The real reason for France's downgrade

The Eurozone has now reached an advanced stage of disintegration, and markets are already planning for the post-euro era. By Yanis Varoufakis.

“[T]he financial problems facing the eurozone are as much a consequence of rising external imbalances and divergences in competitiveness between the eurozone’s core and the so-called ‘periphery’. As such, we believe that a reform process based on a pillar of fiscal austerity alone risks becoming self-defeating, as domestic demand falls in line with consumers’ rising concerns about job security and disposable incomes, eroding national tax revenues.”

Standard & Poors, extract from its rationale for downgrading France et al, 13 January 2012

That S&P have been part and parcel of the fraud-ridden financialisation game which led us to this crisis, is beyond doubt.

That S&P have, previously, downgraded both the United States and Japan, failing to appreciate that their large debts are perfectly sustainable under the present circumstances (which was confirmed by the observation that their downgrade had no appreciable effect on these two countries’ bond yields), is equally on the record.

That S&P’s rationale, see above, for downgrading France is precisely right; and there is no smidgen of a misgiving.

Our ongoing crisis is a crisis of Europe’s banking sector caused, in turn, by the underlying trade and capital imbalances within the euro system. Greece’s public sector pains, Italy’s refinancing cul de sac, France’s current predicament: these are all epiphenomena of the crisis. The deeper causes are two:

1.            First came the outflow of capital from Germany to the periphery in the 1990s and beyond. It was the immediate repercussion of the Great German Experiment of the 1990s, when the growth rate of German labour unit costs was pushed well below that of German wages and of the equivalent French metric. In conjunction with German industry’s large investments into productivity enhancing capital goods, the wage-squeeze pushed German corporate profits through the roof. Unable to find a decent return within Germany, this capital headed South via the Franco-German banks that jumped at the opportunity to expand into places no Franco-German bank had gone before (and where interest rate premia abounded).

2.            Second came the manner in which the Franco-German banks mimicked Wall Street and the City in leveraging (with leverage ratios often in excess of 50:1) the mainly German capital outflows into the periphery, in some places targeting the private sector (e.g. Spain) while in other countries finding it easier to peddle their wares to the public sector (e.g. Greece).

Thus, when the crash of 2008 hit us, it was inevitable that the deficit regions of the periphery would go bust, under the weight of these loans, and the silly Franco-German banks would fall into the bosom of massive insolvency. And as if this were not enough, our politicians decided to prop both these ‘fallen’ partners up (the deficit states and the Franco-German banks) by creating the mother of all CDOs: the EFSF. To see how the EFSF’s very structure foretold, and planned for, the eventual downgrading of France, see this piece from last summer (in which I explained how the Eurozone’s unravelling was guaranteed under the auspices of the toxic EFSF once the burden for the cheaper loans for the ‘fallen’ periphery states was placed on the EFSF’s shoulders).

In short, over the past two years, while the unravelling of the Franco-German banks is the real game in town, the spotlight has been on relatively insignificant ‘entities’ like Greece. The result is that the Eurozone has now reached an advanced stage of disintegration. Markets are already planning for the post-euro era. So, why was only France downgraded? Why not Germany? (If I am right that the German banks are in similar straits.) The answer, of course, is that the breakup of the euro will lift German banks from the muddy seabed like a roaring tide (as capital flows into Germany courtesy of the fact that, in aggregate, Germany is a creditor state). As for France, it will be left tangled in the seabed’s mud, in between a few weedy posts that remind it of the lost dreams of becoming the command centre for a future federal Europe. This is inevitable now, unless the French elites wake up to their reality and demand of Germany something truly radical: a rational plan for exiting the crisis before it is too late. One that resonates with the short paragraph with which this piece began.


Image top: alles-schlumpf.