Wednesday, November 21, 2012

France Takes Center Stage

Long time readers (ok, there are none... I admit this is the least popular blog on the internet) will know that I've been looking at France as the real tipping point for the crisis see here, here and here.  In fact, it's a shame that nobody seems to read this blog, because That Retired Guy (TRG) has been pretty good at predicting the crisis (just a little early on most of his calls).

Recent events as well as this brilliant cover on the Economist bring TRG welcome vindication.

As if on cue, immediately after the above was published, Moody's came out with a downgrade on Frances debt.  S&P already made that judgement, but that mattered less for two reasons. 

First, S&P had already lost any credibility that might remain when they botched the US downgrade.  Of course saying S&P is the least credible of the rating agencies is a bit like saying they are the worst wreck in the junk yard, but it made it possible to completely blow them off rather then giving some short consideration.

Second, for any institutions that use credit ratings in their investment criteria, the rules are generally structured such that when the agencies disagree then the outlier is discarded (up until now, the outlier for France was S&P).  Of course investment criteria everywhere are a bit of a joke, and can always be changed (or completely ignored) if the investor decides.  For a great example, look at the ECB and their collateral criteria which used to rely on rating agencies until the agencies inconveniently started marking down European sovereign debt.  At that point, the ECB promptly changed the requirements so the debt of Europe's sovereigns would continue to function as collateral.  A bit like a parent who can't get their kid to come home on time, and fixes the problem by setting a LATER curfew.

So what now?  That depends, it is still possible to blow off the ratings agencies, and ignore the Economist (and those other haters in the press).  France's bonds are still priced at RIDICULOUSLY low levels.  They have started to creep up this week, but they have a long way to go.  The 10 year bond in France is currently at 2.15%, and it will not gain much attention unless it raises above 3.5% quickly.

The crisis may not kick off for France until the January or February, but something important has still happened this week.  This is the week that the ball gained momentum, not much, but more momentum then Hollande's government is likely to control.  It's not out of control yet, but it's on a track with few likely detours and a big catastrophe at the end.  Sure the track is long, probably longer then we can guess, but does that really matter when we know what's at the end?

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