European Bail Out Brew Bubbles Over Again

Europe's never ending sovereign debt and default problems are rearing their ugly head once again. Just a rumor hitting the rounds that Portugal is being pressed to take a bail out, even when those rumors are denied was enough to send their bonds reeling. As it was the European Central Bank has to buy Portugal's bonds.

The ECB intervened to buy government bonds on the secondary market.

"They're buying five-years and 10-years in Portugal, whatever people are offering really," one trader said.

Another trader said the ECB appeared to be buying Greek and Irish bonds too. EU sources say the central bank has not yet bought Spanish government debt.

Credit default swaps for sovereign debt jumped 11 basis points on Portugal and 26.5 basis points for Ireland.

There is a domino theory that if Portugal is the next nation to be bailed out and saved from sovereign debt, Spain will assuredly also go south. Spain is a much larger economy. Ireland & Greece have already taken bail outs. It is assumed Portugal is next in the domino falling list. Contagion is also assumed when it gets to Spain. Contagion means the PIGS sovereign debt crisis will affect the United States and other nations outside of Europe.

If you think Gold prices are all due to Glenn Beck's rants, try the sovereign debt crisis as a better reason for Gold hitting record highs. Oil too. The rumors are intense and now there are reports the European bail out fund maybe expanded, supposedly Germany is lightening up.

Since these events seemingly change by the minute, you might read this report from Citigroup analyst Willem Buiter, on the overall state of Europe, insolvency and the banking crisis. The report goes over a host of countries real economic health and is entitled, The Debt of Nations.

Sovereign debt sustainability in advanced economies (AEs) has held center stage for most of 2010. The unprecedented peacetime deterioration in the public finances of most advanced economies has just claimed its second euro area (EA) sovereign victim. After Greece, which was forced by lack of market access into a €110bn EA/IMF financial support facility with strict budgetary and structural reform conditionality, Ireland has recently requested and been granted €67.5bn of external financial support. This will be funded from a range of sources, the EU’s supranational European Financial Stabilisation Mechanism (EFSM, €22.5bn), the EA’s intergovernmental European Financial Stability Facility (EFSF, €17.5bn), the IMF (€22.5bn) and bilateral aid from the UK (€3.8bn), Denmark (€0.4bn) and Sweden (€0.6bn). Ireland in addition contributes €17.5bn from its own resources.

Despite the recent drama, we believe we have only seen the opening and second act, with the rest of the plot still evolving. Although we have experienced, since the West-German sovereign default in 1948, a 62-year interval without sovereign default in the AEs, the risk of sovereign default is manifest today in Western Europe, especially in the periphery of the EA. We expect these concerns to extend before long beyond the EA to encompass Japan and the US — especially if we extend the concept of sovereign default to include not only violations of the legal terms of the sovereign debt contract, but also the infliction of severe capital losses on owners of domestic-currency-denominated sovereign debt by deliberately engineered unanticipated inflation and currency depreciation.

h/t to ZeroHedge for this report.

Magic Secret Decoder Ring:

  • AE - Advanced Economies
  • EA - Europe Area
  • ECB - European Central Bank
  • PIGS - Portugal, Ireland, Greece & Spain
  • EFSF - European Financial Stability Facility (Eruopea's TARP)
  • CDS - Credit Default Swap
  • EFSM - European Financial Stabilisation Mechanism
  • IMF - International Monetary Fund

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