Grezone - Game Over - Interview in 24 hours

Grezone - Game Over - Interview in 24 hours
July 25, 2012

"Business models will be shattered ... companies will go bankrupt ... and only certain players will emerge from the rubble ... It's going to be a new age " Market Analysts

Question: The financial collapse in the euro area is not only inevitable, but will happen soon. This rather startling conclusion is one of the first made in the Manifesto of Survival, presented by the team of experts from Bulgaria, EU and the US who participated in the first edition of Sofia's Business School. Does this mean that a severe financial catastrophe comes next in the euro area?

Answer: We did not want to darken the colors too much, but the inertia observed forced us to speak out. The Eurozone in its present form will not continue to exist. I'm afraid that options for smooth or controlled transition have been exhausted. Clearly, we are entering the endgame phase of the sovereign debt crisis.

The European political elites have failed miserably and have only managed to “kick the can down the road” and postpone the public acknowledgement of their defeat.  The European market leaders and the public institutions do not enjoy anymore the trust and have lost the moral high ground and social support needed to guide and control the process of creative destruction and steer it into the mainstream of new growth pattern. In the debate on the Manifesto during the SBS master classes the most shared view was that the situation is gone from to worse to bad and nothing seems to too radical in addressing both analytical and remedial action.. Unfortunately, the economic theory in its present state does not seem to provide any clues on what needs to be done. Mechanical Keynesianism is not a recipe - the problems arouse from excessive public spending and deficits. More Keynesianism will only worsen the situation. Therefore, any calls to stimulate economic growth through public investments without underlying primacy of financial and fiscal discipline remains a short cut to terminal disaster.

Question: Leading experts of the Sofia Business School predict that when the crash happens, it will inflict unpredictable financial, economic and political shocks. What in particular can be done in such turbulence?

Answer: It is beyond any doubt that for many Southern European countries, the U.S. and even China the scenarios for a lucky exit from the crisis are limited. The mismatch between the virtual and real economy and finances, the sheer scale of the social and financial deleveraging needed to balance off the system are mind boggling. It was not by accident that 15 years ago financial derivatives were tagged as the new weapon of mass destruction. And the value destruction we witness has not parallel in history.

The gap between what the markets expect citizens to sacrifice in order to regain a balanced status and what people are ready to offer is startling. And consumers and taxpayers will have to foot the bill in any case. There is a growing consent that Greece will need another 30 percent haircut on the debt, to reach a sustainable level of servicing its debts and regaining its economic growth trajectory. There is no sign of the Greek people being ready en masse to take the bitter pill and rediscover the merits of hard work and fiscal discipline. The salvation en groupe depends on shared values ​​of teamwork, concerted action and survival instinct driven sense of solidarity, which many countries of Southern Europe seem not to possess. Reports that some banks in South Europe have ceased to acknowledge letters of credit and bank guarantees from troubled countries is a poignant marker of a doom. Recourse to “sauve qui peut” action will make future coordinated financial rescue mission obsolete.

During the exchanges at the master classes of the Sofia Business School it was noted that Bulgaria enjoys certain advantages at the "entrance" of the crisis, but the resilience buffer is insufficient. The difference with Greece is very subtle; the Greeks entered at their will into debt which they currently can’t service. The generated wealth in the process (regardless whether done in a socially just way) will remain in the Greek national bounty irrespective of the crisis outcome. A "cost-benefit" analysis might even turn up in positive grounds given the consecutive debt haircuts. No foreigner will take away the developed transport and urban infrastructure, the industrial and financial and industrial assets acquired or generated in Greece or abroad.

In a stark contrast Bulgaria’s lower income levels lead to lower marginal cost of stability in the banking and financial sector, including lesser belt tightening to achieve balanced budgets and meet Maastricht criteria. The Bulgarian companies, however, do not enjoy comparable access to credit tot that offered by Italian, Spanish or Greek banks', which allow companies in the “troubled” economies to restructure operations, write off in whole or in part NPLs and retain their market share. Bulgarians have to equal access to EU funds, export financing, insurance and subsidies, particularly in agriculture and food industries, and in addition are restricted on labor mobility, etc.

Corporations, institutions and citizens in developed countries scan the crisis environment for opportunities for new markets and growth potential. Bulgarian institutions, companies and citizens typically feature lower degrees of globalisation, which limits their scope of earliest possible identification of risks and opportunities. The main culprit is the type of provincial globalism - preached and practiced in the country over the past twenty years.  Bulgaria has entered NATO and ever since has ceased to upgrade the national capacity to independently assess and accommodate old and emerging new military and terrorist threats. We have also entered the European Union eyeing as the next step the EMU trusting that this will ultimately underwrite the currency board.

We depend almost entirely on foreign partners to alert us on conventional and non-conventional threats in field of internal and external national security. We rely on foreign investments and capital to drive our economic engine, generate wealth and increase living standards. Compare this behavioral pattern with that of the Dutch, Finns and Danes, Estonians and the Poles. The business and political leaders of these countries do not look back when exploring for opportunities and market risk diversification, visiting Asia, Africa and Latin America.

Q: Do you think Bulgaria has a contingency plan to respond to this emergency – as according to the Manifesto a mortal danger is ahead?

Answer: The threat is genuine and imminent and a contingency plan is long overdue. Some of the steps should not be made public as they can easily cause over-reaction - panic, despair or speculative moves etc. But the key elements of this plan should be developed to match different risk levels - institutional, corporate, social, financial etc.

First, we must assess the crisis impact and map areas of vulnerability. Bulgarian institutions have failed to generate an independent, flexible and diversified matrix and network connectivity. We are over reliant on hierarchical linear or one dimensional relationship – with NATO, EU, EMU, the IFIs, etc., underestimating the significance of the independent endogenous and exogenous connectivity of Bulgarian individuals, corporations and institutions. The result is that the Bulgarian "global network" linkages are unevenly spread and matured. If the safety net has many deficiencies or "loopholes" it wouldn’t be capable of dampening free falls and of rebounding those in need.

Second, each crisis is specific and therefore treatment should be case and area specific. In the wake of perhaps the most acute phase of the global financial and economic turmoil what matters most is the quality of the crisis management chest - the size and type of buffers - liquid and callable resources to react (even at the cost of entering into new debt) and above all trimming non-essential public spending. Any thrust to boost public investments in order to reignite economic growth and reach monetary balances, except for essential costs on critical social and economic systems and services, is a quantum leap into the precipice. Not accidentally, countries, stuck in debt, support the French initiative for greater union solidarity, thereby internationalising costs and nationalising benefits.

In the hot phase of the collapse of the euro area crisis plans should involve besides bank recapitalisation securing the free flow of credit to business and household consumption and safeguards against critical deficits of energy resources and strategic goods. Contingencies plans should also entail bail outs of distressed banks, financial institutions and key companies, but solely in exchange of equity. Temporary nationalisation is preferable to "rescue deal" with easy taxpayers’ money coming to the rescue of rich shareholders and covering up the flawed governance in private banks. On the other hand - the government should closely monitor the state of its "open wounds" – industrial and transport “prides” like BDZ, BEH, NEC, Bulgargas, healthcare and pension systems, which could easily drain the public finances. Privatisation is no instant cure - it requires a long term horizon. However crisis management teams might prove more relevant. NPP "Belene" must be immediately halted, because on its own it can financially suffocate the whole Bulgarian economy.

Special treat should be given to currency risks, as a potential drop in the value of the euro will instantly lead to reciprocal fall in the value of euro-denominated assets. After a time lag currency depreciation potentially adds to the competitiveness of the exports of goods and services outside the EU market. Bulgarians can do little to nothing to reverse the course of the history and the fall of the euro zone; but we can do a lot more to minimise potential billion euro losses in asset value. The Bulgarian state has billions in public assets with unaccounted for value that is absent from the public books. In all events, contingency plans should be drawn and backed with adequate human, financial, administrative, etc. resources as when the storm hits there will be no time for reflective and extensive analyses. Just like in blitz chess what matters most are home practised openings, intuition and playing technique.


Question: If the bankruptcy scenario for Greek happens - and some leading experts in fact believe, Greece is beyond salvation, do you think that Bulgaria is capable of and has an efficient banking system, to soften the bruises that ordinary citizens and their savings will incur in a financial meltdown?

Answer: It is believed that Greek banks were not a net contributor, but rather a victim of the sovereign debt crisis. The fact is that their cross-border expansion was largely made possible by the ability to issue euro debts and have privileged access to virtually unlimited low interest euro supply. Technical analysis suggests the most likely scenario for them will be a retreat and consolidation in their Greek home base.

In the current situation the biggest challenge Greek banks face is to match theirs means with their expanded asset base in CEE and Turkey and continue to broker between large portfolio investors and the region. It is a mission impossible under a uncontrollable exit from the Eurozone and a a return to the drachma in one form or another. They might have to dispose of most of the assets in the CEE in earnest and this might trigger tensions both in mainland Greece and abroad. If Greek parental banks fail to secure access to short term capital to enhance liquidity (in practice Greek banks rely for short term financing only on the ELA) and long-term finance – an absolute must in restructuring the economy, they will be driven crowded out of the region.

In Bulgaria we can’t remain indifferent to the fate of Greek banks in Bulgaria and to their role in containing the crisis and restructuring the country. There is no need to comment on whether the BNB and the government are ready to react – they surely have contingency plans. One should always keep in mind, however, that all of the European banks that recently defaulted or have sought bail outs had successfully passed the rigid stress test using more restrictive risk models. With few anchors of trust in the banking and financial systems, markets have resorted to external intermediaries complementing banking supervision – as is the case in Greece and Spain. Accounting standards have loop holes too, suggesting the need for a continuous dynamic financial health monitoring mechanism of banks.

Q: Experts like Professor Kevin Dowd and Gordon Kerr recommended – hardening of the currency board, to make up for the weakening of the euro anchor, by pegging to gold. Professor Nicholai Nenovski believes that the local currency might be a better option to the euro. What does Bulgarian need to remain financially stable, or at least be protected from head-on collision with debris in the euro area?

Answer: Monetary systems are quite complex and gold is no panacea, there is no "silver bullet" type decision. Each country has a different risk profile. Some solutions require more time and a detailed analysis of overall and specific impacts, benefits and costs. The most practical way might be to strengthen the euro anchor through partial conversion of CB euro reserves into stronger world currencies and strategic goods asset that better uphold their value better at times of crisis. A critical eye should be cast on the currency structure of the debt - as there may lay a hidden potential for losses/gains in value. I am sure that in this respect something is being done, but I'm not that sure as to the merits of confining knowledge and expertise solely to the government and the banks, and not sharing it with the public and private sector, the NGOs and the citizens. The program directors of the the Sofia Business School Professors Dowd and Nenovski have attracted top speakers who will be asked to engage in analytical work in this area during the autumn and winter editions of the SBS master classes.

Question: The Manifesto recommends as part of emergency measures, a transitional currency board to protect the levs - what exactly should be done?

Answer: Hardening of the Bulgarian lev peg is a specific step - namely in the aforementioned way - partial or interim replacement of the anchor – from solely to the euro to a basket of strong currencies and strong strategic commodities – such as gold, oil and gas (especially if we press on with on and offshore exploration and production), foods etc.

Surely there will be objections, mainly on the short-term loss in price flexibility and export competitiveness. Steep declines in the value of the euro, however, would trigger much greater losses in the public and individual wealth that the potential damage caused by worsened terms of trade. Family silver protects value better than fiat money.

Here we only set the framework of the issue. On the currency board hardening there is a clear need for technical analysis and specific action plan.

Question: Now all eyes of the institutions and the public are fixed on the security situation in Bulgaria following the terrorist attack in Burgas Airport. As a diplomat, do you believe that Bulgarian foreign policy has given some cause to foreign terrorist groups to launch this attack here and now?

Answer: Those who aim at finding a hidden reason for the attack and focus on real or perceived flaws of Bulgarian diplomacy will always find the needle in the haystack – be it in the hosting of the Syrian opposition meeting, or in the numerous visits to Israel, or in the growing number of Israeli tourists or the lack of "balancing" visit to Tehran. This of course is nonsense. Bulgarian foreign policy should have a backbone and be able of withstanding when confronted with grave security risks and challenges. However, engaging in proactive diplomacy calls for a national consensus building on key foreign policy objectives and communication mechanism securing essential public support. An atmosphere of mutual recriminations and political attacks is hardly conducive to balanced and lasting solutions. We need a professional and tacit exchange on these national security issues.

The Bulgarian security system might have some structural and strategic gaps. But they have not happened overnight and are certainly not the deed of any single government. Consecutive Bulgarian Governments have contributed to this stalemate pursuing a policy of mechanical accession to NATO and the EU.  Once in the NATO – the paradigm went – security is automatically guaranteed – no need to invest in army or secret services. Similarly, we thought that only once we enter the EU and economic growth and prosperity will be bestowed upon us; no need for hard work and targeting non-EU markets. This vicious momentum is so strong that that die hard supporters enamoured with the Euro Zone continue to preach a quick entry, regardless of the fact that it is breaking apart. This is a clear cut geopolitical myopia, the cornerstone of a belief that there is no need for an elaborate and independent Bulgarian national foreign policy on global issues, i.e. our new partners will digest for us the risks and benefits of global environment and provide ready made answer. Thus we set out to reduce defence and secret service budgets, proclaimed that close integration between diplomatic and security services is a bane and slashed MFA budget by nearly 50%. Now we totally rely on American or Israeli authorities to alert us on pending attacks, and if, by chance something goes wrong with their preemption we are helpless. Yet we have our own counterintelligence, foreign and military intelligence / traditionally strong in the Arab countries and among Islamists /.

My professional expertise as an ambassador, with specific coverage of terrorist attacks involving Bulgarian citizens, unequivocally ascertains the autonomous capacity of the Bulgarian diplomatic and special services to act in tandem in saving human lives. One does not need any ideological clichés and caveats to be able to work for national interests or to help people survive.

No matter how significant might be the real or perceived security terrorist threat facing Bulgaria, it could easily be dwarfed by self-inflicted injuries that political squabbles and selfish interest groups can cause. A look at Romania would suffice; the potential for discord and political uncertainty in Bulgaria in the "eye” of the crisis is hard to ignore. A similar political all- out fight, with no back track option and tons of political egos at stake is ravaging the political landscape in Bulgaria. Therefore, the Consultative Council on National Security should amongst other anti-crisis measures consider the issue of extending the Currency Board into the political, financial and security areas; before it is not too late.

Ambassador Ilian Vassilev