Obama's collect call to Madrid

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Charles Lane;
Copyright 2010
Friday, May 14, 2010; 5:11 PM

President Obama has his own problems controlling the U.S. budget deficit, having recently farmed the issue out to a bipartisan commission. But that didn't prevent him from calling Spain's prime minister, Jose Luis Rodriguez Zapatero, the other day to kibitz about getting Spain's fiscal house in order. Specifically, the president "encouraged" (the White House's word) Zapatero to follow through with an austerity plan much tougher than any deficit reduction contemplated in the U.S., including a 5 percent cut in public servants' salaries and an end to cash benefits to parents of newborn children. I'm sure Zapatero found the message especially welcome coming from a U.S. leader who insulted him last February by belatedly canceling a trip to the European Union summit in Spain and letting Zapatero find out about it through the press. But, from Obama's point of view, it was justified -- and necessary. Justified, because much of the money the U.S. is borrowing these days goes to underwrite the International Monetary Fund; and some of that money is being funneled to the European mega-bailout of which Spain is a principal beneficiary. So, via the IMF, the U.S. government has essentially co-signed a piece of Spain's debt and has a right to make sure the Spanish get their act together to pay it. But the president's nudge to Zapatero was also necessary, because, even more than Greece, Spain poses a menace to the stability of the U.S. economy. And for that, of course, I blame the French. Here's why. Along with their German counterparts, French banks hold hundreds of billions of euros worth of the public and private sector debt of the PIGS (Portugal, Ireland, Greece and Spain). The French financial sector has more than $220 billion worth of exposure to Spain, according to the Bank for International Settlements. Losses on that would be a huge hit to French bank capital, which would be a disaster for the U.S. because French banks happen to be the largest issuers of commercial paper in U.S. money market funds -- to the tune of $219 billion, according to data provided to me by analysts at JPMorgan. If the French banks take losses on Spain and Greece, then their paper gets downgraded by ratings agencies, U.S. money market funds can't accept it any more, and suddenly we could be right back in the scary situation we faced in September 2008, with suddenly illiquid money market funds "breaking the buck," and facing a run that would ruin the U.S. economy. That's why Obama had to place his call to Zapatero, and why one of the key pieces of the big Euro bailout was the Federal Reserve's offer to extend dollar swaps to the European Central Bank. The French banks can now go to the ECB for the U.S. currency they need to fund dollar-denominated business activities, instead of recurring to the U.S. money markets. Which brings us to Rep. Mike Pence (R-Ind.), who, along with several colleagues from his party, has introduced a bill called European Bailout Protection Act.The election-year measure would prohibit any U.S. funds that have yet to be drawn by the IMF from going to Europe until all the countries in the Eurozone are in compliance with the EU's own debt-to-GDP ratio requirement. Since that's an impossible goal, the bill would force the U.S. to abort the IMF mission in Europe, providing Americans with great emotional satisfaction, probably followed shortly thereafter by the aforementioned economic meltdown. Back in the real world, Obama's use of the IMF bailout as leverage to impose austerity on Spain and the others would exact the requisite pound of flesh with less risk of damage to ourselves. In this case, the hypocritical course of action is the only responsible one.


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