Stocks rallied hard on Monday in response to the “new” plan being prepared by European officials to deal with the debt crisis that has wracked the markets since the end of July. However, since in the words of Ricky Ricardo, the plan needs some esplainin’ we thought we’d take a crack at it.
For weeks now, traders have fretted over the fact that there was no real plan coming out of Europe. There was lots of talk, but no concrete ideas that seemed to be able to work. As such, the platitudes offered by officials pledging to “do whatever it takes” to avert a disaster had worn thin.
But with most of the major players in town over the weekend, it appears that a workable plan might just be in the works. Here’s our understanding of the way this thing might function.
We start with the European Financial Stability Facility (EFSF), which is better known as the bailout fund. The EFSF was created in 2010 as a way to help alleviate the sovereign debt crisis that began in Greece and has since spread to Portugal and Ireland, and possibly Spain, and Italy.
The key problem is that the EFSF isn’t big enough to handle the job on its own and the countries of the Eurozone, who are themselves facing economic slowdowns , are reticent to ante up another big chunk of cash. In short, the people of Germany don’t want to borrow any more money to bail out Greece – again.
So, how does Europe make their current bailout dollars go farther? By leveraging it up, of course.
The plan is for the EFSF to put its cash into a newly created European Investment Bank (we'll call it the EIB), which would be owned by the member states of the European Union.
With its new name and a horde of cash, the EIB would then sell bonds (e.g. borrow money) from investors. With the money it took in, the EIB would turn around and buy sovereign debt from the likes of the PIGI’S.
The idea is for the banks that may be struggling to buy the bonds of the EIB, which could then be used as collateral to borrow from the ECB. In short, it allows troubled banks to sell their sovereign debt to the EIB.
While the transaction sounds complex, it essentially allows troubled banks to exchange their distressed sovereign debt for freshly minted debt from the EIB. And just like that, the balance sheets of the banks suddenly look better.
If this sounds vaguely familiar, it should, because the plan is similar in nature to the TARP (Troubled Asset Relief Program) designed by the trio of then-Treasury Secretary Hank Paulson, Fed Chairman Ben Bernanke, and then-New York Federal Reserve Bank President Timothy Geithner.
To be clear, the plan described herein is not official. However, based on what we’re hearing, this sounds like the best alternative so far. The question now, of course, is when European officials will stop talking about it and actually put the plan into action. Stay tuned, this drama is likely not yet over.
Editor’s Note: Feel free to let us know what you think of the plan in the comments section below.
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Is it the first step to eurobond !? Roberto from italy