The Secret System that Blew Another Hole in the Euro

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This may sound arcane and boring, but I promise you it's not.

What I've learned will blow yet another hole in the already shaky euro.

It begins with Bernd Schunemann, a law professor at the Ludwig-Maximilian University in Munich. He has sued the German Bundesbank over its participation in the Eurozone "Target-2" settlements system.

Now I'll be the first to admit that yes, my eyes do glaze over when thinking about settlements systems-and I used to be a merchant banker.

But looking at the details of the case I had something of a banker's moment of clarity.

I realized that Schunemann was claiming that the settlements system had saddled German taxpayers with a potential liability of 615 billion euros, over $800 billion, in exposure to Greece, Italy, Spain and Portugal.

After all, who would have to bail out the Bundesbank if it became insolvent?

What's more, when you un-glaze your eyes and look closely, the risk is entirely unnecessary. It is yet another huge botch-up job by the EU bureaucrats.

Here's what I mean...

The Euro and the Target-2 Settlement System

The Target-2 settlement system was introduced in 2007, as a replacement for Target (Trans-European Automated Real-time Gross Settlement Express Transfer System).

The first Target was the large-scale payments system between central banks that had been introduced with the euro in 1999.

Under the system, when a Greek makes a large euro payment to a German, his Greek bank makes a payment to the Greek central bank, which in turn makes a payment to the Bundesbank. Once it reaches the German central bank, it pays the German bank, which pays the German.

For ordinary trade transactions, that's all fine and good. Greek exports to Germany are balanced with German exports to Greece.

If, however, there's a big trade imbalance between the two countries, then gradually an imbalance grows up between the central banks. As it develops, the Bank of Greece ends up owing the Bundesbank more and more money.

Even more serious is when Greek citizens rush to get their money out of Greek banks and put it in German banks. Every million euros Greek citizens remove from their banks is a million euros by which the Bundesbank increases its exposure to the Bank of Greece.

You can see how this could be big problem-especially since that's the arrangement all around the Eurozone.

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