Yanis Varoufakis: How the ECB is Complicit in a Macro-Financial Debacle

By Yanis Varoufakis, Professor of Economics at the University of Athens. Cross posted from his blog

Ponzi growth happens when unsustainable capital flows, wilfully predicated upon funding schemes that Reason knows to be fraudulent, give rise to large spurts of economic activity.

Ponzi austerity, in contrast, is what happens when unsustainable spending cuts, wilfully predicated upon funding schemes that Reason knows to be fraudulent, cause significant drops in economic activity. (Click here for my original piece on Ponzi Growth and how it led to Ponzi Austerity.)

It is an incontestable fact that Europe’s Periphery shifted from Ponzi growth to Ponzi austerity some time after the Crash of 2008. Before the Crash, tsunamis of toxic money, minted and multiplied by US, UK and German banks, flooded the Periphery, causing bubbles in the real estate and public sectors. When that toxic money fizzled out, and capital receded from the Periphery like a vicious tide going out on a grim shore, the Periphery’s states and banks sunk deeply in the mud of irreversible insolvency. So as to delay the inevitable defaults that would strike huge blows on the tittering northern banks, so-called bailouts were arranged on condition of austerity policies that were as unsustainable as the growth whose collapse led to them.

The European Central Bank (ECB) is the only serious institution that the Eurozone has. It was meant to be the guardian of the euro’s credibility but, alas, during both periods (Ponzi growth and Ponzi austerity), the ECB proved incapable of playing this role. When toxic capital flowed disastrously into the Periphery, the ECB whistled in the wind. When it flowed out, causing the collapse that then gave rise to the Ponzi austerity, the ECB was part and parcel of this crime against the peoples and the spirit of Europe. Now that the chickens are coming home to roost, the ECB is pledging to do “all it takes” to save the euro, but fails to back up such strong words with deeds.

The reason for the ECB’s failure is that its most powerful constituent part, the Bundesbank, is refusing to contemplate the two ‘normal’ operations that would stabilise the euro: (a) capping Peripheral spreads via unlimited bond purchases, and (b) a banking license for the EFSF-ESM in conjunction with a commitment to recapitalising banks directly. German opposition to (a) is predicated upon moral hazard arguments (i.e. the fear that, if Italy’s spreads are capped at a sustainable interest rate level, the Italian governments of the future will have no incentive to ‘pull itself together’). As for Germany’s opposition to (b), it is due to private German banks’ point-blank refusal to submit themselves to ECB (or non-German government) scrutiny; a development that is inevitable if an ECB-leveraged EFSF-ESM steps in to re-capitalise the banks.

The ECB’s Short-Term Part in Perpetuating Ponzi Austerity

In the short-term, Mr Draghi’s ECB is an active participant in Ponzi austerity. Here is a typical example. In July the ECB deemed that Greek banks are insolvent and that the ECB will, therefore, not accept collateral from them. It directed them to the ELA program which has the Central Bank of Greece provide liquidity to the Greek banks (at a higher interest rate than the ECB would) in the context of the ECB system’s ELA. To facilitate this, the ECB permits the Central Bank of Greece to… treble the amount of euros that its lends the Greek banks and to accept worthless collateral from them in return; collateral that the ECB itself would not touch with a bargepole. In effect, the ECB pretends that it is cutting off the Greek banks when, in reality, it is simply increasing these insolvent banks’ costs of borrowing without limiting the quantity of money that they borrow from the ECB’s broader system. In effect, it is causing, wilfully, the Greek banks to plunge deeper into insolvency.

Why is Mr Draghi allowing this to happen? Because the ECB wants its money back from the Greek state on 20th August! Some of you may recall that, in the heady days of the summer of 2010, the ECB stepped into the secondary bond market to purchase Greek, Portuguese and Irish bonds in a failed bid to shore them up. Now, some of these bonds are maturing. While the tranches held by individuals and banks were haircut ruthlessly (54% in face value and 75% in present value terms) last March, the ECB insisted that its Greek bonds will not be touched by the haircut (or PSI as it was called euphemistically). To maintain this façade of super-seniority, with a view to imposing it on Italy and Spain later (now that Mr Draghi has promised to step in and buy Italian and Spanish bonds), the ECB presently demands from the Greek government full repayment. Last May, the Greek state borrowed 4.2 billion from the EFSF and passed every cent to the ECB. The same was meant to happen on 20th August. However, Berlin insisted that the bailout tranches for the months of July and August be withheld from Greece until the Greek government dances to the prescribed tune. But if the Greek government was to be denied the new EFSF instalments, how could it pay the 3.2 billion due to the ECB on 20th August?

Here is where the ECB chose to become a central player in the saddest and meanest form of Ponzi austerity: While Berlin is pushing Athens to implement a huge cut in the government’s budget (given the shrinking rate of the social economy) of 11.5 billion euros, at the same time, the ECB makes three related moves: First, it declines the Greek government’s request for a one month delay in the repayment of the 3.2 billion it owes the ECB. Secondly, as mentioned above, it cuts Greek banks off ECB liquidity and turns them toward the Greek Central Bank’s ELA program; thus increasing their borrowing costs. Third, it permits the Greek Central Bank to provide to the Greek banks liquidity that the latter then pass to the Greek state so that the Greek state can, in theory, repay the ECB the 3.2 billion due. Indeed, on 14th August, while most Europeans, and Greeks, were on holiday, the insolvent Greek government issued around 4 billion euros of T-bills for the purpose of pretending to pay off a debt of 3.2 billion to the ECB. Why pretending? Because these T-bills were snapped up by the insolvent Greek banks for the purpose of posting them as collateral with the European System of Central Banks (via Central Bank of Greece and in the context of the ELA) so as to gain access to much needed liquidity. In a full and ridiculous circle, the ECB system financed the Greek state’s repayment to the… ECB guaranteeing, in the process, that the insolvent Greek state’s debt and the insolvent Greek banks’ debt grew.

While this is an extreme example of the ECB’s complicity in a macro-financial debacle (if not scandal), it is not unique. At the very same time, the Central Banks of Italy and Spain are forced to make use of precisely the same provisions to their insolvent banks so that they can purchase expensive short-term T-bills in order to finance their governments, to the tune of tens of billions of euros. It is a ‘trick’ that was first tried and tested in Ireland, as part of the operations that caused the Emerald Isle to slip into Greece’s wake, on the way to Bailoutistan.

To recap, in the short-run, Mr Draghi’s ECB is participating, knowingly, in a huge game of deception that, to all intents and purposes, constitutes a vicious system that can only be described adequately as Ponzi austerity. Mr Draghi surely knows this and is keen to break out of this deadlock. He has, in fact, promised to do precisely this in the medium term. But what exactly are the options that he is considering?

The ECB’s Medium Term Plans

Mr Draghi has signalled a readiness to sidestep the Bundesbank’s objections, with the tacit support of the German chancellor, and re-start the program of ECB-purchases of Italian and Spanish debt (bonds, that is) in the secondary market as long as (i) the EFSF-ESM does likewise and (ii) Rome and Madrid agree, explicitly or implicitly, with a deepening of austerity policies and a broadening of so-called reforms (for which one should read: attacks on any regulation that shores up labour’s bargaining power over capital). The trouble with this plan is that it is bound to fail. The reasons are not hard to imagine:

The fact is that the ECB Board, even if it overrules the Bundesbank’s objections to this plan, will never authorise Mr Draghi to announce unlimited bond purchases. Consider the bond purchases of the past (i.e. the purchases of Italian, Portuguese and Irish bonds in the summer of 2010 and winter of 2011). They failed miserably because it was common knowledge that the ECB had only a couple of hundred billion euros to play with. This gave a splendid opportunity to speculators to bet that this (commonly known) sum would not be enough to shore up these bonds and lower their spreads in the medium term. They placed their bets against the ECB and won. Similarly now, given that the EFSF-ESM’s available sums are a pittance (and, to boot, it is still unclear whether they can be released in a flexible manner for this kind of use in the secondary markets) if the firepower available to Mr Draghi (stemming from the ECB’s printing presses), to fight the war on behalf of Italy and Spain, is also circumscribed, the markets will bet against him and will win hands down.

This is the reason why everyone keeps proposing that either the ECB should declare (like the Central Bank of Switzerland in its fight to cap the franc) that it will print and allocate unlimited euros to cap Italian and Spanish spreads or, equivalently, that the EFSF-ESM should be given a banking licence; i.e. the right to use the ECB’s printing presses and asset book as a lever that accomplishes the same purpose.

To sum up, what would buy the Eurozone a good five years during which to redesign the Eurozone and avert the euro’s long term disintegration is either an unlimited power to print (so as to cap spreads) or a banking licence for the EFSF-ESM, coupled with a proper delinking of bank recapitalisations from the national governments (i.e. taking the capital injected into the banks off the national accounts of governments). Trouble is that Berlin is not willing to countenance either of these measures. Thus, the hapless Mr Draghi is forced to choose between a walk-on part in the unfolding tragi-comedy of Ponzi austerity and a bond purchasing scheme whose failure is foretold.

Is There an Alternative? How Mr Draghi Could Adopt Part of our Modest Proposal to Break the Vicious Circle vis-à-vis Italy and Spain Tomorrow Morning

Imagine a press conference tomorrow morning in which Mr Draghi makes the following announcement:

“Henceforth the ECB will undertake a Debt Conversion Program for Italy and Spain. It will service (as opposed to purchase) a portion of every maturing Italo-Spanish government bond corresponding to the percentage of each country’s public debt that is allowed by the Maastricht Treaty.”

[In effect, it will be servicing 100[(D-E)/D% of each maturing bond, where D is the national government’s debt-to-GDP ratio (in %) and E is the difference between D and 60% (the Maastricht-compliant level). Assuming Italian and Spanish debt-toGDP ratios to equal 120% and 90% respectively, then the ECB would be servicing 50% of each Italian government maturing bond and 66.7% of each Spanish government maturing bond.]

“To fund these redemptions on behalf of Italy and Spain”, Mr Draghi will go on to say,” the ECB will issue bonds in its own name, guaranteed solely by the ECB but repaid, in full, by the respective member-state: Upon the issue of ECB bonds, the ECB will simultaneously open debit accounts for Italy and Spain into which the two countries will be legally bound to make deposits to cover the ECB-bonds’ coupons and principal. These new debts of Italy and Spain to the ECB shall enjoy super-seniority status and shall be insured by the EFSF-ESM against the risk of a hard default. Since the cost to the EFSF-ESM of offering this insurance will be minuscule (compared to the cost of purchasing, in association with the ECB, hundreds of billions of Italo-Spanish bonds), the EFSF-ESM will now have significant funds to devote to the task of directly recapitalising Italian and Spanish banks.”

Is there any doubt that such an announcement would spell the current crisis’ end? Moreover, do note dear reader that there is nothing in this Debt Conversion Program that violates the principle of no monetisation of the Periphery’s debt, no issues of moral hazard (since Italy and Spain will still have to service, on their own, the past of their debt that exceeded Maastricht limits) and no increase whatsoever in German, Dutch, Finnish or Austrian liabilities. Italy and Spain will enjoy large interest rate reductions without any concomitant rise in the long term interest rates that Germany pays (since Germany is not guaranteeing the Program), without any bond purchases by the ECB (funded by money printing), without a banking licence for the EFSF-ESM. And if this Program succeeds, it can be quickly extended to the rest of the Eurozone, thus creating a new, liquid market for proper Eurobonds (ECB-bonds) that will both stabilise the Eurozone and draw idle savings into it from the rest of the world.

Concluding Remark

I submit it to you, dear reader, that this plan would work. So, why is Mr Draghi not announcing it, insisting instead on measures that will ultimately fail? Because of a combination of reasons. Some of them have to do with the inability of our central bankers (and politicians) to embrace original thinking (i.e. thinking that does not just replicate the practices of Goldman Sachs and the various outfits in which they cut their teeth before moving to their current jobs). However the most telling reason is that Berlin, and the other capitals of the surplus nations (Finland, Austria and the Netherlands), will not approve of any move or policy that binds them irreversibly to the euro. The Debt Conversion Program suggested here, while it requires no loan guarantees from German and Dutch taxpayers, creates a new type of bond that makes it impossible for the surplus nations to leave the Eurozone. It is not that they want to leave that causes them to veto ideas like this one. It is that they do not want to give up the relative bargaining power (vis-à-vis France and other member-states) that is afforded to them courtesy of the capacity to leave the euro. Alas, the preservation of that capacity may force all of us to bid adieu to the common currency; with tragic consequences for all.

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  1. Chris Rogers


    Your mighty busy today – it must be 1.00AM State-side presently and still your postings.

    Having been without a internet enabled device for a week in the States myself, I can say I really missed your site and great work it provides – a sea of rationality in an ocean of sewage basically.

  2. Mark P.

    ‘…to delay the inevitable defaults that would strike huge blows on the tittering northern banks…’

    I think you meant teetering. The image of ‘tittering banks’ has a certain charm, I agree.

  3. Chris Rogers


    No, I think ‘tittering’ banks works well, i.e., they are all laughing on the way to their own private banks with sheds loads of cash courtesy of the taxpayer.

    Lets face it, most of Europe’s banks are bankrupt!

    The sooner the ECB, EU and constituent national Parliaments recognise this fact, the better for all concerned – one thing is for sure, austerity does not work, neither does shovelling shed loads of cash into bankrupt institutions and hoping for a miracle.

    What is required is a Political solution, regrettably our masters seem unable to take the steps necessary to end this tragic comedy of a thousand cuts.

  4. MB194

    Agree with the principle of these ideas. Solving the problem of rising yields, funding problems, default risk and bank recapitalisations should be very easy indeed. Only the Bundesbanks intransigence is preventing the immediate pegging of spreads, QE and the end of the funding crisis in Spain, Italy and the rest.

    This is will not be the end of the crisis though, the difficult part of the solution will be returning southern Europe to long term growth and reducing unemployment. Southern Europe is uncompetitive, has terrible demographics and is policy constrained by being part of a currency union. This combined with the austerity measures and structural issues (labour market, EU bureaucracy etc) in Southern Europe will make returning to growth very hard indeed. The depression in these economies could last for decades.

  5. The Dork of Cork

    The end of the Euro is not the end of the world….
    Its the end for the BRICs though.

    Yanis wants a happy clappy Europe with centralised power……. now where did that journey take us ?

    We will end up like the States……….only worse.

    1. They didn't leave me a choice

      At least someone here has some sense in their heads. Mutilating national sovreignty to build the EU into a centralised united states of europe is precisely the LAST thing we want to do. I have no idea what makes neoliberal hacks like Varoufakis think this is even a remotely acceptable solution, this gigantism only leads to bad results, just look what a dystopian hellhole USA has become, do we REALLY want europe like that?

      What we need is proper decentralisation and elimination of the toxic, conservative, anti-democratic EU structure. As long as it exists there can be no reforms necessary for this new era which requires a mix of zero-growth economies, realigning economy with nature, eliminating banker rule and generous welfare system to proof against massive drop in demand and a total collapse of the market system that would follow from AI technologies coming online this and next decade. Within the EU, absolutely zero progressive, forward-looking policies will be implemented, thus, it must be exterminated.

  6. craazyman

    I appreciate that plan is well intended but it’s too complicated.

    Getting past the D-E divided by D times 100 then converting it into % while remebering what all the acronyms mean and what bureaucracy gets how much when and what bureaucrat in Brussels has what title is more than almost everybody will be able to figure out.

    This whole things is like a machine with so many moving parts and controls that even the inventors don’t remember how they built it or what to do anymore to make it work. So it just sits there, confusing the heck out of everybody.

    Most people can’t even figure out how much to pay in taxes, let alone complex math.

    The only solution is this: let Greece and whoever else wants to — probably Spain and Italy — refloat their own currencies on a localized basis, deriving value from its ability to be used to pay taxes (that aren’t being paid now anyway), so unemployed people have a trusted medium of exchange with which they can cooperate. And keep the euro at the same time.

    Get these people off the couch and out working doing something! Then the scientists can have more time to figure out what the heck it is they built and how to make it work.

    This will immediately create economic activity and it will probably even let the citizenry pay back more of their euro debts than they ever will the way things are now.

    Eventually, they can go back to all euro or some hybrid. you cannot worship God and mammon, but you can have two currencies.

    1. Jose Guilherme

      I agree that Varoufakis’ analysis, while well-meaning, is too complicated and ultimately flawed.

      Unlimited bond purchases by the ECB and a banking license for the ESM won’t end austerity. Quite the opposite, in fact: the European institutions will surely demand and get a binding commitment for ever lasting austerity from the PIIGS as a price for these two supposed “concessions”.

      Also, trying to put the blame on the “bad” Bundesbank while appealing to the putatively “good” intentions of the ECB is a wrong – tragically wrong – diagnosis of the way the structure of European power works.

      The truth is that the European elites – political, economic and bureaucratic – are basically united in their determination to impose Malthusian austerity on the peoples of Europe, starting with those unfortunate enough to live on the southern, wrong end of the continent.

      They probably think that austerity is the best way for Europe to regain “competitiveness” versus Asia, while preserving the euro. From their point of view only a “competitive” and united Europe will allow them to conserve the only thing that counts: to maintain their power status in a complex world where Europe’s share in GDP is destined to shrink.

      And if a competitive Europe requires a diminished welfare state and lower salaries as well as harsher living conditions for its workforce, so be it.

      From this we may conclude that only an orderly dismantling of the euro can stop the race to the bottom in Europe. Clever schemes to save the single currency by giving even more power to the ECB and the ESM are certainly not favourable to the welfare of the peoples of Europe.

      1. Ruff

        So Germans should be penalized for saving while Spaniards are rewarded for being reckless.

        It’s not like Spain would be better if it had it’s own currency. The only difference is their currency would be worth jack and the economy would be worst and it would have happened years ago.

        1. Jose Guilherme

          The “recklessness” of the Spanish private sector (the public sector – let us all recall – was a model of austerity, with taxes exceeding government spending throughout the 00s) was financed by German banks who provided to Spain, at low interest rates, the funds saved by the German households and firms.

          This was all made possible by the single currency, in the sense that a common low rate policy rate all over the eurozone and the absence of currency risk encouraged the massive afflux of funds from the core to the periphery.

          And the model for a way out to the present crisis in southern Europe can be observed in Iceland, where currency devaluation plus default on foreign debts put the country back on a path to growth in a relatively short period.

    2. Calgacus

      Varoufakis’s formula is unnecessarily complicated; his words are clearer. E=D-60, so D-E=60 and 100[(D-E)/D% is just 60/D expressed as a percentage. 60/90 for Spain, 60/120 for Italy.

  7. F. Beard

    Ponzi growth and Ponzi austerity are two sides of the same coin – a money supply that is lent, not spent into existence. And the interest required is an additional insult and injury.

  8. Paul Tioxon

    Corroborating Yanis’ line of thought about Ponzi austerity as a consequence of Ponzi investing, (PONZISM?), is I Wallerstein’s latest commentary, none too late for this news cycle!

    ” Calculations vary but generally speaking return from stocks over the past century have been much higher than from bonds, presuming of course that one held onto the stocks.

    What is less noticed is that the same century-long level of profits from stocks has been more or less twice the increase in GDP – something that has led a few analysts to call it a Ponzi game. It turns out that much of that wonderful return from stocks has occurred in the period since the early 1970s – the era of what has been variously called globalization, neoliberalism, and/or financialization.”


  9. Eric

    The claims it’s all the fault of Germany and the ECB is getting tiresome.
    Maybe Varoufakis better spends his time as a Greek on tackling the corruption.
    Greece is the most corrupt eurozone country
    (source http://en.wikipedia.org/wiki/Corruption_Perceptions_Index)
    No investor in his right mind is going to send more money to Greece. Oh, wait, the other eurozone countries are exactly doing that, they must be crazy.
    Beggars can’t be choosers!
    If Greece wants to go back to ponzi growth instead of austerity, by all means, leave the euro and start printing drachmas. Goodluck!

  10. Jesper

    The accounts of Bank of Greece:
    Page 60 has the income statement.

    The ELA has both high interest and high provisions for losses. Profits from NCBs can be paid out to the national treasury. Lowering interest for the ELA would certainly benefit private banks that are using the ELA but if the collateral is bad then the Greek government would have less of a buffer to cover for losses on the ELA.

    See note 9 on page 112 for how much the Irish government got from its NCB, most was due to the interest charge paid by banks using the ELA:

  11. Hugh

    Why should rich kleptocratic bondholders be paid back at all for their bad bets? That’s all this is, another scheme to pay them back but on slightly easier terms. And why would they go for it when the current process gains them greater wealth and power over the 99%?

    1. Susan the other

      If the northern EZ countries are trying to preserve their autonomy and keep the option to leave if things get bad, they should have left by now. Something else is going on. It looks like the devaluation of the Euro disguised as a depression, which depression must be maintained thru austerity. So if the EZ comes together too soon and their economy is turned around too soon, the Euro remains strong. And so do the labor unions because right now they do not have any leverage at all. The Troika just can’t be that dumb. What’s going on is the implementation of a plan by the Department of Contradictions but Varoufakis’ plan resolves it so easily – it’s gotta be intentional. Varoufakis insinuates that the Germans and northerners won’t ever sign on to what would amount to a Federal (EZ Federation) Insurance program because it ties their hands and they are then stuck with the EZ whether they like it or not. But Insurance is so investor friendly, it can’t hurt them, it can only help them. This kinda looks like the US trading in CDS and underlying bonds for new bonds with new insurance. Is there a haircut in there somewhere? What was Timmy’s trip to Berlin all about?

  12. miklos

    The film Debttocracy did desribed well the situation was on the u tube a greek film documentery.advocated audition of the debts . of selected comitees.

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