Euro still in crisis mode

The euro is still in crisis mode despite central banks moderating borrowing rates to give the ECB easier access to forex. Germany's recent failure to sell a full allotment of 10-year notes indicates that countries are unable to issue new debt to meet cash obligations. The Eurozone has a collective $241bn funding gap between bonds issued in 2011 and payments due at the end of the year. There is no way they can simply cover that in 30 days by selling assets. A Financial Times commentator asserted several days ago that "the Eurozone really has only days to avoid collapse."

Perhaps the most unfortunate aspect is that a Germany-sponsored bailout would be best for everyone, says a UBS Investment Research report. Germany doesn't want to end up with an overvalued currency like Switzerland, so it needs the peripheral countries just as much as they need a German-led guarantee for their debt. The problem is Germany doesn't have the cash to bail everyone out, and markets are not going to tolerate the idea of a Eurobond composed in part of peripheral country contributions (a house of cards if there ever was one).

The wheels for a breakup are already being set in motion. Icap, the world’s largest electronic trading platform for foreign currency, said last Sunday that it was testing its trading mechanism for Greek drachma, just to make sure it still works. Countries are quietly unearthing old images for coins and bills. It’s anybody’s guess as to whether they will still work, since they are configured on obsolete technology. Several countries have completely deactivated their federal mints (for 17 member countries, only 11 actually print euros). The restoration of old currencies will be aided by more sophisticated automated teller machines and cash registers but it will still require a lengthy transition period.

Meanwhile, no one really knows what the rules are for the breakup. Will the weaker countries simply be kicked out of the Euro? If so, under what criteria? Will it be enough just to expel Greece or will stricter criteria have to be used to effectively limit the Euro to the northern zone? Will castaway countries fend for themselves or reorganize into another currency bloc - and, if so, will the ECB support them or will they need to create new institutions? These are just a few of the pertinent questions.

Finally, let’s not forget that there is a cost to restoring fiat rights. It was estimated that the Euro’s introduction provided a one-time 0.5% boost to GDP for each member state due to savings from not having to exchange the single currency, so we can expect the reverse for the return to national currencies. In addition, retailers in some countries will incur significant cost as rapid inflation will force them to adjust their prices.

One thing's for sure: it will be a cold, painful winter.