“A spectre is haunting Europe, the spectre of a global and unrelenting crisis” It is now starkly clear that a financial meltdown across the Eurozone and beyond is not just inevitable but imminent: many informed observers are predicting it from September onwards. This is the result of years of policy failures by governments across much of the developed world. Instead of resolving problems by addressing their underlying causes – excess borrowing, irresponsible risk-taking, flawed bailout rescue schemes and so on – they have made them much worse: they have kicked the can down the road, issued and continue to issue debt like confetti and resorted to ‘smoke and mirrors’ financing arrangements that seek to deny economic reality. But reality is rapidly catching up and the whole massive structure of unsound short-term debt finance is now set to collapse under its own weight.
When it happens, this collapse will bring potentially unimaginable financial, economic and political upheaval.
It is of course a cruel irony that Bulgaria has in no way contributed to these problems. Nonetheless, they pose a grave threat to new EU members, including Bulgaria.
Bulgarian institutions, corporate entities and citizens therefore need to ready themselves, as there will be no time to think when the storm hits. Amongst other measures, this requires:
Contingency planning: All Bulgarian institutions need to prepare contingency plans: they need to work out impact and risk mitigation studies on now how they might be affected and what they should do in response. And it is the essence of contingency planning that it be done in advance: given the dangers, to ignore the problem until the storm hits is not just irresponsible but potentially catastrophic. At this point in the crisis, drafting and communicating contingency strategies for Bulgaria would reduce uncertainty, , and potentially could even improve the capital flow situation and spur export led economic growth.
Eurozone exposure: Bulgarian institutions need to sharply reduce their exposure to the Eurozone. In particular, both the government and the central bank need to move out of euro-denominated assets and into safer assets – most especially commodities including precious metals and energy resources. They also need to focus on their obligation to promote Bulgaria’s national interest and back away from commitments to support any more doomed bailouts or quick fix federalism or attempts to disguise individual country responsibility as ECB/EU crisis response policies that are morally as well as financially bankrupt. EU should restore its moral and political integrity, return to the original genuine and organic anchors and values set by the founding fathers.
The banking system: As a matter of urgency, plans need to be drawn up to protect the Bulgarian banking system. These plans would include:
- measures to respond to problems emerging from the Eurozone and beyond;
- measures to protect the liquidity of the Bulgarian banking system and ensure its ability to continue to extend credit to the Bulgarian economy;
- measures to resolve insolvent banks without resorting to publicly funded bailouts – evidence from other countries abundantly shows that bailouts only make problems worse – and
- measures to strengthen corporate governance, accountability and accounting standards in banking.
A hard currency board: The currency board needs to be strengthened and its assets protected. The currency itself needs to be storm-proofed and this requires that the central bank operate on a reserve ratio of at least 100% and that its assets be safe from loss when the Eurozone falls apart.
The currency peg: the Lev cannot remain pegged to a currency that is about to fall apart. To remain pegged to a collapsing currency is to allow one’s own currency to be destroyed as well, and Bulgarians will need no reminding of the horrors of monetary chaos: the memories of the hyperinflation of the 1990s are still very raw.
Contingency plans therefore need to be drawn up in the event of abrupt and substantial loss in value of the euro and institute transitional arrangements leading to a hard Lev whose value is beyond even the possibility of attack. A temporary arrangement might be a peg to one of the sounder foreign currencies but ultimately the only reliable peg is a commodity peg and in practice this means gold. Pegging Lev to the gold is not impossible and unrealistic proposal; they are different variations of the gold or commodity standards, all of them technically reflected and elaborated.
Needless to say, there are many details to be worked out but we intend to discuss our proposals further at the Sofia Business School and then issue a more detailed paper afterwards. Nonetheless, the basic principles of a strategy for survival are already clear.
Just remember one simple point: what cannot go on, will stop. Bulgarians might not be able to do anything to avert the coming financial collapse, but they can and should prepare themselves for it. When the music stops, the collapse of the Eurozone and of much else could be very soon and very sudden. It pays to be prepared.
Time is of the essence. The question is not if but when the crisis hits and it will be too late to draft emergency response plans when the storm is in full swing.
This paper was discussed with the participants of Sofia Business School Master Class 2012 at the “Global Financial and Economic Risks” sessions and we are grateful for their valuable contributions.
Prof. Kevin Dowd
Prof. Nick Nenovsky