Nouriel Roubini's Global EconoMonitor

Roubini: Eurozone Restructurings Will Leave Bondholders Facing Losses

Government debt levels in peripheral Europe mean restructurings cannot be avoided, economist Nouriel Roubini tells Credit magazine.

Socialising the liabilities of its most indebted member countries is not a solution to the Eurozone’s debt crisis, according to Nouriel Roubini, professor of economics at New York University and founder of consultancy Roubini Global Economics. Instead, Eurozone countries facing debt burdens they are unable to meet will need to undergo debt restructurings, forcing bondholders to incur haircuts or equity conversions, noted Roubini, former senior economist for international affairs at the White House Council of Economic Advisors.

“It is going to be, in some cases, mission impossible, and in other cases extremely challenging,” says Roubini. “They have avoided the short-term risk of a break-up of the Eurozone or a sovereign default with the trillion-dollar bailout package, and they carried out bank stress tests. But sovereign spreads in the periphery are now back towards what they were in May.”

Five-year yields on Greek government debt were 11.268% on Monday, while Irish government bond yields were at 5.818% and Portuguese bonds were trading at 4.613%.

“If bondholders and other creditors do not take a hit, then the hole in the bank balance sheets has to be plugged by governments. But these governments are already stretched fiscally in terms of debt, so any increase in liabilities on the public balance sheet is going to first make the risk of insolvency for the government larger,” he says.

“More importantly, though, sovereign risk is banking risk because if the banks are in trouble, the sovereign has to help – but the sovereigns also place a lot of their sovereign debt on the balance sheets of the banks,” Roubini adds. “If the sovereigns are distressed, the assets held by banks that are impaired are not going to be just loans and real estate and other securities; they are going to be holdings of government debt.”

A scenario where private debt is continually loaded on to government balance sheets is unsustainable, Roubini argues.

“The governments that are in trouble, like Greece, are being bailed out by supranational bodies like the IMF and the European Union,” he says. “There is not going to be anybody coming from Mars to bail out the IMF and the Eurozone. You cannot keep kicking the can down the road for ever. At some point unsecured creditors in this financial situation have to take some of the losses. You have to write down debt and convert some of those debts into equity.”

Some doomsayers have prophesied the break-up of the Eurozone or at least the departure of one or two of its more indebted member countries. Roubini does not expect such an outcome or even an outright default by any member of the currency union.

“The distressed public debt problem will be resolved through exchange offers similar to what was done in Pakistan, Ukraine, Uruguay and the Dominican Republic in the last decade,” he says.

Even if Greece were to adhere to every condition imposed on it by the IMF to cut its deficits, Roubini says it faces three further years of recession.

“The IMF programme foresees Greece’s public debt stabilising at 148% of GDP in 2015, which means it will not be able to withstand any shocks,” Roubini says. “Russia and Argentina defaulted with public debt at just 50% of GDP. But there will not be a technical default as there is lots of experience on how you do these things. You exchange the old debt for new debt with three features: the maturities are much longer, the interest rates are much lower than current market rates and you do not reduce the face value of the debt. It has been done so many times it is like a kid’s game.”

Given the recent decision by the Irish government to impose an 80% haircut on the subordinated debt of Anglo Irish Bank, not to mention the rhetoric of senior ECB figures such as Axel Weber, it seems that bondholders will be made to foot the bill of future bailouts before taxpayers. That is the only logical outcome, according to Roubini.

“If you keep socialising losses, then eventually the distressed sovereign is going to become a bigger disaster. With the Anglo Irish crisis, the government now looks like it is willing to have a hit being taken by the sub debt holders. I think the government should also restructure the banks’ senior unsecured debt because, even if they do that [write down the subordinated debt], their public debt is going to rise from 70% to 100% by the end of the year and next year it will go to 120%. Ireland is going to end up like Greece,” he says.

The full interview with Nouriel Roubini will appear in the December issue of Credit.

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10 Responses to “Roubini: Eurozone Restructurings Will Leave Bondholders Facing Losses”

GloomyNovember 4th, 2010 at 3:36 pm

Once upon a time I was a deflationista. Those days are long gone. I have been almost entirely in precious metals for a while now. Though this may prove to ultimately be a misguided strategy, I can think of nothing else to do. The only thing that is crystal clear to me is that this will not end well.

hloweNovember 4th, 2010 at 5:57 pm

Jobs for the future, Heating and Air techs.My Church Building in Austin Texas had the copper stolen from the air-conditioning units on October 10. It’s estimated that the copper was worth $200.00. The company I used in the past provided an estimate of $19,000.00 to replace.According to Farmers Insurance this crime has climbed considerably throughout Texas. One local Church had their air-conditioning units stolen the night after they replaced the previously stolen units.Reasons for this to increase:1) According to Bernanke copper prices are not high enough yet!2) According to Republicans extended unemployment benefits need to stop!Apparently the Fed’s strategy is to “Reset” by trying to push inflation even with excess capacity and high unemployment.For now and the foreseeable future, heating and air companies should do well. If unemployment stays high and the dollar low, the risk/reward for copper thieves seems likely to continue towards reward, even if they get caught.LB, you’re excellent “Deflation has Become Inevitable” Post did not consider QE1, QEII… Are you once again struggling with the Inflation/Deflation Debate? Seems to me the likes of Schiff, Faber, Fleckenstein and other Austrian Economics followers will continue to be most accurate, food and commodity inflation and lower currency value.Days like today I realize how stupid I was to be shaken out of my heavy gold position and go to cash.How about you professor, Did Mr. Soros tell you why you’re wrong on gold?

MorbidNovember 4th, 2010 at 6:02 pm

The Ordeal of the Apocalypse LoomsGloomy, you were right about being in precious metals as an investment. I recall having suggested that would be foolish about a year ago.But, I guess the most precious thing in the future will not be outer gold and silver but rather how deeply one is ensouled – has a connection with an inner Source that can sustain them in the hard emotional, contagious times to come. There will be no where to hide.Those without a vision perish. The vision is broken. Everything is distorted and out of balance. It is a heap of broken images.May God Help Us All.

economicminorNovember 4th, 2010 at 9:38 pm

The Republicans #1 issue is to restore the Bush tax cuts (keep the money in their hands to expand resource acquisitions) .The FED’s goal is QE which ends up in the same or similar hands…with the same goal, creating inflation….Both these goals cost the actual producers of things for the benefit of those who trade paper and at an extreme cost to the average citizen.Yet the citizens are all tied up in BS and counter productive beliefs that are harming them. The elite blame the others for the harm and claim that they themselves are the saviors.It amazes me to see how a people who pride themselves on being smart can be soooo incredibly stupid.Nothing is going to change until the American people wise up!If they don’t pretty soon, the US will be more like Brazil and the majority of us will have to ride 3 on a bike to get around like the Brazilians do.Seems incredible that such a strong proud people can be so easily led into the slavery of poverty.

sNovember 5th, 2010 at 5:22 am

Where are the US restructurings?For the time being, I can see some inverse restructurings:- TBTF become bigger than TBTF (Ireland syndrome)- Debt creation is expanded (Greece syndrome)- Currency is printed (Zimbabwe syndrome)- Accounting rules are eased (Banana republic syndrome)- Fudgers are shielded from prosecution (Vatican syndrome)- Political donations are eased (Somalia syndrome)- Yes-sayers are promoted (Iraq syndrome)So, where is the US heading to??

GuestNovember 7th, 2010 at 9:36 pm

hehehe inflation deflation up down, in the greater scheme of thingsit doesnt matterEquilibrium….. reset… back to zerofrom the looks of things… they are ready for a reset..heck just try QE2 if it works (delaying..) then it worksif not, :-/