grown this week that we are on the verge of a new global
financial crisis. Whats your view?
In my view there is a high likelihood that there is going to
be another global financial crisis. My data suggests that most
advanced economies are already entering a recession. Were
not any more in an anaemic recovery, were not any more at
stall speed. Were at the beginning of a contraction. I
think theres a contraction already in most of the
eurozone, there is a contraction in the US, also in the UK.
Thats the first point.
The second point is were running out of policy bullets
monetary, fiscal backstopping the financial
And third, the eurozone is a source of systemic risk. If
there is a disorderly situation in the eurozone its going
to be worse than Lehman.
At this point its not any more Greece or Ireland or
Portugal. The contagion has spread to Italy and Spain. In the
case of Italy and Spain the critical thing is that even if you
believe that Italy and Spain are illiquid but solvent, even
adjusting from the reforms, theyve lost credibility in
the markets. Its going to take them at least a year to
Therefore you need a lender of last resort to backstop the
sovereigns until they regain the credibility to avoid spreads
going up and leading to a self-fulfilling run. And there are
only a very few options, none of them feasible. One of them is
the [eurobonds]. Its going to take at least two years
until they can pass that and its going to be approved by
The other option is the ECB doing the dirty job. But the ECB
constitutionally, legally, is not allowed to be a systemic
lender of last resort for sovereigns.
The third option is to triple the EFSF (European Financial
Stability Facility). But theyre not even able to pass the
current extension of the EFSF. If tomorrow the Germans have to
triple the EFSF, that is a political mission impossible.
So my worry is that the EFSF is going to run out of money
and then there is not going to be a lender of last resort to
backstop Italy and Spain. And that could be a source of a
systemic break down of the eurozone, with global financial
consequences worse than Lehman.
What can policymakers do now to minimize the
I wrote a paper recently in which I have an eight-point plan
to highlight the kind of policies which are needed. One, much
more monetary and quantitative easing, not just quantitative
easing but credit easing. Two, short-term fiscal stimulus in
the countries that can still do it. The US, UK, Germany, core
of the Eurozone, Japan, its the periphery thats
doing fiscal retrenchment. You have to postpone the austerity.
In the short-run, we need fiscal stimulus. We need to provide
massive amounts of lender-of-last-resort support to Italy and
Spain to make sure that illiquid but solvent sovereigns do not
have a self-fulfilling run. We need an orderly restructuring of
the debt of governments, of banks, of households that are
insolvent. We need to have a massive recapitalization of the
European banks through a TARP (Troubled Asset Relief Programme)
type of programme for the European banks. We need to support
emerging markets by providing monetary and fiscal support to
the countries that are going to get in trouble, and to provide
support through the IMF and other international financial
institutions. We have to provide credit to small and
medium-sized enterprises and households that are squeezed. We
need to have also an orderly exit of countries that are not
going to regain competitiveness in the eurozone, like Greece
and potentially also Portugal. And you have to do this in a
clear, holistic and front-loaded way. So there are many things
that we need to do. I fear that the politicians in the US, in
Europe, in UK are not going to have the political willingness
to do it in their own countries, let alone coordinate it
So whats the likely outcome given this
policy gridlock in the key countries?
At this point the debate is not whether were going to
have a double dip or not: the double dip has started. The only
question is: are we going to have a mild recession thats
going to last for three quarters in advanced economies or are
we going to have a severe recession and another global
financial crisis? The answer to that question depends on
whether you can keep Italy and Spain together. Its not
even about Greece.
That depends on Germany taking the risk of essentially
backstopping Italy and Spain or the EFSF, e-bond, or the
ECB doing the job. Because whichever way you do it, today the
German taxpayer is backstopping German debts and the ones of
Greece, Ireland and Portugal. But you need now to backstop EU3
trillion of Italian and Spanish debt. That implies that if
Italy and Spain are not illiquid but solvent, but they are
insolvent Germany takes a huge amount of credit risk. Germany
and France could both lose their triple-A status. So there is
political resistance to this quasi-fiscal union in Germany and
the core of the eurozone.
But if you dont do it, itll be a disorderly
break-up of the eurozone. So you need to go in the direction of
a quasi-fiscal union in the sense of providing liquidity
support to illiquid but solvent sovereigns that are too big to
fail and too big to be saved. Thats the key issue.
How quickly are markets likely to turn
aggressively on Italy and Spain?
Well Italian spreads are already 500 basis points. Even if
the EFSF is approved because right now the backstop is
provided by the ECB but the ECB has said it is not my
job we need three times the EFSF. Once the EFSF is
approved, out of the E440 billion, half of it has already been
committed to Greece, Ireland and Portugal and to their
So markets are going to look through it and say there are
only E200 billion left and were going to run out of those
E200 billion, at the rate at which there is pressure now on
Italy and Spain, by the year-end at the latest or by March of
If it takes two years until an e-bond is essentially voted,
you have a window of two years or a year and a half in which
Italy and Spain risk losing market access without there being
an alternative. You need either e-bonds or EFSF or the ECB to
do the job. So thats the risk and its going to
happen soon enough.
People are going to see it as soon as the EFSF is approved
and people realize that there is not enough money.
This is clearly a European problem with global
consequences but which nevertheless requires a European
solution. Is there anything the international community can
Well you have to make an agreement that we need, for
example, coordinated monetary expansion among advanced
economies. We need a coordinated agreement that we need a
fiscal stimulus in all advanced economies, apart from those in
the peripheral eurozone that are forced to do fiscal austerity.
We need to have a commitment to a mechanism that provides
liquidity support to Italy and Spain that is three or four
times larger than the E440 billion. We need to have a European
plan to essentially recapitalize, Tarp-style, the European
You need to do lots of things that show that you see what
the problem is and youre willing to do whatever is
necessary to avoid a freefall. You need to do it within the
eurozone and you need to do some things on a global basis like
the monetary and fiscal stimulus.
I dont think were going to get there. Tim
Geithner went to the [Econfin] ministers meeting [last
week] and he was told: dont come and tell us what
to do, we want fiscal austerity we dont want to
recapitalize the banks, we dont want monetary
So there is a fundamental disagreement between US, Europe,
UK and Japan even on the necessary policies. Thats
So in light of this gridlock, the paralysis
among the big decision-making bodies, where is the leadership
in this crisis? Where should it come from?
Well we are in a G-zero world in which the US used to impose
its own will on the global economy. Today it is under
geopolitical and financial stress and the US cannot essentially
impose its own will.
So the leadership now has to come out of Germany
either Germany takes the risk, the credit risk of backstopping
Italy and Spain, which is a risk, but saves the eurozone. Or if
Germany is not willing to do that then you have the destruction
of the eurozone.
At this point the Free Democrats [in Germany] are against it
and therefore [Chancellor Angela] Merkel will have to do a
radical policy change: changing coalition, dumping the Free
Democrats and going for a grand coalition either with the
Greens and/or the Social Democrats who are willing to take a
chance for Europe.
I dont know, however, whether within the CDU there are
very different views. Some are more Europhile, some of them are
less. Its not obvious theyre going to be willing to
make that political decision. Thats the critical thing
that has to happen. So there has to be a change in coalition in
Germany to make that option viable and likely.
But there is not much time to do it. Because even if the
EFSF is approved and its already being delayed
people the next day are going to see through it and see
that there is not enough money for Italy and Spain. And we need
much more money. Thats going to be the key thing. We
dont have much time. Thats the problem.
How much time do we have left?
We have three months, through the end of the year. Given the
current market pressure on Italy and Spain, the EFSF, even if
its approved, is going to run out of money. By the way,
the EFSF is not even pre-funded. It has to borrow. Its
going to run out of money and then you have the same problem.
So markets are going to look through it and realize there is
not enough money and theyre going to put pressure on
Italy and Spain, even if tomorrow the EFSF is approved.
The markets today are telling Italy and Spain we need fiscal
austerity and Italy and Spain are doing more of it. Tomorrow,
once they do it, there will be an even more severe recession in
the eurozone and in Italy and Spain. People are going to say
fine, youre doing the fiscal budget reduction but
now youre spinning into a recession.
So youre not going to be debt sustainable because
youve got no growth. So unless we have a strategy to
restore growth in the eurozone in the short run, there needs to
be monetary policy easing on a massive scale: weakening of the
euro, fiscal stimulus by Germany and the core, backstopping
Italy and Spain and doing anything else in terms of
infrastructure spending to boost the growth of the periphery
thats now spinning into a recession.
Unless all these things happen its not going to be
sustainable. So liquidity support is not enough. You need to
restore growth not three years from now, not five years from
now through structural reforms, youve got to do it today.
Otherwise its not going to be sustainable. And the
eurozone now is spinning into a recession again.
The signs from policymakers are not encouraging.
Germanys finance minister was reported to have said that
the G20 was largely in agreement that a fiscal stimulus is
simply not needed now. What do you make of
Thats nonsense. The IMF has it right. [IMF managing
director] Christine Lagarde has it right. If everybody does
fiscal austerity at a time when private demand is falling again
youre going to have another global depression. Were
going to make exactly the same mistake like during the Great
Depression, when we took away the fiscal stimulus too soon.
That is a huge risk right now.
Where does this all lead us? The risk in your
view is of another Great Depression. But even respectable
European politicians are talking not just an economic
depression but possibly even worse consequences over the next
decade or so. Bearing European history in mind, where does this
In the 1930s, because we made a major policy mistake, we
went through financial instability, defaults, currency
devaluations, printing money, capital controls, trade wars,
populism, a bunch of radical, populist, aggressive regimes
coming to power from Germany to Italy to Spain to Japan, and
then we ended up with World War II.
Now Im not predicting World War III but seriously, if
there was a global financial crisis after the first one, then
we go into depression: the political and social instability in
Europe and other advanced economies is going to become
extremely severe. And thats something we have to worry
What about the countries in the world with
relatively healthy balance sheets? What about the large
emerging nations? What should their response be this time? What
can China do at this time?
China has to change radically its growth model because
its not sustainable. They talk about increasing
consumption, but consumption as a share of GDP has fallen from
50% to 40% to 35%, now its 33%. And fixed investment has
gone from 30% to 40% and now 50% of GDP.
China is going to have in two years its own hard landing.
Theres so much overcapacity, from real estate to
infrastructure to manufacturing that unless they change their
growth model to rely more on consumption and less on fixed
investment, eventually there will be a hard landing in China.
So its not any more an issue of net exports.
They have reacted to the collapse of their net exports by
boosting fixed investment rather than consumption. So they have
to radically change their growth model and the sooner they do
it the better for them and for the global economy.
Where does that leave China with respect to
either a willingness or capacity to react with similar vigour
to todays crisis as they did in 2008?
Well, if there is a recession in the G3, China is going to
do more monetary, fiscal and credit stimulus. Theyre
going to kick the can down the road for another year because in
a year from now theyre going to change their own
leadership. But that creates even more imbalances because the
only thing they know to do is more infrastructure, more real
estate, more manufacturing and industrial capacity by the SOEs
(state-owned enterprises). So they make the investment bubble
even worse and the hard landing is going to be even worse down
the line. What they need is radical policies that lead them to
save less and consume more. But it will take them 10, 20 years
of policy changes to achieve that. I fear theyre not
going to do it in time.
G20 leaders are telling us that they simply need
to keep markets calm until the EFSF is agreed in mid-October.
Are they deluding themselves? If we dont get a meaningful
statement this weekend what are we likely to see in the markets
The uncertainty, the volatility, the risk aversion is
rising. I fear theyre not going to reach an agreement
along the lines of what Ive proposed and therefore there
will be more turmoil, more uncertainty, more volatility, more
risk aversion. And even approving the EFSF in the current
format is not going to be enough. So if its approved
people are going to say hey its not enough
money. Two, theres fiscal austerity but there is no
growth. So Italy and Spain are toast unless we have triple or
quadruple the amount of official resources to backstop them.
So, much more needs to be done and I fear the G20 are not going
to say anything meaningful in this regard.
Nouriel Roubini is chairman of Roubini Global