On this side of the Atlantic, our brains are slowly fading into the July long weekend. But over in Europe there is a sense of panic.
Two years after the sovereign debt crisis first reared its ugly head, the contagion is now almost unstoppable. There have long been fears that Spain and Italy would get trampled as investors run from the fire, and those fears are starting to come true. In an effort to douse the flames, euro zone leaders are meeting tomorrow to hash out a plan.
This won't be the first time that they've come together. Yet previous sessions have been a total waste of time, ending with resolutions to keep budget deficits within 3 per cent of GDP and the like. Promises like that, which by the way are technically required in the euro zone, aren't going to temporarily satisfy investors anymore.
The situation today is so severe that a serious plan is needed, says Bill Rhodes, a sovereign restructuring expert who worked on everything from the debt problems in Latin America to Turkey to South Korea.
Since Europe's crisis unfolded, Mr. Rhodes has pretty much predicted everything we have seen: a need to capitalize Spanish banks and contagion across the euro zone. Yet in the beginning no one listened to him because euro zone leaders refused to believe that their debt crisis would be the same as those in the emerging markets.
“Everything’s different, and everything’s the same," he said in an interview Tuesday after giving a presentation to the Economic Club of Canada. Yes, Europe's situation is unique because they have more resources with the troika, whereas the emerging countries typically only had the IMF. And in previous scenarios, the troubled countries could devalue their currencies. But the general themes are exactly the same: contagion is ramping up, and the sovereign debt problems have spread to financial institutions (whereas before people assumed Europe's crisis was solely a government problem.)
It's the contagion that Mr. Rhodes most fears, because he's seen it before and he details the trouble that stems from it in his book. What's happening in Europe “is like a snowplow. Eventually you pile the snow up, and if you don’t get rid of it some way, it collapses on you.” Just look at what happened in Greece, he says. “Greece is not in a recession. It’s in a depression.”
Because Europe's contagion is speeding up so quickly, he personally believes the new summit is absolutely crucial. Coming out of it, European leaders need to include four necessary things: a timeline for a plan, a detailed explanation of how the stability funds will be used and a scheme for implementing deposit insurance.
He's also looking to European Central Bank head Mario Draghi for an additional component, which he says is key: a 50 basis point cut in interest rates. For too long Europeans have feared inflation, but now that oil prices have come down, there's no reason to be worried.
The interest rate cut is absolutely necessary, he says, because financial institutions drive growth in Europe. Here in North America we have better functioning capital markets, so companies can raise money in the markets quite easily, but in Europe if the banks won't loan (and they can't right now), then growth has a much harder time being generated. How do you come out of a crisis without the promise of growth?
To turn things around, Mr. Rhodes looks to Europe's leaders to get their acts together. “You stop contagion by having a plan and a timeline to implement it," he says. And then you market that plan with everything you've got.