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posted on 05 July 2016

Why Would Creditors Not Want To Be Repaid?

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Former Greek Finance Minister Yanis Varoufakis has published an article in the Journal of Australian Political Economy, No. 77: Creditors Uninterested in Getting Their Money Back. This article was also used as manuscript for a presentation at the University of Sydney. But why would such a condition exist? That we will explore in the following.

Varoufakis maintains that the financial crisis in Greece is not about Greece repaying debt. Once the eurozone was established, he says, German banks no longer were concerned with underwriting standards. Instead loan officers were instructed to make loans wherever they would be accepted in the "euro periphery" up to specified amounts so that these trading deficit countries could continue to buy German exports.

Thus loans were no longer made with an eye toward repayment by the borrower. They were made to provide means to support a high level of German (and other core countries to a much lesser extent) exports.

The bank loan officers didn't care - they were paid to make the loans - not to recover principal and interest. And the money lent in the periphery comes back to Germany as German cars and other goods are bought. Capital builds up in Germany

The process is a self-reinforcing spiral. Varoufakis says:

So the oversupply of capital in Germany was pushing down the value of money in Germany. That affected interest rates in Germany, pushing them very low. So there was no incentive for the banks to lend that money in Germany and there was not sufficient demand. But in the periphery of Europe where there was an exodus of capital going to places like Germany and the Netherlands to facilitate the purchase of the net exports of those surplus countries, this exodus of capital created a scarcity of capital - of money - in Greece and Portugal and Ireland, which pushed up the effective price of money.

So if you were a business person and you wanted to borrow money in Greece to invest, you would have to pay a much higher interest rate than the equivalent German businessperson, even though the official interest rates were the same. The commercial interest rates were not the same because of this imbalance. So, if you were a banker sitting on a pile of cash in Frankfurt, where the effective interest rate is one or two per cent, but you can lend the same money to a Greek businessman or woman for five per cent, what would we do? Lend it in the latter place, of course. You're going to take the pile of cash, go there and say: 'please take it'.

This type of escalation is exacerbated in a monetary union like the eurozone because they lack the fiscal balancing of the asymmetry between overproducing states (like New York, Texas and California) and underproducing states (like Mississippi, Arkansas and New Mexico) that exists when a monetary union is accompanied by a fiscal union.

Varoufakis asserts that the resolution of the credit crisis with Greece is not what the austerity forced on that country is all about. He says that the objective is to avoid writing down assets (loans held) to the current repayment value. The objective of the entire destruction of Greece is to

"find some way of saving the German and the French banks ... bailing them out a second time, without the parliamentarians and electorates of Germany and France realizing that this was what was going on."

Varoufakis has a hypothetical story which explains the utter futility of the Greek resolution process:

Imagine if you went to your bank and you said: 'dear manager, I can't repay my mortgage because I've lost my income - I lost my job or I lost overtime or I had to take a pay cut or I'm sick and I need to pay all this money for medical treatment - I can't repay my mortgage. Please can you give me a second mortgage from which I'll repay the first mortgage?' Imagine your banker saying: 'yes but under the condition that you will agree to shrink you income further'. Of course, no banker would say that. No creditor would sensibly impose on debtors conditions that guarantee that the creditor will not get their money back. Because I never believe an explanation based on the assumption or presumption of stupidity, something else must be going on. What was it? The fact of the matter was that a year before the bankruptcy of the Greek State, Deutsche Bank was deeply bankrupt. When Lehmann Brothers went bankrupt, it had a leverage ratio of 1 to 38 - that is, for every one dollar it had, it owed 38. Deutsche Bank in 2009 had a leverage ratio of 73: it was clearly kaput.

But the scheme is not working. Deutsche Bank (DB) is still going down - just later and after Greece has been raped. See the parallel between and Lehman Brothers (from Zero Hedge):

So, let's answer the question: Why would creditors not want to be repaid?

Because if they accepted repayment at any realistic recognition of current asset value (discounted from original loan face value) their insolvency would have to be recognized.

If Greece repaid its debts northern European banks would go belly up!

In 2010 Greek debt could have been restructured at perhaps 50 cents on the dollar (or more with repayment extension to many more years). Today the writedown would have to be much greater and the banks are not in much (or any?) better shape today than 2010.

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