The problem in Europe, for both banks and governments, is insolvency everywhere one looks. This was brought about by too much debt and too much financial leverage by issuing debt. The only known solutions are (a) default, and (b) printing money to pay off the debts (inflation).
Europe is trying to solve the problems by neither method. Their solution, as it has similarly been attempted by the US, is to issue more debt and create more leverage. One means of doing this is to create a new financial intermediary, called the EFSF (European Financial Stability Facility). The Fed also invented such “facilities” and such acronyms. They’re just coverups for creating more debt combined with doses of both partial defaults, inflation, and accounting fakery by which bond values remain overstated on the books of banks. In the EFSF, the European states indirectly issue bonds by standing behind bonds issued by the EFSF. This process is then “levered” (a misnomer in this case) by issuing credit default swaps, or guarantees of the debts of the insolvent recipients of the money.
The net result is simply that government (sovereign) debt issuance rises and the burdens fall upon the hapless taxpayers. Another result is that the credit market prices become distorted (bubbles). I cannot think of another stage beyond this end game that will avoid the only known solutions of default or inflation. They’ve begged the Chinese for a bailout, but that doesn’t seem to be working at the moment. It is the longstanding joint and integrated marriage between the State and the fractional-reserve central bank fiat money system that is causing this mess. In the end, this marriage must fail.
I wonder in what monetary system direction the rest of the world, mainly the BRIC countries, will go. The main player is China. China is playing several games simultaneously. First, it is increasing its gold. It is seriously building up the yuan as a currency by allowing and encouraging its gold convertibility. This path challenges the West’s currency system, even though China also has big banking flaws too. Second, China is playing along with the West by working for a greater role in the IMF and a greater role for other currencies and gold in the SDR. We also know that China is gradually reducing its holdings of US treasuries and making direct investments worldwide. These too challenge the US. It is also bulking up militarily, not with war in mind, but also as a challenge to US power and to back up a greater global presence.
Why these two paths? China does not want a chaotic end to the western monetary system. That creates economic and political problems in China. However, should monetary chaos happen, it would prove temporary and China would emerge the stronger, relative to the West. However, western chaos increases the odds of political instability and frictions, even wars. I think China prefers to gain position gradually and to cooperate with the West as a peaceful entity. The US actually is the more antagonistic and the more threatening. This is why China pursues two divergent paths. It prefers to build up its currency, but it also prefers that the West not suddenly collapse monetarily.
So now we have the spectacle of Euroland wanting Chinese financial investment. And China and much of the rest of the world must be wondering what they ever saw in the euro, especially if Europe chooses inflation over default. Already doubting the dollar and now doubting the euro, there is ever more incentive to go for gold as a basis for the yuan. There is no good reason for the Chinese to get sucked into the quicksand of the Euroland difficulties. Their future does not lie with the euro.10:05 am on November 6, 2011 Email Michael S. Rozeff