties caused by exceptional occurrences beyond its control. This financial assistance shall take the form of a loan or of a credit line granted to the member state concerned.
EFSF as a SPV Established By Inter-govenment Agreement
Within the framework of the ESM, the Ecom is allowed via the facility created under Article 122 of the Lisbon Treaty to contract borrowings in the capital markets or with financial institutions on behalf of the European Union. This approach to providing financial assistance is inspired by the existing Medium-Term Financing Facility (the Balance of Payments facility).
This particular lending arrangement implies that there is no debt-servicing cost for the European Union. All interest and loan principal is repaid by the beneficiary member state via the Ecom. In addition, the ESM envisages possible financial assistance to a euro-area member state via a special purpose vehicle (SPV) called European Financial Stability Fund (EFSF), which will be established by inter-governmental agreement among all euro-area member States.
Balance-of-Payments Assistance
The EU can provide mutual assistance to non-eurozone member states when a member state is in difficulties or is seriously threatened with difficulties as regards its balance of payments. Balance-of-payments (BoP) assistance is designed to ease a country's external financing constraints. This can take the form of medium-term financial assistance.

Although the framework of medium-term financial assistance allows providing loans solely by the EU, in recent practice the assistance has usually been extended in co-operation with IMF and other international institutions or countries.

Legal basis of BoP Assistance
The possibility of granting mutual assistance to a member state with difficulties as regards its balance of payments is laid down in Article 143 of the Treaty. The facility to provide medium-term financial assistance has been established by Council Regulation (EC) No 332/2002.
How BoP Assistance Works
Step 1: Member state request BoP Assistance and Council decision
The member state in fiscal difficulties addresses itself to the European Commission (Ecom) and other member states, when seeking medium-term financial assistance. The member state in need presents a draft adjustment program designed to achieve a sustainable balance of payments position - in support of its application. The request, backed by the adjustment program, is discussed within the relevant EU bodies and, if applicable, with other creditors.

When it is considered that a member state is in financial difficulty or is seriously threatened with financial difficulties as regards its balance of payments, the European Council, based on a recommendation by the Ecom, makes a decision whether to grant mutual assistance.

When it is considered that this should take a form of medium-term financial assistance, the European Council decides (usually in the course of the same meeting), on the basis of an Ecom proposal and following an examination of the draft adjustment program presented by the member state concerned:
  • whether to grant a loan or appropriate financing facility, its amount and average duration (normally about five years), as well as technicalities for disbursing the loan or financing facility;
  • the economic policy conditions attached to the medium-term assistance.
2. Memorandum of Understanding and Loan Agreement
On the basis of these decisions, the Commission and the Member State concerned conclude a Memorandum of Understanding (MoU) and the Loan Agreement. The MoU specifies economic policy conditions that the Commission, in collaboration with the Economic and Financial Committee and other program partners, in particular the IMF, shall verify prior to a decision on the release of any further installment. The Loan Agreement includes the technicalities of the borrowing process and the detailed financial conditions of the loan.
Economic policy conditions usually involve an agreed path of fiscal consolidation, governance measures (for example, reform of taxation and tighter spending controls at all levels of government), as well as financial sector stabilization measures (for example, additional banking regulatory requirements) and structural reform measures to improve business environment and support growth (for example, increasing administrative capacity to absorb EU funds more effectively). In addition, conditions are included regarding safeguards against fraud. This is particularly important given that the default risk of these loans is ultimately borne by the Member States.
3. Disbursement and Regular Review
Following signature of the MoU and the Loan Agreement, and a request for disbursement by the national authorities, fund-raising on international markets takes place and first payment tranche is released. Subsequent installments of the loan are released once the EU institutions have assessed the member state’s compliance with the program conditions. Reviews are undertaken at regular intervals to ensure that the economic policies of the member state receiving Community loan comply with the adjustment program and the previously agreed conditions. Changing economic environment can necessitate modifications and amendments to previously adopted documents.
Financing Aspects of BoP Assistance
The funds to be extended to member states experiencing external financing constraints are raised by the European Commission (Ecom) on behalf of the EU on international financial markets. For each program there is a planned disbursement schedule attached, which is agreed by all program partners and corresponds to the estimated financing need of the country. The schedule is subject to modification to be consistent with developments under the program.
‘AAA’ loan rates obtained by the EU on international financial markets at the moment of fund-raising are passed on to the member states in need without adding any additional margin. They are among the most favorable rates available globally. For comparison, IMF’s market-related interest rate, known as the “rate of charge”, is based on the SDR interest rate and includes a margin; additional surcharges are applied on high, in relation to the country's quota, levels of outstanding credit.
The total outstanding amount of loans to be granted to member states under the medium-term financial assistance facility is limited to €50 billion in principal. The maximum amount has been increased in response to the financial crisis, to €25 billion in December 2008 and further to €50 billion in May 2009 (from €12 billion before).
The ECom has agreed to propose an increase to €50 billion in the overall ceiling of a loan facility to help non-euro area countries in the European Union cope with balance-of-payments difficulties. The present ceiling was increased by EU finance ministers already in December 2010 to €25 billion, but the scope and intensity of the international financial crisis calls for another pre-emptive increase and to show solidarity with countries that do not yet benefit from the protective umbrella of the euro.
On March 25, 2008, Joaquín Almunia, European Economic and MonetaryAffairs Commissioner, said: “This shows that the EU solidarity mechanisms exist and can be made ever more powerful at short notice to the benefit of its most vulnerable members. Thanks to the balance-of-payments assistance facility that is already being used for three countries, the considerable transfers under the powerful EU structural funds and other financial instruments and institutions, our member states should be able to withstand the pressures brought about by the economic crisis provided they contribute with stable and sound macro-economic policies.”
The support will be provided in conjunction with the International Monetary Fund (€13 billion) and the World Bank (€1 billion). The European Bank of Reconstruction and Development and other multilateral creditors will jointly provide a total of €1 billion, bringing the total to up to € 20 billion over the period to the first quarter of 2011.
The financial assistance will be conditional on the implementation of a comprehensive economic policy program. The financial assistance and the policy program are designed to enable the economy to withstand short-term liquidity pressures while improving competitiveness and supporting an orderly correction of imbalances in the medium term, hence bringing the economy back on a sound and sustainable footing.
In the financial sector, the program would seek to ensure adequate capitalization of banks and to strengthen financial sector supervision, including banking and liquidation/bankruptcy  laws. The deposit guarantee scheme would be further bolstered.
A sound management of the funds received is expected with a strong role for independent and well functioning auditing and anti-corruption institutions.
A key element of the economic policy package is an immediate and sustained fiscal consolidation to limit the budget deficit to 5.1% of GDP in 2009, falling further to below 3% of GDP in 2011. To support these targets, measures will be taken to improve budgetary policy credibility and predictability, as also requested by the June 2008 Commission Policy Advice to Romania.
The economic policy conditionality will be set in a forthcoming Council decision and further spelled out in a Memorandum of Understanding to be concluded shortly with the Romanian authorities. The agreed measures and targets will also be reflected in the forthcoming Convergence Program update. The Commission in collaboration with the Economic and Financial Committee will monitor regularly and closely that the economic policy conditions attached to the financial assistance are fully implemented and may request additional measures when and if circumstances so require.
We also urge the financial institutions operating in Romania to continue providing adequate funding of their operations there as well as appropriate financing of the economy. In this context we would very much welcome the confirmation of the long-term commitment of foreign parent banks to Romania and to support their subsidiaries in the country.
EU Assistance Will Take Form of a BoP Loan
The proposed medium-term financial assistance to Romania will be based on a Council Decision based on a Commission recommendation to grant this assistance. Such support is provided under Council Regulation 332/2002 establishing a facility providing medium-term financial assistance for non-euro area EU Member States' balance of payments (BoP). The Commission is expected to adopt this recommendation for a Council Decision in the coming weeks. Following the Council Decision, the Memorandum of Understanding, which spells out the precise policy conditions, as well as the loan agreement, will be agreed between the European Commission and the Romanian authorities.
This support comes on top of the increase in advance payments of structural funds from €0.5 billion to €0.8 billion for 2009, as part of the European Economic Recovery Package. Romania is also likely to benefit from the significant increase of the EIB resources.
The EU also agreed to grant a BoP loan to Hungary of €6.5 billion and to Latvia of €3.1 billion and an additional €2.2 billion is committed to Latvia by some individual Member States. On a proposal by the Commission, the Council decided to increase early December 2008 the overall financial assistance ceiling to €25 billion from an original €12 billion (see IP/08/1612). The European Council of 23 March 2009 has welcomed the suggestion by the Commission to double the BoP facility to €50 billion.
In order to be able to react quickly to potential demand for financial assistance from EU countries outside the euro area, the ECom proposes to increase to €50 billion the ceiling set in Regulation 332/2002 establishing a facility providing medium-term financial assistance for member states’ balances of payments. The present ceiling, revised in early December 2008, was €25 billion.
The proposal follows the call by EU heads of government at the March 2010 Summit for a doubling of the ceiling. The revised regulation needs to be adopted by EU finance ministers, which is expected to happen at their May 4, 2010 meeting, following consultation with the European Parliament and the European Central Bank.
Two countries presently benefit of medium-term Balanceofpayments loans are Hungary with up to €6.5 billion and Latvia with up to €3.1 billion (see IP/08/1612, IP/08/2045 and IP/09/323). Following a request by Romania, the ECom also recently announced, after consulting with the Economic and Financial Committee, its intention to provide up to €5 billion to the Romanian authorities up to the first quarter of 2009 (see IP/09/475). A formal proposal to the European Council is expected later this month.
This leaves a total of €10.4 billion available under the present ceiling. There are no other requests at present.
Drawing on the recent experience with the medium-term financial assistance, the Commission also proposes some amendments with a view to clarifying the respective tasks and responsibilities of the European  Commission (ECom) and of the member state concerned, and to spell out some technical details. These cover for instance the conclusion of a MoU between the ECom and the member state concerned detailing the conditions approved by the European Council or the possibility for the Court of Auditors to carry out audits.
The adopted ECom proposal is available at the web site of the Commission's Directorate General for Economic and Financial Affairs at:
An instrument to grant mutual assistance to an EU country in difficulty or threatened with difficulties as regards its balance of payments was first created in 1988 (Regulation 1969/88, Official Journal L 178) The EU countries that have already adopted the euro do not qualify for medium-term financial assistance .But the regulation was kept and modified in 2002 (Regulation 332/2002, OJ L53) to meet the potential needs of other EU countries until they too adopt the euro. The ceiling was then set at €12 billion.
The assistance is financed through the recourse to the capital markets, using the creditworthiness of the European Community, the EU’s legal entity. The European Community benefits from the unconditional support of all the member states. The money is lent under the same conditions under which it was borrowed (so-called back-to-back loans).
The assistance is granted in several installments, according to a Loan Agreement that also sets the maturity, interest, modalities of disbursement and repayment...etc). The release of the installments is conditional on terms agreed with the beneficiary country in a Memorandum of Understanding. See following web site for MoUs with Hungary and Latvia and other documents related with the economic and financial crisis:
The European Community has carried out three euro bond issues since last year to finance a first installment of €2 billion for Hungary (disbursed early December 2008), a second installment also to Hungary and also of €2 billion (disbursed late March) as well as a first installment of €1 billion to Latvia (paid in February). The last issue, placed on 17 March and due on November 7, 2014 (5-year maturity), was priced 3.25%.
The balance-of-payments assistance is generally granted in conjunction with the International Monetary Fund and the budgetary and macro-economic conditions are also coordinated with the IMF and other international institutions.
A European Community facility providing medium-term financial assistance is established, enabling loans to be granted to one or more member states experiencing difficulties in their balance of payments on current or capital account. Only those member states that have not adopted the euro may benefit from this facility. The outstanding amount of loans to be granted to member states under this facility is limited to 50 billion.
To this end, the European Commission (Ecom) is empowered, on behalf of the European Community, to contract loans on the capital markets or with financial institutions.
If member states which have not adopted the euro call upon sources of financing outside the European Community which are subject to economic policy conditions, they must first consult the ECom and the other member states in order to examine the possibilities available under the European Community medium-term financial assistance facility. Such consultations will be held within the Economic and Financial Committee.
The facility may be implemented by the European Council on the initiative of either the ECom (pursuant to Article 119 of the Treaty establishing the European Community), in agreement with the member state concerned, or a member state experiencing difficulties.
To obtain financial support in the medium term, the member state will carry out a needs assessment with the ECom and present to the ECom and the Economic and Financial Committee an adjustment program. After examining the situation in the member state seeking assistance, the European Council decides:
  • whether to grant a loan or appropriate financing facility, its amount and its average duration;
  • the economic policy conditions attached to the medium-term financial assistance with a view to re-establishing a sustainable balance of payments situation;
  • the techniques for disbursing the loan or financing facility, the release or drawings of which are, as a rule, by successive installments.
The ECom and the member state concerned will then conclude a Memorandum of Understanding which details the conditions set by the European Council. The Memorandum is then sent to the European Parliament and the European Council.
In cases where restrictions on capital movements are introduced or reintroduced (Article 120 of the EC Treaty) during the period of the financial assistance, the conditions and arrangements governing financial assistance are re-examined.
At regular intervals, the ECom, in conjunction with the Economic and Financial Committee, verifies that the economic policy of the member state receiving assistance accords with the commitments laid down in the adjustment program or any other conditions. The member state will make all the necessary information available to the ECom and cooperate fully with them. The release of further installments depends on the findings of such verification.
Loans granted as medium-term financial assistance may be granted as consolidation of short-term monetary support made available by the European Central Bank (ECB) under the very short-term financing facility.
The borrowing and lending operations are carried out in euros. They use the same value date and must not involve the European Community in the transformation of maturities, in any exchange or interest-rate risk or in any other commercial risk.
At the request of the beneficiary member state, loans may carry the option of early repayment.
At the request of the debtor member state and where circumstances permit an improvement in the interest rate on the loans, the European Commission may refinance all or some of its initial borrowings or restructure the corresponding financial conditions. These operations may not have the effect of extending the average duration of the borrowing concerned or increasing the amount of capital outstanding. The costs incurred in concluding and carrying out each operation are borne by the beneficiary member state. The Economic and Financial Committee must be kept informed of these operations.
The european Council decisions on this matter are taken by qualified majority on a proposal from the Commission made after consulting the Economic and Financial Committee. The ECB makes the necessary arrangements for the administration of the loans.
The beneficiary member state shall open a special account with its national central bank for the management of the financial assistance. It is also required to transfer the payments due to an account with the ECB seven working days prior to the corresponding due date.
The European Court of Auditors has the right to carry out any necessary financial controls or audits. The European Commission and the European Anti-Fraud Office can also send officials to the Member State receiving financial support in order to carry out controls.
EFSF Mandate
The mandate of the EFSF is to safeguard financial stability in Europe by providing financial assistance to eurozone member states. The EFSF is authorized to use the following instruments linked to appropriate conditionality:
Provide loans to countries in financial difficulties;
Intervene in the debt primary and secondary markets;
Intervention in the secondary market will be only on the basis of an European Central Bank (ECB) analysis recognizing the existence of exceptional financial market circumstances and risks to financial stability;
Act on the basis of a precautionary program; and
Finance recapitalizations of financial institutions through loans to governments.
EFSF Authorized to Issue Bonds
To fulfill its mission, EFSF is authorized to issue bonds or other debt instruments in capital markets. EFSF is backed by guarantee commitments from eurozone member states for a total of €780 billion and has a lending capacity of €440 billion. EFSF had been assigned the best possible credit rating; AAA by Standard & Poor’s and Fitch Ratings, Aaa by Moody’s.
EFSF is a Luxembourg-registered company owned by eurozone member states. It is headed by Klaus Regling, former Director-General for economic and financial affairs at the European Commission.
Klaus Regling
Regling is a German economist trained at the University of Hamburg (BA 1971) and the University of Regensburg, (MA 1975), worked at the research department of the IMF for 5 years. In 1980 he left and spent a year in the Economics Department of the German Banker’s Association before being hired as an economist by the German Ministry of Finance, where he worked in the European Monetary Affairs Division until 1985. That year he returned to the IMF and worked both in Washington as well as in Jakarta, Indonesia.
In 1991 Regling left the IMF once again and returned to the German Ministry of Finance, where he was named the Chief of the International Monetary Affairs Division. In 1993 he became the Deputy Director-General for International Monetary and Financial Relations and in 1995 the Director-General for European and International Financial Relations. He remained with the ministry until 1998, and the following year entered the private sector as the Managing Director of the Moore Capital Strategy Group in London.
Regling was appointed the Director General of the European Commission's Economic and Financial Affairs directorate in 2001 and remained there till June 2008. From 2008 to March 2009 he was part of the Issing Commission head by German economist Otmar Issing, which was formed by Chancellor Angela Merkel to advise the government on financial regulatory reform. He also became chairman of the Brussels based KR Economics consultancy. On July 1, 2010 he became head of the EFSF.
Otmar Issing
Otmar Issing has been, since 2007, Chairman of the Advisory Board of the House of Finance (Goethe University of Frankfurt), and President of the Center for Financial Studies since 2006. He is also an international advisor to Goldman Sachs.
In 2008 Issing was appointed by Chancellor Merkel as Head of the Advisory Group on the New Financial Order. He also was a member of the European Commission's High Level Expert Group on EU Financial Supervision chaired by Jacques de Larosière, and responsible for the De Larosière report.
Issing was a member of the Executive Board of the European Central Bank (ECB) since its creation in 1998 until 2006, responsible for the Directorate General Economics and the Directorate General Research. He was previously a member of the Board of the Deutsche Bundesbank (German central bank) with a seat on the bank’s Council.
Before that, Issing held chairs of economics at the universities of Würzburg and Erlangen-Nürnberg, and was a member of the Council of Experts in Germany for the Assessment of Overall Economic Developments from 1988 to 1990.
Issing is also a member of the Advisory Board of the Globalization and Monetary Policy Institute of the Federal Reserve Bank of Dallas, and honorary professor of the universities of Würzburg and Frankfurt. He holds honorary doctorates from the universities of Bayreuth, Frankfurt and Konstanz and has received numerous prizes and honours. He is also the author of numerous articles and books, such as The birth of the euro (English edition published in 2008).
The amount of loans or credit lines available via the EFSF established under Article 122 was limited to the margin available under the own resources ceiling for payment appropriations of the EU budget. A volume of up to €60 billion was foreseen. The EFSF established by inter-governmental agreement amongst euro area member states will guarantee on a pro-rata basis lending up to €440 billion.
The EFSF has been created to preserve the stability, unity and integrity of the European Union. The facility provides assistance to any member state which is experiencing or is seriously threatened with a severe economic or financial disturbance caused by exceptional occurrences beyond its control. Financial assistance under the EFSF will be provided only to euro area member states. Non euro area member states remain also covered by the Balance of Payment facility. Under this facility, the Ecom has already granted assistance to Latvia, Hungary and Romania.
The ESM would allow the provision of loans, not grants. Loans have to be repaid with interest. As such it is compatible with Art 125 TFEU.  The Treaty of Rome, officially the Treaty establishing the European Economic Community, was an inte-government agreement that led to the founding of the European Economic Community on January 1, 1958. It was signed on 25 March 1957 by Belgium, France, Italy, Luxembourg, the Netherlands and West Germany, the so-called “Inner 6”. The word Economic was deleted from the treaty's name by the Maastricht Treaty in 1993, and the treaty was repackaged as the Treaty on the Functioning of the European Union (TFEU) on the entry into force of the Treaty of Lisbon in 2009 and renamed as Treaty of European Union (TEU)..
A eurozone member state seeking financial assistance under the ESM shall discuss with the Ecom in liaison with the ECB an assessment of its financial needs. It shall submit a draft economic and financial adjustment program to the Ecom and the Economic and Financial Committee. Acting on a proposal by the Ecom, the European Council shall adopt a decision by qualified majority vote granting financial assistance.
This European Council decision shall include the maximum amount, price and duration of the financial support, the number of installments to be disbursed and the main policy conditions attached to the support. It shall entrust the Ecom with the responsibility for
negotiating a Memorandum of Understanding (MoU) with the country concerned detailing the conditionality.
The Ecom will closely monitor the respect of the policy conditions by the beneficiary Member State, in liaison with the ECB, before installments of the loan are disbursed. If it concludes that the conditions are met, it proposes to the participants to disburse the installments.
The ESM is based on a European Council Decision adopted under Article 122, which requires “qualified majority” at the Council and the Parliament to be informed and an intergovernmental agreement.
Having created the EFSF following the decisions taken on May 9, 2010 within the framework of the Ecofin Council, Eurozone finance ministers agreed on November 29 2010 on the terms and conditions to extend EFSF’s capacity by introducing sovereign bond partial risk participation and a Co-Investment approach.
The ministers also adopted amended EFSF guidelines concerning intervention in the primary and secondary debt markets and precautionary credit lines in order to use leverage. Klaus Regling CEO of EFSF commented: “Both options are designed to enlarge the capacity of the EFSF so that the new instruments available to the EFSF can be used efficiently”.
Under partial risk protection, EFSF would provide a partial protection certificate to a newly issued bond of a eurozone member state. The certificate could be detached after initial issue and could be traded separately. It would give the holder an amount of fixed credit protection of 20-30% of the principal amount of the sovereign bond. The partial risk protection is to be used primarily under precautionary program and is aimed at increasing demand for new issues of eurozone member states and lowering funding costs.
Under option two, the creation of one or more Co-Investment Funds (CIF) would allow the combination of public and private funding. A CIF would purchase bonds in the primary and/or secondary markets. Where the CIF would provide funding directly to Member States through the purchase of primary bonds, this funding could, inter alia, be used by Member States for bank recapitalization. The CIF would comprise a first loss tranche which would be financed by EFSF.
Chris Frankel CFO and Deputy CEO of EFSF commented: “Following extensive discussions with investors covering all types and geographical regions, a number of them have given their positive views and signaled their willingness to participate.”
EFSF will now implement these two approaches to be ready early in 2012 to use them effectively in the context of the guidelines for the new instruments on market interventions.
EFSF will be able to use both leverage options simultaneously. The final amount of “firepower” achieved through the use of the options will depend upon the concrete use and mix of the instruments and particularly the exact degree of protection between 20% and 30%. EFSF has currently a lending capacity of €440 billion and firm commitments regarding IrelandPortugal totaling €43.7 billion.
EFSF is also expected to finance a second aid program for Greece and fulfill tasks such as financing recapitalization of financial institutions in non-program countries. Without knowing the exact amounts needed, EFSF should be able to leverage its own resources of up to €250 billion. Deployment of either instrument using leverage will only be made following a request from a eurozone member state. Any support from the EFSF will be linked to strict policy conditionality, monitoring and surveillance procedures.
On November 7, 2011 EFSF placed a €3 billion 10-year benchmark bond maturing on February 4, 2022 to fund the EFSF’s second disbursement as part of the financial assistance program to Ireland. The issuance spread at reoffer was fixed at mid swap plus 104 basis points. This implies a reoffer yield for investors of 3.591%. In spite of the recent market volatility, the issue was met with solid demand with orders received in excess of €3 billion from real money investors around the world.
Klaus Regling, CEO of EFSF said: “I am pleased that the EFSF has again attracted investors from all over the world with a satisfactory overall amount despite a difficult market environment”.
Following Ireland’s request, the funds for an amount of €3 billion was disbursed to Ireland on November 10. This was the first issue made following the ratification of the amendments to the EFSF’s framework which include an improved credit enhancement structure.
Barclays, Credit Agricole CIB and J.P. Morgan acted as lead managers for this issue and Deutsche Finanzagentur acted as Issuance Agent. Christophe Frankel, Deputy CEO and CFO said: “since our first launch in January of this year, EFSF has established itself as a high quality issuer with a solid investor base”.
On October 31, 2011 EFSF announced the appointment of Barclays, Crédit Agricole CIB and JP Morgan as joint lead managers for its next issue due to be launched shortly, subject to market conditions. The proceeds would be used in conjunction with the financial assistance program for Republic of Ireland. The three institutions were selected from the 47 banks that comprise the EFSF Market Group. Christophe Frankel, Deputy CEO and CFO of EFSF said: “as a relatively new issuer, we need to continue building long-term demand”. The next issue is expected to be a €3 billion (no grow) 10-year benchmark bond.
EFSF made its inaugural issue in January 2011 when it placed a €5 billion 5-year benchmark bond in support of Ireland. It placed two subsequent benchmark bonds in support of the financial assistance program for Portugal.
Following the official entry into force of the Amendments to the EFSF Framework Agreement on October 18, 2011, all three credit rating agencies affirmed the best possible credit rating – Standard & Poor’s “AAA”, Moody’s “(P)Aaa” and Fitch Ratings “AAA” – to the EFSF  on October 29, 2011. All three agencies also assigned the highest quality short term rating to the EFSF – Standard & Poor’s “A-1+”, Moody’s “(P)P-1” and Fitch Ratings “F1+”.
In reaction to the potential increase funding volumes that could arise to take into account the new tasks assigned to the EFSF, its funding strategy will consequently become more flexible and diversified. It is expected that the EFSF will implement a short-term funding strategy which could be structured around a Bill program. Klaus Regling, CEO of EFSF said: “Confirmation of the highest possible credit rating shows the confidence in the strategy of the eurozone to restore financial stability. The amendments to the EFSF will allow it to contribute in more ways to implement this strategy”.
Under the amended EFSF, the guarantee commitments have been increased to €780 billion and effective lending capacity is now be €440 billion. The scope of activity of the EFSF has also been enlarged and it is now authorized to:
Intervene in the debt primary and secondary markets.
Act on the basis of precautionary programs
Finance recapitalizations of financial institutions through loans to governments including in non-program countries
All assistance to eurozone member states would be linked to appropriate conditionality.
EFSF has placed 3 benchmark issues this year for a total of €13 billion in support of the programs for Ireland and Portugal which total €43.7 billion (€17.7 billion for Ireland; €26 billion for Portugal). Christophe Frankel, EFSF Deputy CEO and CFO said: “EFSF is fully operational and stands ready to perform all duties to which it is assigned”.
EFSF intends to issue a €3 billion benchmark bond for Ireland in the near future market conditions permitting.
Following parliamentary approval by Slovakia on October 13, 2011, the amendments to the EFSF’s Framework Agreement have now been ratified by all 17 eurozone member states. EFSF stood ready to implement its new scope of activity once it received the amendment confirmations by all eurozone member states in writing.
Klaus Regling, CEO of EFSF said: “After the successful completion of all political approval procedures the EFSF and its Board will finalise quickly all necessary guidelines and procedures to be able to use the new instruments in the near future.”
The new EFSF will have an effective lending capacity of €440 billion through guarantee commitments from eurozone member states of €780 billion including an over-guarantee of up to 165%. Relying solely on guarantees, a cash reserve and a loan specific cash buffer will no longer be required as credit enhancement.
The amendments to the EFSF, based on unanimity, also include the authorisation to use the following instruments linked to appropriate conditionality:  
Intervene in the debt primary and secondary markets;
Intervention in the secondary market will be only on the basis of an ECB analysis recognizing the existence of exceptional financial market circumstances and risks to financial stability act on the basis of a precautionary program;
Finance recapitalizations of financial institutions through loans to governments including in non-program countries.
The technical details regarding the new EFSF instruments are will be announced when finalized. EFSF would use the new tools only upon request of a eurozone member state.
Regarding the discussion about potential leveraging of the EFSF, Christophe Frankel, Chief Financial Officer of EFSF said: “Any decision to use EFSF’s capacity more efficiently will not lead to an increase in guarantee commitments from the member states and there will therefore be no consequence on the EFSF’s triple A credit rating”.
Under the new structure EFSF is planning to issue one benchmark bond for Ireland for €3 billion before end of 2011. Ireland was granted financial assistance on November 28, 2010, the terms and conditions of the financial assistance package were agreed by the Eurogroup and the EU’s Council of Economics and Finance Ministers.
The issues initially scheduled in Q4, 2011 in support of Portugal's financial assistance program could now be issued in early 2012. Details will be disclosed in due time.
In addition, the EFSF stands ready to implement decisions that are expected to be taken in December 2011 on the second Greek adjustment program.
On Dec. 6, 2011, Standard & Poor’s placed the ‘AAA’ long-term credit rating on the European Financial Stability Facility (EFSF) on CreditWatch with negative implications. At the same time, S&P affirmed the ‘A-1+’ short-term credit rating on EFSF.
On December 9, 2011 Standard & Poor’s Ratings Services said that it would assign its ‘A-1+’ short-term debt rating to the European Financial Stability Facility's (EFSF; AAA/Watch Neg/A-1+) proposed short-term debt issuance. The rating is based on the final terms and conditions.
EFSF’s scope of activity was broadened in March and July 2011 to allow it to intervene in the debt primary market; act on the basis of a precautionary program; recapitalize financial institutions through loans to governments, whether or not they are program countries; and intervene in the secondary markets.
To allow the EFSF to exercise its wider mandate efficiently, it now proposes to issue short-term debt under its €55 billion guaranteed debt issuance program. This short-term funding program is initially expected to focus on three-, six-, and 12-month bills.
By late 2010, Ireland was suffering financial problems, and the eurozone countries agreed to a €11.7 billion bailout from the EFSF. May 2011 saw Portugal also receive a bailout of €78 billion. Greece's second loan was requested in June 2011.
The EFSF enlargement process of 2011 proved to be challenging to several Eurozone member states, who objected against assuming sovereign liabilities in potential violation of the Maastricht Treaty no bailout provisions. On October 13, 2011, Slovakia approved EFSF expansion 2.0 after failed first approval vote. In exchange, the Slovakian government was forced to resign and call new elections.
On October 19, 2011, Helsingin Sanomat, the largest newspaper in Finland and the Nordic countries, reported that the Finnish parliament passed the EFSF guarantee expansion without quantifying the total potential liability to Finland. It turned out that several members of the parliament did not understand that in addition to increasing the capital guarantee from €7.9 billion to €14.0 billion, the Government of Finland would be guaranteeing all of the interest and capital raising costs of EFSF in addition to the issued capital, assuming theoretically uncapped liability.
Helsingin Sanomat estimated that in an adverse situation this liability could reach €28.7 billion, adding interest rate of 3.5% for 30-year loans to capital guarantee. For this reason the parliamentary approval process on 28 September 2011 was misleading, and may require a new Government proposal.
The Lisbon Treaty which had come into force on December 1, 2009 was amended so that the EFSF will be replaced by a permanent stability mechanism in 2013.
December 20, 2011
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