Germany "too weak" to prop up eurozone
While the country’s economy remains strong, its banks are among the most leveraged in the developed world and would need bailing out if the likes of Greece and Spain began to default.
By Mark Smith, Reporter, FE Trustnet
Monday June 25, 2012
Germany lacks the firepower to solve the sovereign debt crisis on its own, says Lombard Odier’s Stephanie Kretz.
Europe’s largest economy has been on hand to bankroll its poorer neighbours when they have asked for financial support so far.
However, Kretz, a member of the investment strategy team at Lombard Odier, says that bailouts for Greece, Ireland, Portugal and Spain have put the German economy at risk of over-extending itself.
"Germany cannot support the eurozone by itself without its debt burden rising explosively and trend growth falling as a consequence, or without bringing its precarious banks dangerously close to the brink of collapse. Germany is simply too small to save the eurozone," she explained.
There is already evidence that the extra financial cost of propping up debt-laden economies in the periphery is damaging German output.
"In April 2012, the country was exposed to the total claims within the eurozone to the tune of 25 per cent of its GDP, eight times more than in 2007," said Kretz.
"According to the Ifo Institute, German losses via all European bailout funds if the GIIPS countries (Greece, Ireland, Italy, Portugal and Spain) were to default amount to €704bn. Whilst this would not bankrupt the country it would imply a very worrying increase in Germany’s debt-to-GDP ratio."
The Ifo institute also claims that German business confidence has fallen to its lowest level in two years, and the eurozone is widely expected to be in recession for the rest of 2012 and the start of 2013 as the crisis takes its toll on manufacturing and other industries.
Data from FE Analytics
shows that the German stock market index has lost 13.4 per cent in the last three months alone. The average IMA Europe ex UK
fund has not fared much better, losing 9.09 per cent over the period.
Performance of index over 3 months
Source: FE Analytics
The bailout burden is becoming more difficult for German chancellor Angela Merkel to sell to an unsympathetic electorate, with many questioning why they should pay for other countries’ fiscal irresponsibility.
Kretz points to the fact that the German banking system is the most leveraged in the western world. According to the latest research from the IMF in April, it has a tangible assets to tangible common equity ratio of 28, which compares with just 11 in the US.
"Germany, by lending money to the peripheral countries, is trying to prevent its own fragile and leveraged banks from getting hit, effectively orchestrating a backdoor recapitalisation of its own banking system," she explained.
"This is a dangerous bet. Germany is too small to save the GIIPS. When they default, Germany will not only take losses through its banking system exposure to the peripheral countries, but also through its commitments within the European bailout funds."
"We would avoid all investment in German banks exposure: waves of nationalism, recapitalisation and big dilution lie ahead."
Major stock market indices have once again taken a hammering today as concerns over the eurozone persist.
Forex Club’s Andrey Dirgin commented: "Investors are still wary about a quick resolution of the European debt crisis, and the markets remain concerned that the financial crisis could dent the major European economies, such as those of Germany and France."
"The dampening of business sentiment in Germany is a bad sign for the euro outlook."