ECB: "Messages in a Bottle"

Message #1 :

"European Central Bank board member Lorenzo Bini Smaghi said he’s concerned investors could lose confidence in governments unless they contain spending, raising the threat of a crisis in national finances.

“There is a risk that the mistrust that there is today in financial markets, in the banking system, is transformed into mistrust in states,” Bini Smaghi told the European Parliament in Brussels today. That could hobble the ability of some countries to issue debt, which would be a “financial crisis of the state.”"

It looks clear to me that it is a warning from the ECB to government whose deficit could grow out of control. Not all have have room for manoeuvring. I think the Finnish government might have this privilege as it entered in this crisis well prepared (with a budget surplus and have so far avoided the mistakes made in 1989, although none of us can be sure if mistakes will not be made).

Now it's the case of municipalities budget which is somehow incredible. They have had about 20 years of continuous growth, profited in the phenomenal housing growth and yet their budget is already in the red, threatening to cut in social welfare, benefits and other in order...not to rise taxes (this is a republican type approach, or a kokomus one), which they will have to at some points.

Regarding municipalities, if they are bailed out, I do hope that the current management is removed and replaced by competent one...

Message #2:

"The European Central Bank could cut interest rates lower than 2 percent and will continue to provide liquidity to solvent banks, ECB Executive Board Member Jose Manuel Gonzalez-Paramo said on Wednesday.

"A rate of 2 percent is not the lowest rate we can think of, taking into account the situation right now, inflation expectations continue anchored and growth slowdown is intense," Gonzalez-Paramo

As highlighted many times in this blog, interest rates will go in the first phase to 1%, most probably a rate cut of 50 basis in March, bringing the base rate to 1.5%, then another to 1% in either around June or September.

Obviously it all depends if an implosion occurs in different part of Europe:
-In eastern Europe, where social tension could rise amid implosive economical deterioration.
-In Spain where unemployment could be fatal for a quarter of the population.
-due to the collapse on few European banks, French, Nordic and others.

This dooms scenario can occur only if the situation is not stabilized by summer and emerging countries do not give the impetus required to kick start an unresponsive economical engine.

The ECB, working in cooperation of government inside (and outside, if there is) the EU, will try hard to avoided this doom scenario, so most probably they will try to be proactive, in order:
-to avoid any banks from collapsing, it might then create a bad bank that can absorb toxic asset held by banks.
-to stop debt cost from rising, which is currently the characteristics of Spain, Greece and Ireland , it will then create European bonds that will allow to fund at a cheaper rate those country and could be backed by the rest (Germany mainly).

That is just some thought on how the situation could get out of hand if confidence in the system is not and quickly or if "economical war" is started i.e protectionism by currency devaluation and state aid to key industry in a non competitive mindset.

Each country, outside the EU, will try to use the current crisis as a motivation to gain market share, economical strength and geopolitical influence. This won't be a fair game where all countries seem united to fight what could be the worse depression since the 1930's.

That are just some thought worth to share and of course all might be wrong.