EUROZONE ANALYSIS: Does anyone know who Trichet is working for?

Can the ECB President get Europe out of hock?

And does he really want to?

Sometimes, the only way to deal with the blundering, big-footed painted clown that is the EU is to laugh at it. But fairly quickly thereafter, its wriggling snake side comes through.

Belgian Guy Quaden, who retired a few days ago as one of the longest-serving ECB council members, said “a cautious increase” in interest rates in the eurozone “won’t hurt the region’s economic recovery because both growth and inflation have become again significantly positive.”

Now that Guy’s through the tape and looking forward to a gold-plated, index-linked Banker’s pension, I suppose this is the sort of thing he feels able to say: it comes under the heading of what in the 1950’s we used to be refer to as ‘I’m alright Jack’. But he and I know that what he said is absolute bollocks.

In reality, EU growth rates are feeble, and below those of the UK. And as a banker himself, Guy must surely know that the problems in his sector will overwhelm any growth that emerges from the bureaucrat-bloated eurozone many times over.

This is what the Sunday Times had to say on the subject at the weekend:

‘Dozens of banks across Europe now depend upon the ECB just to open their doors every day. Understandably, the ECB wants to wean all these addicted banks off its balance sheet…Not all these institutions are in peripheral countries.”

You can say that again. Since the start of the eurozone criss, the debate has raged as to whether the problem is just sovereign debt – or, more realistically, banking exposure. More evidence is now emerging to suggest it’s mainly the latter. Many German Landsbanks are among the ECB’s registered addicts. The huge building society lender Hypo is another. All the Irish banks are. And at least one major French bank is. In Spain, the banks are owed 300 billion euros by property developers alone. Last week, the third largest Spanish caja Banco Base turned to the Madrid government for immediate aid.

For a central banker like Jean-Claude Trichet, every day is a marathon stint of juggling three heavy pawnbroker balls: German expansionism, peripheral debt, and eurobank  cash-flows. But what very few people have been able to discern is who exactly Trichet sees as his boss.

“For the Irish, Greek, Spanish and Portuguese banks, rising interest rates are negative,” said Carlos Egea, a strategist on Morgan Stanley’s peripheral sovereign and bank trading desk in London. Greece, where government debt is set to rise to 156% of GDP by 2014, will face an additional debt-service charge of 1.6 percent of GDP if market borrowing costs gain 1 percent on the back of the ECB raising rates.

In his stated intention to raise rates, Trichet seems to have sent a signal to EU governments that the ECB is unwilling to use any more QE: he is putting pressure on them to restore fiscal order. This is very much the German/Angela Merkel line. But the German situation is unique in Europe. Only 40% of Germans own homes with mortgages for example, whereas over 83% of Spaniards do: many of them are in negative equity, and 20% of Spaniards are unemployed.These are disturbing numbers.

Some normalising of EU interest rates from current record lows will disproportionately hurt Spain, Greece, Ireland and especially Portugal. But at the same time, eurobanks must be dreading rises too, as they will (a) raise their bad debt percentage – rumoured to be running at an average of 11% – and (b) mean interest rate derivative bets could also go badly wrong. The country likely to suffer by far the least from such moves is Germany. And overall, if Germany stays healthy, then so too does France.

So it looks like that’s who Jean-Claude truly represents at the end of the day. Or does he?

“As the ECB continues to tighten, it increases the risk that the sovereign-debt crisis comes back,” says Gavyn Davies of Fulcrum Asset Management, a big player handling over 1.2 billion euros in assets. “It will manifest itself with the troubled economies moving into slower growth rates, and the fiscal arithmetic will worsen again.” As Germany needs to sell to these countries, isn’t this a case of cutting off noses and spiting faces?

Not so, says a Slog credit manager source based in Madrid:

“If you look at German and French exports right now,” he asserts, “they are diversifying rapidly away from the EU. You have Volvo, Renault, VW and Mercedes doing really well in Asia – as are many other German producers. Nobody wants a rise in the value of the Euro, but the Germans would suffer less than most”.

On balance, then, it’s not hard to draw one’s own conclusions here: the ECB President has a difficult balancing act on his hands – but ultimately, he has made his mind up about whose applause he most wants.