Willem Buiter warns of massive dollar collapse

Americans must prepare themselves for a massive collapse in the dollar as investors around the world dump their US assets, a former Bank of England policymaker has warned.

By Edmund Conway, Economics Editor
Last Updated: 3:05PM GMT 06 Jan 2009

MPC founder member Willem Buiter. Photo: CHRISTOPHER COX

The long-held assumption that US assets - particularly government bonds - are a safe haven will soon be overturned as investors lose their patience with the world's biggest economy, according to Willem Buiter.

Professor Buiter, a former Monetary Policy Committee member who is now at the London School of Economics, said this increasing disenchantment would result in an exodus of foreign cash from the US.

The warning comes despite the dollar having strengthened significantly against other major currencies, including sterling and the euro, after hitting historic lows last year. It will reignite fears about the currency's prospects, as well as sparking fears about the sustainability of President-Elect Barack Obama's mooted plans for a Keynesian-style increase in public spending to pull the US out of recession.

Writing on his blog , Prof Buiter said: "There will, before long (my best guess is between two and five years from now) be a global dumping of US dollar assets, including US government assets. Old habits die hard. The US dollar and US Treasury bills and bonds are still viewed as a safe haven by many. But learning takes place."

He said that the dollar had been kept elevated in recent years by what some called "dark matter" or "American alpha" - an assumption that the US could earn more on its overseas investments than foreign investors could make on their American assets. However, this notion had been gradually dismantled in recent years, before being dealt a fatal blow by the current financial crisis, he said.

"The past eight years of imperial overstretch, hubris and domestic and international abuse of power on the part of the Bush administration has left the US materially weakened financially, economically, politically and morally," he said. "Even the most hard-nosed, Guantanamo Bay-indifferent potential foreign investor in the US must recognise that its financial system has collapsed."

He said investors would, rightly, suspect that the US would have to generate major inflation to whittle away its debt and this dollar collapse means that the US has less leeway for major spending plans than politicians realise.

How Gold Is Being Driven by a $4 Trillion Hallucination

Wednesday morning, the United States Treasury Department issued a press release that constituted the Treasury Borrowing Advisory Committee’s (TBAC) report to the Secretary of the Treasury. TBAC membership is derived from senior members of the Securities Industry and Financial Markets Association. These would be the proverbial foxes advising the chickens - a favorite Midas Letter theme.

This group forms the consulting connection between the U.S. Treasury and the investment industry who is tasked with finding investors for U.S. debt so that the behemoth debt machine can continue its primary function of maintaining the United States standard of living at the expense of foreign treasuries.

Remarkably, the foreign treasury managers have either not yet caught on, or are duplicitous in maintaining the illusion of a sustainable deficit government that would swallow the global GDP of several generations should it ever be called for repayment.

This group meets in closed conference in a hotel in downtown Washington, and the Treasury lays out what it needs, and the TBAC tells them how they think it can be done. What is interesting in the published minutes of the meetings is that it now is apparent that both sides are concerned solely with rolling out new and modified debt instruments in increasing quantity to service the debt requirements of the nations future spending requirements. Servicing current debt is barely mentioned, though one might deduce that those requirements are incorporated by default into future borrowing figure requirements. (The following quotes are taken from the press release):

The deterioration in the budget outlook, combined with expenditures associated with the TARP, potential FDIC guarantees, and expected additional stimulus spending have increased private forecasts for total funding needs of the U.S. government for fiscal year 2009 to approximately $2 trillion. This is likely to stress the existing auction schedule and consequently warrants tangible adjustments to that schedule.

Faced with an unprecedented increase in net borrowing needs, the Treasury in its first charge to the Committee sought our advice and recommendation on changes to the auction calendar for debt issuance.

The strategy for financing the new debt required for the TARP (Toxic Asset Relief Program) purchases and the stimulus packages calls for the expansion of debt instrument auctions across the entire maturity spectrum:

Faced with such extraordinary financing needs, the Committee focused on the optimal potential size of each coupon issue, while not jeopardizing a successful auction process.

It was the Committee's recommendation that existing monthly 2-year and 3-year notes could be increased by $5 billion in size, to $45 billion and $35 billion, respectively.

Furthermore, the Committee recommends that monthly 5-year notes have the greatest room for expansion given their liquidity and focus and should be increased by as much as $10 billion per issue. This would bring the monthly issuance size to as much as $40 billion.

And lastly, the committee recommends that the Treasury increase the size of the newly issued quarterly 10-year notes by $5 billion and by $4 billion when re-opened the two months following the new issue. In other words, the sizes of the 10-year issuances would increase from $20 billion, $16 billion and $16 billion each quarter to $25 billion, $20 billion and $20 billion, respectively.”

What a brilliant solution! In the absence of demand, and abundant supply, issue more supply!

Significantly, the estimated spending requirement for 2009 has, in the estimation of this committee, now ballooned to $2 trillion, and the stipulation is made that a similarly grotesque figure will be required for 2010.

The net supply of Treasurys in 2009 and 2010 combined seems likely to total more than $3 trillion and could climb as high as $4 trillion. The Congressional Budget Office (CBO) estimates the 2009 Federal budget deficit to be $1.2 trillion. The consensus of private sector analysts is similar to that figure. Yet, neither the CBO estimate nor the private consensus reflect fully the funding needs associated with the Obama Administration's fiscal stimulus plans, the implementation of TARP (or another TARP-like program), or the rumored creation of a bad/aggregator bank to help deal with the underperforming assets weighing down financial institutions. Some of the funding of these government programs will spill over into 2010, a year in which the "core" budget position also will be weak according to mainstream expectations for economic performance.

Importantly, the committee acknowledges for the first time that China will likely be a less reliable sucker for the continued sale of the expanding sea of U.S. debt instruments:

China, on the other hand, could slow its accumulation of dollar-denominated debt. Such a trend already has begun to develop with respect to its accumulation of overall dollar assets as the flow of private capital into China has cooled alongside the global downturn, alleviating the need to offset capital inflows.

And, in apparent support of the argument for diminishing demand for U.S.Dollar-denominated junk debt, the committee suggests that having a bigger “primary dealer community” would bolster the odds against future auction failures. The solution appears to be to hire more salesmen.

And finally, a larger primary dealer community would help to reduce on the margin the possibility of an undersubscribed auction(s). There currently are just 17 primary dealers, down from 30 a decade ago. Government bond trading desks at the dealers also are not immune from sector-wide capital/balance sheet issues and desks at many dealers are being encouraged to minimize risk.

What an operation! How can this charade be allowed to continue? The only explanation, and it's glaringly obvious, is that nobody, from the executive administration level down to Joe the Plumber, is willing to step up and be first to pull the plug on the artificial standard of living we’ve created for ourselves at the current expense of foreign treasuries and at the future expense of our progeny.

What a sad statement on the integrity of the human race.

But, whatever. We can't afford to sit around and pity ourselves just because we allowed the thieves of Wall Street and Washington administer this unlubricated broomstick to our collective backsides.

The only intelligent thing to do, and yes I do believe there is a "stuck record" frequency developing here, is to buy gold and silver. This $4 trillion hallucination on the part of the United States financial mismanagers is directly dilutive to the the value of any currency issued by that bankrupt nation, and is therefore a natural exponential driver for the gold price.

Gold bullion, gold mining shares, and for maximum upside (with correlated risk) gold juniors. If you choose NOT to participate in gold, you will have no one but yourself to blame for the splinters you'll be plucking out from your derriere that have "In God We Trust" printed on them.

Ticker Forum: "There is a forced-liquidation event underway that is massive, it is against all asset classes and it is spreading"

I do not know what is going on here, and I don't think I want to. Someone,

apparently someone in Asia, wants dollars. A LOT of dollars. There is a

forced-liquidation event underway that is massive, it is against all asset

classes and it is spreading. It originated at approximately 7:15 CT this

evening and originated out of Asia somewhere. All of the primary currency

crosses got hit at once - Euro, Pound, Yen - all weakened dramatically

against the dollar and it is still going on. The Asian stock markets got

walloped at the same time in coordinated waves of forced selling. At the

same time the US futures markets got nailed as well, down some six

handles on the /ES in a near-vertical drop. While this sounds "not that big"

to move these markets in a coordinated fashion like this is a trillion-dollar

enterprise - this is not some small company that went bankrupt, or even a

large company. There is no news coverage at the present time identifying

the source of this but it is not small and contrary to some reports it is not

"automatic selling"; this is forced liquidation. Folks, if this translates into

Eastern Europe where there are severe instabilities already brewing literally

everything in the financial world could come apart "all at once." The worse

news is that if this happens Bernanke will have killed us by extending those

swap lines all over the planet during the last six months. These will become

uncollectable and they are massive, many hundreds of billions of dollars.

Chris Hedges: U.S. Military Preparing for "Violent, Strategic Dislocation Inside the United States"; Possibly from "Economic Collapse"

By Chris Hedges

We have a remarkable ability to create our own monsters. A few decades of meddling in the Middle East with our Israeli doppelgänger and we get Hezbollah, Hamas, al-Qaida, the Iraqi resistance movement and a resurgent Taliban. Now we trash the world economy and destroy the ecosystem and sit back to watch our handiwork. Hints of our brave new world seeped out Thursday when Washington’s new director of national intelligence, retired Adm. Dennis Blair, testified before the Senate Intelligence Committee. He warned that the deepening economic crisis posed perhaps our gravest threat to stability and national security. It could trigger, he said, a return to the “violent extremism” of the 1920s and 1930s.

It turns out that Wall Street, rather than Islamic jihad, has produced our most dangerous terrorists. You wouldn’t know this from the Obama administration, which seems hellbent on draining the blood out of the body politic and transfusing it into the corpse of our financial system. But by the time Barack Obama is done all we will be left with is a corpse—a corpse and no blood. And then what? We will see accelerated plant and retail closures, inflation, an epidemic of bankruptcies, new rounds of foreclosures, bread lines, unemployment surpassing the levels of the Great Depression and, as Blair fears, social upheaval.

The United Nations’ International Labor Organization estimates that some 50 million workers will lose their jobs worldwide this year. The collapse has already seen 3.6 million lost jobs in the United States. The International Monetary Fund’s prediction for global economic growth in 2009 is 0.5 percent—the worst since World War II. There are 2.3 million properties in the United States that received a default notice or were repossessed last year. And this number is set to rise in 2009, especially as vacant commercial real estate begins to be foreclosed. About 20,000 major global banks collapsed, were sold or were nationalized in 2008. There are an estimated 62,000 U.S. companies expected to shut down this year. Unemployment, when you add people no longer looking for jobs and part-time workers who cannot find full-time employment, is close to 14 percent.

And we have few tools left to dig our way out. The manufacturing sector in the United States has been destroyed by globalization. Consumers, thanks to credit card companies and easy lines of credit, are $14 trillion in debt. The government has pledged trillions toward the crisis, most of it borrowed or printed in the form of new money. It is borrowing trillions more to fund our wars in Afghanistan and Iraq. And no one states the obvious: We will never be able to pay these loans back. We are supposed to somehow spend our way out of the crisis and maintain our imperial project on credit. Let our kids worry about it. There is no coherent and realistic plan, one built around our severe limitations, to stanch the bleeding or ameliorate the mounting deprivations we will suffer as citizens. Contrast this with the national security state’s strategies to crush potential civil unrest and you get a glimpse of the future. It doesn’t look good.

“The primary near-term security concern of the United States is the global economic crisis and its geopolitical implications,” Blair told the Senate. “The crisis has been ongoing for over a year, and economists are divided over whether and when we could hit bottom. Some even fear that the recession could further deepen and reach the level of the Great Depression. Of course, all of us recall the dramatic political consequences wrought by the economic turmoil of the 1920s and 1930s in Europe, the instability, and high levels of violent extremism.”

The specter of social unrest was raised at the U.S. Army War College in November in a monograph [click on Policypointers’ pdf link to see the report] titled “Known Unknowns: Unconventional ‘Strategic Shocks’ in Defense Strategy Development.” The military must be prepared, the document warned, for a “violent, strategic dislocation inside the United States,” which could be provoked by “unforeseen economic collapse,” “purposeful domestic resistance,” “pervasive public health emergencies” or “loss of functioning political and legal order.” The “widespread civil violence,” the document said, “would force the defense establishment to reorient priorities in extremis to defend basic domestic order and human security.”

“An American government and defense establishment lulled into complacency by a long-secure domestic order would be forced to rapidly divest some or most external security commitments in order to address rapidly expanding human insecurity at home,” it went on.

“Under the most extreme circumstances, this might include use of military force against hostile groups inside the United States. Further, DoD [the Department of Defense] would be, by necessity, an essential enabling hub for the continuity of political authority in a multi-state or nationwide civil conflict or disturbance,” the document read.

In plain English, something bureaucrats and the military seem incapable of employing, this translates into the imposition of martial law and a de facto government being run out of the Department of Defense. They are considering it. So should you.

Adm. Blair warned the Senate that “roughly a quarter of the countries in the world have already experienced low-level instability such as government changes because of the current slowdown.” He noted that the “bulk of anti-state demonstrations” internationally have been seen in Europe and the former Soviet Union, but this did not mean they could not spread to the United States. He told the senators that the collapse of the global financial system is “likely to produce a wave of economic crises in emerging market nations over the next year.” He added that “much of Latin America, former Soviet Union states and sub-Saharan Africa lack sufficient cash reserves, access to international aid or credit, or other coping mechanism.”

“When those growth rates go down, my gut tells me that there are going to be problems coming out of that, and we’re looking for that,” he said. He referred to “statistical modeling” showing that “economic crises increase the risk of regime-threatening instability if they persist over a one to two year period.”

Blair articulated the newest narrative of fear. As the economic unraveling accelerates we will be told it is not the bearded Islamic extremists, although those in power will drag them out of the Halloween closet when they need to give us an exotic shock, but instead the domestic riffraff, environmentalists, anarchists, unions and enraged members of our dispossessed working class who threaten us. Crime, as it always does in times of turmoil, will grow. Those who oppose the iron fist of the state security apparatus will be lumped together in slick, corporate news reports with the growing criminal underclass.

The committee’s Republican vice chairman, Sen. Christopher Bond of Missouri, not quite knowing what to make of Blair’s testimony, said he was concerned that Blair was making the “conditions in the country” and the global economic crisis “the primary focus of the intelligence community.”

The economic collapse has exposed the stupidity of our collective faith in a free market and the absurdity of an economy based on the goals of endless growth, consumption, borrowing and expansion. The ideology of unlimited growth failed to take into account the massive depletion of the world’s resources, from fossil fuels to clean water to fish stocks to erosion, as well as overpopulation, global warming and climate change. The huge international flows of unregulated capital have wrecked the global financial system. An overvalued dollar (which will soon deflate), wild tech, stock and housing financial bubbles, unchecked greed, the decimation of our manufacturing sector, the empowerment of an oligarchic class, the corruption of our political elite, the impoverishment of workers, a bloated military and defense budget and unrestrained credit binges have conspired to bring us down. The financial crisis will soon become a currency crisis. This second shock will threaten our financial viability. We let the market rule. Now we are paying for it.

The corporate thieves, those who insisted they be paid tens of millions of dollars because they were the best and the brightest, have been exposed as con artists. Our elected officials, along with the press, have been exposed as corrupt and spineless corporate lackeys. Our business schools and intellectual elite have been exposed as frauds. The age of the West has ended. Look to China. Laissez-faire capitalism has destroyed itself. It is time to dust off your copies of Marx.

Can The Euro Survive?

Milton Friedman famously predicted that the euro would not last past their first economic crisis. This week we look at commentary by Niels Jensen that explores the news from Euroland. Can the euro survive? He explores a number of options which are most definitely not on the radar screen for most investors. It is good to get a perspective from those outside of our own back yard. Note that when he says "our country" he is referring to Great Britain.

Niels is the Managing Partner of Absolute Return Partners based in London (which is my European partner). I work closely with Niels for years and have found him to be one of the more savvy observers of the markets I know. You can see more of his work at www.arpllp.com and contact them at info@arpllp.com. The numbered footnotes are at the end of the letter.

John Mauldin, Editor
Outside the Box

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Do BRICs (and Germans) Eat PIGS?

When the euro was introduced about ten years ago, the pessimists didn't give it much chance of reaching its tenth anniversary. The euro, or so the argument went, was doomed from the outset because of the wide spread in economic performance and discipline amongst the member countries. At one end you had, and still have, the highly disciplined, but also slow growing, economies of Germany and the Netherlands. At the other end you find the faster growing but poorly disciplined countries such as Spain and Greece. As icing on the cake, you also had, and still have, countries that lack in both departments, such as Italy, making it difficult for the union to 'gel' - well, according to sceptics.

There is admittedly an embedded weakness in the way the European currency union is structured. In the United States, arguably that largest currency union in the world, fiscal transfers between member states allow for the federal government to adjust for variances in economic performances. There is no such mechanism within the euro zone, which explains why the member states are subjected to a number of rules1. These rules require for everyone to exercise a high level of economic discipline. The problem is that there is little or no such discipline.

The best example is the huge spread in the rise of unit labour costs over the past few years. Unit labour costs measure labour (wage) costs adjusted for changes in productivity. It is probably the best measure that exists in terms of tracking the changes in competitiveness between nations. When the Stability and Growth Pact behind the euro was established, there was no reference made to unit labour costs which, with the benefit of hindsight, was a major mistake. Even Jean-Claude Trichet, the Head of the European Central Bank, who rarely admits mistakes, has publicly stated that if he could design the currency union all over again, he would push for a unit labour cost stability pact.

Back to the sceptics. What they failed to realise was that Europe, together with the rest of the world, was about to enter a period of unprecedented prosperity. The good times would not only gloss over the deeper problems, but the euro would actually go from strength to strength to a point where it now threatens to unseat the US dollar as the premier reserve currency of the world. It is therefore perhaps a mystery to some of you, why one should question the longer term viability of the euro. That is nevertheless what I intend to do.

The problem, as I have already alluded to, is poor discipline amongst several of the member states. Ever heard of the four PIGS? This less than flattering acronym stands for Portugal, Italy, Greece and Spain, four members of the euro zone which are all in much deeper trouble than they are prepared to admit. They are often considered the 'antidote' to the BRIC countries, the fast growing emerging market economies of Brazil, Russia, India and China. Let's take a closer look at the unit labour cost index for various countries (see table 1).

Table 1: 2007 Unit Labour Cost Index (2000=100)

Notes: *2006. PIGS countries in bold. Source: http://stats.oecd.org/

Since the introduction of the euro, the PIGS have failed miserably to keep up with Germany on this measure of competitiveness. So has Ireland by the way, hence its current predicament. On the other hand, Brazil (the only BRIC country which the OECD reports unit labour costs on) scores very well on this account, a fact which is not going to make life any easier for the PIGS.

EU countries outside the euro zone, such as the UK, have also lost out to Germany in recent years, but the UK has been able to play a card which is not at the disposal of the euro zone members. That card is called devaluation. Whether by design or otherwise, the UK has received a massive boost to its competitiveness in recent months as a result of the sharp fall in the value of the pound. Italy used to play this card repeatedly back in the days of the Lira. So did countries like Denmark in the dark days of the 1970s.

Back in those days there was less economic integration and recessions were rarely global. Devaluations could therefore be used to stimulate exports. The situation today is fundamentally different. The global nature of the current crisis makes it far more difficult for any country to grow its way out through higher exports. The UK will offer a great case study to test whether devaluations are still a powerful tool.

Another issue, which is potentially even more destabilising for the euro longer term, is the massive liabilities facing Europe as its population ages. We have borrowed table 2 below from Goldman Sachs which makes no secret of the challenges facing a number of European countries. Greece is clearly facing the biggest challenge. Public debt, which currently stands at about 95% of GDP, will grow to a whopping 555% of GDP by 2050 if the current pension and social security programme is left unchanged. The Greek government is painfully aware of this and have been working on several new initiatives. It was the passing of one of those new laws which caused the riots in Athens before Christmas.

Table 2: Actual Debt & Age Related Contingent Liabilities

Source: Goldman Sachs, European Weekly, 22/01/2009

Considering the poor record of fiscal discipline, many euro zone members will probably allow their debt to grow much larger before decisive action is taken. The problems are so massive - and the solutions so painful - that most politicians chicken out and pass the problem to the next generation of politicians.

A third problem facing Europe is the sheer scale of the banking crisis. Although this is not just a European problem, European countries are probably worse off than the US because a larger part of European debt has to be financed externally. As you can see from chart 1, more than $2 trillion of European and U.S. bank debt needs to be re-financed before the end of next year. Unless there is a material improvement in market conditions, re-financing at such a massive scale is simply not doable.

Chart 1: Maturing Bank Securities in 2009/10 (USD)

Source: UBS

The European approach, at least until now, has been to save the banking system at any cost. It is therefore possible that a significant share of the re-financing cost will find its way to the sovereign balance sheets and hence ultimately to the tax payer. This could further destabilise the currency union.

All these challenges are surfacing as the global economy faces the worst year since World War II. I have noted that most economic forecasters are still quite sanguine about the prospects for 2010. Be careful. The models upon which these forecasts are built are based on experience from prior recessions; however, this is no ordinary recession and historical data is therefore largely irrelevant. I am becoming increasingly convinced that most of us are underestimating how long it will take to get the global economy firmly back on its feet again.

Kenneth Rogoff and Carmen Reinhart published a research paper about a month ago which should be mandatory reading for all investors2. They have studied every single banking crisis of the past 100 years and reach some rather unsettling conclusions. As they point out: "Broadly speaking, financial crises are protracted affairs".

Following a banking crisis, asset prices fall more and for longer than most investors realise (see charts 2a and 2b). So do output and unemployment. Most importantly, though, the real value of government debt explodes (see chart 2c) but not for the reasons you might think. Yes, the bailout costs are significant, but the main driver of rising government debt is actually the subsequent collapse of tax income.

Chart 2a: Decline in Real House Prices during Banking Crises

Peak to Trough Decline & Duration

Source: See footnote 2.

Chart 2b: Decline in Real Equity Prices during Banking Crises

Peak to Trough Decline & Duration

Source: See footnote 2.

Chart 2c: Cumulative Increase in Real Public Debt

First 3 Years following the Banking Crisis

Source: See footnote 2.

So when we are told that the bailout cost, although large, is still manageable, it is only half the story. The loss of tax revenue is another nail in the coffin and could lead to a dramatic - and unpredicted - rise in public debt. Have you heard any mention of that from your government?

At this point I need to introduce something as alien as the "flow-of-funds accounting identity"3:

Δ(G-T) = Δ(S - I) + ΔNFCI⁴

I rarely throw formulas at you for the simple reason that it scares many readers away. I urge you to stay with me for a bit longer, though, because this formula is critical in order to understand how the government response to the current crisis is likely to impact interest rates longer term. The equation states that any change in fiscal stimulus (Δ(G-T)) must equal the change in private sector net savings (Δ(S-I)) plus the change in net foreign capital inflows.

Translation: If our government stimulates the economy through public spending, as it is currently doing in spades, we must either save more or we have to rely on foreigners being prepared to invest in our country. There are no exceptions to this rule.

The key question, as our economic adviser Woody Brock points out, is what will cause this equation to hold true? It is quite simple. We will save more if we get paid more to do so (through higher interest rates) or if we are so scared of the future that we stop spending and start investing instead.

Foreign investors are no different. Now, with the trillions of dollars being spent around the world to shore up our financial system, the fear factor alone is not going to be enough. Higher - possibly much higher - interest rates will be required to ensure sufficient savings.

Obviously, there is another option at the government's disposal. The central bank can monetize some or all of the deficit by buying the bonds issued by the government. This line of action will keep Δ(G-T) down; hence the need for increased private savings (and/or capital inflows) drops accordingly. The problem with this approach, as an old Danish saying states, is that it is like wetting your pants to stay warm. Monetization executed on a big scale is highly inflationary in the long run, inevitably driving bond yields higher.

The good news is that we are very unlikely to loose control of inflation in the short run. The economy is simply too weak for that to happen. In Frankfurt, the 'eurocrats' are currently congratulating themselves that they, through strict monetary discipline, killed inflation in the aftermath of last year's explosion in commodity prices. The reality, however, is that the credit crunch killed inflation - they didn't - and Europe is now at a junction where even the smallest policy mistake could be very expensive indeed. In my opinion, the ECB has been way too slow in responding to the current crisis and they must act swiftly and reduce the policy rate to near zero levels in order to avoid a deep recession throughout the euro zone.

So, could all this lead to the destruction of the euro? Could the currency union actually break up? It is not that the risk to the PIGS has not been recognised by bond investors. As you can see from chart 3 below, investors in long dated Greek government bonds now earn about 2.5% more than they do by investing in correspondent German bunds.

Chart 3: PIGS Sovereign Debt Spreads over Germany

Source: Goldman Sachs, European Weekly, 22/01/2009

On the other hand, I may disappoint one or two readers (I will certainly disappoint Ambrose Evans-Pritchard of the Daily Telegraph who appears to have declared war on the euro), but I firmly believe that the euro will almost certainly survive the current crisis. I am much more worried about some of the member countries.

There is nothing in the Maastricht treaty which prevents a member country from leaving the euro, yet the decision to join is effectively irreversible. There are a number of reasons for this, the most important being economic costs. Take Italy which has a history of compensating for lost competitiveness through regular devaluations. If Berlusconi did the unthinkable tomorrow (sorry - nothing is unthinkable in Berlusconi's world), Italy's borrowing costs would explode. My guess is that bond investors would demand double digit returns on a Lira denominated bond to compensate for the dramatically increased devaluation risk. Already in a precarious fiscal position, Italy could quite simply not afford that.

So, if any country were to leave the euro, it would more likely be from a position of strength, and only one country possesses enough strength to pull that off in the current environment. That country is Germany. And, although the euro is not particularly popular in Germany, I believe it is extremely unlikely for Germany to make such a move unilaterally. There are several reasons for that - Germany's history in Europe being the most important.

At the same time, the fact that the euro has saved the bacon of more than one country in recent months - Ireland being the most obvious example - should not be ignored. For this very reason, the euro membership is actually far more likely to grow than to shrink as a result of the financial and economic crisis engulfing the world. The issue the EU has to deal with is whether the new applicants should actually be welcomed. Most of those who would want to join will bring plenty of baggage.

Another possible outcome, which you hear almost no mention of, is the possibility of a new Transatlantic currency. When I mention this possibility, everyone laughs, but think about it for a second. The economic crisis on both sides of the Atlantic is enormous. Both are resorting to the same formulas - large fiscal stimulus and quantitative easing (a word invented by central bankers because 'printing money' smacks too much of Zimbabwe). There is a real risk that the entire financial and monetary system on either side of the pond needs to be re-designed. If that were to happen, I am pretty confident that the Fed and the ECB would at least sit down and discuss the possibility of a joint currency. That would also allow the UK to join a currency union without too much egg on its battered face.

In the short to medium term, though, there is no such bailout on the horizon. In recent years, the weaker members of the euro, such as Italy, have managed to 'muddle through' (to borrow one of John Mauldin's favourite terms), mostly because the global economy has been strong enough to gloss over any weaknesses. D-day is now firmly on the horizon. As I see things, it is not inconceivable that a member country could be forced to default on its sovereign debt. Interestingly, any euro member country defaulting on its debt could (and probably would) carry on as a full member of the currency union. And I will bet almost anything that the EU would rather have one of its members defaulting on its debt than having to break up the currency union.

Another, and more likely, outcome is the possibility of one or more member countries coming under EU administration. This would almost certainly include the most painful of all cures - mandatory wage reductions in order to get unit labour costs back in line. It would be a lot easier for the government of, say, Greece to get the EU to do the dirty job than to do it itself. Civil unrest will no longer be the privilege of countries such as Indonesia or Thailand. The recent crowd trouble in Greece could very well turn out to be the dry run for much bigger and more organised labour market unrest across Europe as reality begins to bite.

For the time being, though, European governments continue to be in denial. When the IMF recently recommended that Spain implement various structural reforms, the idea was flatly rejected by Prime Minister Zapatero. In the meantime, you can sit back and prepare for the drama to unfold. Very simplistically, it is a choice between Zimbabwe and Japan. Our central bankers can choose to monetize their way out of the current slump and run the risk of much higher interest rates and a rapidly deteriorating currency like Zimbabwe or they can show fiscal discipline and accept perhaps ten years of below par growth a la Japan. Or they can find the delicate balance in between the two and everyone will live happily thereafter. But that requires both skill and luck.

Peter Mandelson launches fierce attack on Starbucks chief over UK economy

Lord Mandelson, the UK Business Secretary, has launched a no-holds barred attack during a trip to the United States on Starbucks boss Howard Schultz over the British economy.

Mr Schultz, chief executive of troubled coffee store giant Starbucks, had earlier told television business network CNBC, that "the concern for us is Western Europe and specifically the UK. The UK is in a spiral".

Asked later about the comments, a clearly furious Lord Mandelson responded to the Telegraph: "Why should I have that guy running down the country? Who the ---- is he?"

The UK's Business Secretary, who was on a one-day trip to New York, then added: "How the hell are they doing?" The remark was a clear reference to the recent economic troubles of Starbucks, which has announced the closure of nearly 1,000 unprofitable stores in recent months.

Lord Mandelson earlier gave a speech at the Council of Foreign Relations about the world economic crisis and accompanied health secretary Alan Johnson at a series of discussions with US pharmaceutical companies about investment deals in Britain.

In his address to the CFR, he insisted that governments must keep their nerve in the face of public pressure for quick solutions to the economic crisis, But the Telegraph has learned that a priority for the visit by one of Labour's most combative political operators was to battle what British officials believe are overly negative perceptions of the UK economy in the US media.

Earlier in the day, he gave an interview to Maria Bartiromo, the glamorous CNBC presenter nicknamed 'The Money Honey' in US gossip columns.

She had previously spoken to Mr Schultz about the launch by Starbucks of Via Ready Brew, an instant coffee. Discussing the international business climate, Mr Schultz said: "The thing that is really troubling is that it took about a year and a half for consumer confidence to really fracture in the US. But the thing has gotten so quick in terms of how bad it's got in western Europe."

Pressed by Ms Bartiromo about economic conditions in Britain, Mr Schultz continued: "Unemployment, the subprime mortgage crisis specifically in the UK, and I think consumer confidence in the UK is very very poor."

Less than an hour later, the presenter asked Lord Mandelson about those comments on the same show. Clearly frustrated, he responded: "The UK is not spiralling, although I have noticed that Starbucks is in a great deal of trouble. But that may be because of their overexposure given the state of the market. So please do not project Starbucks onto the UK economy as a whole."

Greek Police Foil Bombing at Citibank Athens Branch

By Maria Petrakis

Feb. 18 (Bloomberg) -- Greek police said they thwarted a car bomb attack at a branch of Citigroup Inc.’s Citibank in a northern Athens suburb.

The makeshift explosive device, comprising five household propane gas canisters filled with fertilizer-based explosives and attached to detonators and mechanical clocks, was destroyed in a controlled explosion, the police department said in a statement on its Web site. The bomb was found in a stolen car parked opposite the Citibank branch in Kifissia.

There was no warning call and no claim of responsibility, a police spokesman said in a phone interview. Police were alerted by a guard who noticed the car being parked by three masked people outside the bank at around 4:30 a.m., according to the statement. The guard called police when the occupants of the car didn’t return.

Shootings and small-scale bombings have increased since protests that followed the Dec. 6 shooting of a teenager by police in Athens. Earlier this month, a previously unknown group, the Revolutionary Sect, took responsibility for a shooting at a suburban police station in Athens and threatened more attacks. Another group, Revolutionary Struggle, last month claimed responsibility for two attacks on police officers.

In a separate statement, police said 12 shells recovered from two weapons used in a gun attack at the Alter television station in western Athens late yesterday were from the same gun used in the attack this month on the Korydallos police station and later claimed by Revolutionary Sect.

Gunmen fired shots and threw a homemade explosive device at the premises, police said in a statement. No one was hurt in the attack. The bomb didn’t explode, while the shots damaged three vehicles belonging to the television station’s staff members, state-run Athens News Agency reported.