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26 augustus 2012

Public letter to Mrs. Lagarde and Dr. J. Weidmann

Recently, August 16, we wrote both Mrs. Lagarde head IMF and Dr. J. Weidmann, head of the German Bundesbank the following suggestion for solving the Eurocrises.

 

Flaws in weaving


Very often weavers intentionally add a flaw to their work as a sign of humility; they recognize only God as perfect and do not wish to appear vain or to be the target of envy. The Maastricht Treaty however goes too far in this. It includes a flaw in the proposed solution for the support of the Euro, which denies both the fundamentals of short and long term funding as well as the potential for local manipulation.
 
The Euro area consists of 17 Member states, each having their own cultural habits, climate, level of prosperity and economic development. The first flaw in this weave is the presumption that the average European actually exists. Indeed a single interest rate in the Euro area is not favorable for the economic development and competitive edge of the area, nor for the individual Member states or for the Euro area as a whole. It eliminates the influence of those local forces that are necessary to accelerate or restrain local developments. The second flaw in weave is the fact that Member states may borrow from the Capital markets and not from the ECB. The third flaw is the ability for banks in the Euro area to lend money to other banks in the area. 

Heterogeneity

What is the reason for existence of the Euro area? The creation of a single-currency economic zone. Fair enough. But lending money to the weaker economies at the same interest rate which the ECB applies to the stronger Member states, appears to be an anti-market mechanism. The consequences are dramatic and we must regain control. How? The first condition is that Member states can only borrow money from the ECB and no longer from the Capital markets.  In order to fund these loans, the ECB will issue Eurobonds. Let’s call them ‘OK-Euro Golden Bonds’ while distinguishing four risk classes: AAA, AA, A and BBB.
 

Differentiation

Each Member state in the Euro area can only borrow money from the ECB in accordance with its borrowing capacity, which depends on its level of public debt (public debt versus GNP). We distinguish four tiers, inspired by the organic Fibonacci-sequence: the first level applies to Member states having a public debt ratio of maximum 61.8%, the second level of 85.4%, the third level of 100% and the fourth level more than 100%. Obviously for every level a different interest rate must apply. Let’s assume that the first level group can borrow against Euribor, actually 1%. Still inspired by the Fibonacci-principle the following interest rates apply: the second level at 6.18%, the third level at 8.54% and the fourth level with a minimum rate of 10%. This can be analyzed as follows:

Tabel 1) Debt in millions and four interest levels 

         Debt x Million At 1% int.  At 6,18% int. At 8,54% int.  At 10% int.
Belgium       377.314     229.070        87.497         54.076        6.672
Germany     2.111.985   1.599.606       512.379              0            0
Estonia         1.069       1.069             0              0            0
Ireland       174.252      99.257        37.913         23.431       13.651
Greece        280.427     130.901        50.000         30.902       68.624
Spain         774.549     663.936       110.613              0            0
France      1.789.393   1.239.805       473.563         76.025            0
Italy       1.946.212     975.527       372.618        230.291      367.776
Cyprus         13.228      10.959         2.269              0            0
Luxemburg       8.997       8.997             0              0            0
Malta           4.831       3.981           850              0            0
Netherlands   402.084     372.008        30.076              0            0
Austria       222.562     187.144        35.418              0            0
Portugal      189.979     105.115        40.150         24.814       19.899
Slovenia       17.030      17.030             0              0            0
Slovakia       32.358      32.358             0              0            0
Finland        93.320      93.320             0              0            0
Total       8.439.590   5.770.083     1.753.346        439.539      476.622   
                                                  

                                                LEVEL 1           LEVEL II             LEVEL III         LEVEL IV

I wonder how this table will look when it is applied to the 2013 budgets.

Impact

Abandoning the single interest rate weave, the following more realistic interest rates will have to be paid :


Table 2) Interest division per level, per country and per GNP

Country     Int.AAA  Int.AA  Int.A  Int.BBB    Total    Int.per country  In% GNP
Belgium       2.291   5.408  4.619      667    12.984           3.44%     3.50%
Germany      15.996  31.667      0        0    47.663           2.26%     1.84%
Estonia          11       0      0        0        11           1.00%     0.07%
Ireland         993   2.343  2.001    1.365     6.702           3.85%     4.17%
Greece        1.309   3.090  2.639    6.862    13.901           4.96%     6.56%
Spain         6.639   6.836      0        0    13.476           1.74%     1.25%
France       12.398  29.268  6.493        0    48.159           2.69%     2.40%
Italy         9.755  23.029 19.669   36.778    89.231           4.58%     5.65%
Cyprus          110     140      0        0       250           1.89%     1.41%
Luxemburg        90       0      0        0        90           1.00%     0.21%
Malta            40      53      0        0        93           1.91%     1.43%
Netherlands   3.720   1.859      0        0     5.579           1.39%     0.93%
Austria       1.871   2.189      0        0     4.060           1.82%     1.34%
Portugal      1.051   2.481  2.119    1.990     7.642           4.02%     4.49%
Slovenia        170       0      0        0       170           1.00%     0.48%
Slovakia        324       0      0        0       324           1.00%     0.46%
Finland         933       0      0        0       933           1.00%     0.49%
Total        57.701 108.363 37.541   47.662   251.267           2.98%     2.66%

                                                                 avg.           avg.
SALES PRICE 

TO A COUNTRY           1%    6,18%    8,54%    10%           
 

COMPENSATION 
TO AN INVESTOR       0,5%    5,68%    8,04%    9,5%           

Summary

  1. Banks should only be allowed to lend money either directly to the private sector or to local governments and otherwise only to the ECB, in such case being compensated at the AAA interest rate. 
  2. Member states pay their interest rates to the ECB in accordance with the above mentioned tiers of the debt-GNP ratio. 
  3. Both the ECB and all Member states should will thus have the opportunity to accelerate or to restrain local developments. 
  4. The related funding can be obtained via the above BBB-bonds at the interest rate, now indicated as 10 percent, however this percentage can be modified in accordance with the ECB.
  5. The proposed system is flexible, robust and transparent. 
  6. It respects the solidarity of the Euro area and adjusts the flaws in the Maastricht weaving.
The tables can be obtained in Excel via www.ok-score.eu
 
The OK-Score Institute is the first BENELUX rating agency established in 2003 in Rotterdam in the Netherlands.

W.D. Okkerse CEO
OK-Score Institute
Weena 737
3013AM Rotterdam
www.ok-score.nl

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