text:
"Photographing fire for newsreels; Washington, D.C., or vicinity"
Ilargi: Central banks promise to lend (hand out) more of your money to the banks, and the markets of course rise for a day since they smell a chance to get their hands on their share of it. Who pays?
If you still haven't figured out the difference between a liquidity crisis and a solvency crisis, we suggest you do so soon. Because the banks of this world are not illiquid, other than the worst of the Europeans having no access to US dollars. The banks are insolvent. The whole banking system is.
You can try and breathe that sigh of relief only if and when the first government decides to restructure both its own debt and that of its banks, if and when widespread defaults and bankruptcies are declared. Until that moment, you will be sinking ever deeper into the financial morass, whether you realize it or not, whether you want to hear it or not.
Defaults and bankruptcies too would be ugly, no question. But there is no proof that they would be worse than what awaits us now. And they have the huge advantage of bringing honesty and truth to the game. Both of which are indispensable for restoring trust and confidence, both in our economies and in our political systems.
Yeah, you're right, who am I kidding?
The flavor of the day, other than dollars for Athens, is still yuans for Rome. Rice AND Pizza. Ashvin takes a look at that mirage:
Ashvin Pandurangi:
Here are the two simple "equations" that all of the incessant rumor-inspired momentum chasers, equity bulls, peripheral EU bond bulls and relentless predictors of an imminent global Asia-backed bailout would do well to memorize:
1) Export Economy = Relatively Weak Currency
2) Chinese Economy = Export Economy
After the Parliament of AAA-rated Austria rejected any near-term possibility of expanding the "European Financial Stabilization Facility", which requires unanimous consent of contributing members, the continued existence of Greece and the current EMU structure as an "ongoing operation" has come to rely solely on the good will of China.
Global equity markets are hanging by the skin of their knuckles on rumors that the Chinese are committed to assisting the EMU through its sovereign debt crisis and buying the toxic bonds of its debtor nations en masse. What these markets are soon to realize is that the Chinese government not only has its own domestic financial troubles to deal with, but is also not filled with brain-dead individuals who fail to understand the basics of global trade.
A truly significant bond purchase program by the Chinese would require them to re-allocate precious reserves into large EU member economies, such as Italy and Spain. These are economies that even other EU member states and their populations are both unable and unwilling to bail out.
Such a drastic action by the Chinese at this stage of the game would be the equivalent of an extremely "sophisticated" investor voluntary agreeing to be the last greatest fool in a speculative financial ponzi scheme that makes the U.S. sub-prime housing bubble look tame in comparison. Li Daokui, member of the Chinese central bank's monetary policy committee, has a few choice words to say on this point, as quoted by Ambrose Evans-Pritchard for the Telegraph:
China States Price For Italian RescueProfessor Li said China must stop investing its hard-earned wealth in western debt and switch its incremental holdings into "physical assets", including the equities of major western companies.
"China is the most patient investor in the world. Imagine if our $3.2 trillion in foreign reserves had been controlled by George Soros: financial markets would be in much greater chaos," he said.
But such irrational investments are made all of the time in our twisted system of "free-market" incentives, right? Wrong. That argument may carry some weight on the way up before the ponzi has begun its process of implosion, but the Eurozone sovereign debt ponzi is well past that mark.
The Irish, Greek and Portuguese economies came under public financing pressure well over a year ago, and it has already been a few months since the "contagion" infected Italy and Spain. The Chinese have lost significant value on their purchases of Portuguese bonds and the volatile bond yields of Spain and Italy aren't looking very appetizing for the once-bitten investor.
Evans-Pritchard:However, the relentless climb in Spanish and Italian yields over the summer indicates clear limits to Chinese buying. China's central bank has already suffered a large paper loss on Portuguese debt bought with much fanfare before that country needed a rescue. Italy's finance minister Giulio Tremonti said it is hard to persuade Asian investors to buy Italian debt when the European Central Bank hesitates to do so.
Now, some may still argue that it's not 100% ridiculous to believe the Chinese have managed to convince themselves that an extremely risky intervention is needed to preserve the EMU and stabilize global financial markets, on which they heavily rely. Well, at least not until we factor in the fundamental equations of global trade in our current system that were presented above.
The only other reason the Chinese would be willing to go "all in" on the EMU is because it wants to preserve the economic health of its major export markets. There is little doubt that the Chinese economy does not have nearly enough internal consumer or investment demand to sustain moderate levels of economic growth, and therefore is utterly dependent on its export industries maintaining or increasing their market share in an era of rapidly contracting consumer economies.
So the only question is, how is this goal best accomplished from the perspective of the Chinese? By bailing out the entire Euro "periphery", or by letting nature take its course as some of the weak debtor nations are gradually pushed out of the Union by righteous members running a surplus and incredulous financial markets? The following graphs present the ECB's data on export/import value of the EU:
Both Chinese and EU exports have been steadily on the rise over the years running up to the global financial crisis, and have unsurprisingly managed to rebound on the back of unprecedented global intervention since then. The interesting thing is that the fastest growing export markets for both are nations within the EU and Europe itself. Now that the global depression has began to reassert itself with great force, the need to maintain export value and volume for both has become greater than ever.
While many analysts view this import/export relationship as a reflection of a healthy dynamic which encourages mutual aid, it is actually one that engenders aggressive, cutthroat competition. In this global system, and especially now, one does not gain market share by generously helping out the competition. The major competition, in this context, is Germany, France, the Netherlands and Switzerland.
We recently witnessed this dynamic when the Swiss became so concerned with an appreciating Swiss Franc and its consequences for a struggling export industry that its central bank decided it was willing to defy decades of history and undertake an unprecedented maneuver of pegging its currency to the Euro.
Essentially, it decided that suppressing the value of its currency, even in the short-term, was worth destroying its balance sheet and ruining its credibility as a central banking institution by promising unlimited currency intervention. From their perspective, this currency suppression provides a desperately needed boost to its export industry by lowering the price of exports and stabilizing the private CHF-denominated finances of Eastern European countries. What do the Chinese think of this bold move?
Although there was no clear public reaction by Chinese officials, we can be sure that they were not thrilled by the SNB stealing a patented move out of their playbook. The Chinese Yuan is pegged to a fixed exchange rate against the U.S. Dollar, and the U.S. Dollar (USD) floats against the Swiss Franc (CHF) and Euro. With the CHF now pegged to the Euro, the Chinese lose any export benefits gleaned from appreciation of the CHF as a safe haven relative to the Euro and USD.
That has only added insult to a much deeper injury, as they have also had to deal with a Euro currency which has repeatedly come under downward pressure for the past year. This pressure obviously benefits the non-euro European export market share of German, French, Italian, Spanish and Dutch industries, as well as their extra-European market share.
And, as if all of that wasn't enough, the EU exporters have benefitted greatly at the expense of China by failing to recognize it as a "market economy" under the definitions of the World Trade Organization. This failure of recognition has been used as an economically, politically and legally leveraged asset for Western exporters, since it effectively increases the exposure of Chinese industries to threatened or actual legal actions brought to the WTO and sanctions for violating "anti-dumping regulations".
These are regulations prohibiting WTO members from "dumping" their goods on other countries by "unfairly" lowering prices through government subsidies to private industry (usually via below market-rate loans) or other state-sponsored measures (i.e. "artificial" currency devaluation). Never mind that Western "market economies" engage in this activity all of the time.
Evans-Pritchard:Market status under the WTO has become the Holy Grail for China, both because it makes the country less vulnerable to 'anti-dumping' sanctions from the EU and because it marks the country's final coming of age in the global economy.
Beijing is bitter that the EU recognises the market status of Russia despite open violations of WTO rules by the Kremlin, claiming that the "double standard" is a disguised form of protectionism.
Under its WTO accession accord in 2001, China remains a "non-market economy" for 15 years unless other members agree to fast-track the process. There could still be problems even after 2016 if major powers take a tough line.
The very mention of this "request" as a part of the numerous conditions to a Chinese bailout is essentially a big, fat NO to any such possibility. There is a reason why China has been the number one target of AD lawsuits, and that reason only becomes stronger in an environment of global economic contraction and universally struggling exporters.
The WTO has been one of the fundamental mechanisms through which developed countries manage trade flows to their favor under the guise of promoting economic efficiencies through "free trade". Now, major exporters must do everything they can to retain their share of a dwindling pie, and the WTO is still one of the most coercive means for the West to do so. An example of this dynamic from Wikipedia:
The consequences of not being granted market economy status have a big impact on the investigation. For example, if China is accused of dumping widgets, the basic approach is to consider the price of widgets in China against the price of Chinese widgets in Europe. But China does not have market economy status, so Chinese domestic prices cannot be used as the reference.
Instead, the DG Trade must decide upon an analogue market: a market which does have market economy status, and which is similar enough to China. Brazil and Mexico have been used, but the USA is a popular analogue market. In this case, the price of widgets in the USA is regarded as the substitute for the price of widgets in China.
This process of choosing an analogue market is subject to the influence of the complainant, which has led to some criticism that it is an inherent bias in the process.
Chinese elites know that any firm commitment they make to purchasing bonds of EU debtor nations will not stabilize their public finances long-term, and, in addition, will not even make the Euro appreciate considerably against the USD or other established reserve currencies. They also know that Northern Europe will never agree to "fast-track" the WTO process, because, at this precarious time for exporters, that may cost them even more than the price tag on preventing EMU collapse.
China's bailout would merely serve to preserve the present situation, in which the Euro officially survives, but as a freak of nature that may be devalued at any time with nothing more than an unpleasant rumor, and major exporting nations continue to pursue considerable monetary interventions which the Chinese simply cannot afford to match due to their already under-stated rate of domestic inflation. From their perspective, the only "legitimate" option is to let the EMU splinter.
Regardless of whether the Euro is retained by core member countries of the EU or, in a more extreme situation, the core countries withdraw and re-instate their own national currencies, Chinese export market share is bound to increase relative to some of their largest and, therefore, most troublesome competitors. There is no doubt that the Chinese are worried about the financial contagion effects from a peripheral default, such as the increasingly imminent default of Greece, but so is everyone else in the world and there is very little anyone can do about it.
At this point, it is merely a foregone conclusion and countries (and central banks) must try to prepare their best for it, by insulating their own financial systems to any extent possible. Chinese Premier Wen Jiabao implied as much in a few words to the World Economic Forum, which the markets seemed to have completely missed. The Telegraph's Ambrose Evans-Pritchard once again:
China wants to break the ultimate taboo and buy into Western companies such as Apple, Boeing and IntelChinese premier Wen Jiabao was soothingly polite in his speech to the World Economic Forum in Dalian, insisting that his country will play its part to "prevent the further spread of the sovereign debt crisis".
The language toughened a few notches when asked later how far China's Communist Party is really willing to go. The message was clipped and severe. Beijing will not sign a blank cheque for European states that have failed to carry out deep reform. "Countries must first put their own houses in order," he said.
But that's the entire problem; they can't put their own houses in order, and everyone, including Premier Jiabao, knows it. Besides, the Chinese are much more concerned with the health of the USD and Treasury markets than those of the EMU periphery, and capital flight from a splintered EMU will significantly boost those markets.
For all of China's talk about becoming a powerhouse consumer economy, domestic companies moving abroad, investing in foreign companies, or its currency contending for the role of global reserve, we must remember that it is still by and large an export economy according to the dictates of the global market system of trade.
The Chinese are under no illusion that anything has changed in the last few years for their economic model, and that means they must remain "competitive" until the bittersweet end. In this system, you don't stay competitive by bailing out the competition.
Albert Edwards Issues Warning: A S&P 500 'Killer Wave' Is Forming
by Sam Ro - CFA
Societe Generale's Albert Edwards points us to a terrifying technical sell signal in the S&P 500: the "killer wave." This formation was identified by Investors Chronicle's Dominic Picarda.
Here's how it works. The Coppock indicator--an esoteric momentum measure (Wikipedia description) --turns down giving a sell signal. This happened last summer. Before the indicator dips below 0, it moves up again, which it did in April of this year. The "killer wave" formation is completed when the Coppock indicator turns again. And what happens next is real ugly.
Picarda has observed eight "killer waves" in the the S&P 500 in the last 83 years. On average, the S&P 500 sinks 40% over 20 months.Images: Societe Generale
The Great American Economic Lie
by Lance Roberts - Street Talk Advisors
The idea that the economy has grown at roughly 5% since 1980 is a lie. In reality the economic growth of the U.S. has been declining rapidly over the past 30 years supported only by a massive push into deficit spending.
From 1950-1980 the economy grew at an annualized rate of 7.70%. This was accomplished with a total credit market debt to GDP ratio of less 150%. The CRITICAL factor to note is that economic growth was trending higher during this span going from roughly 5% to a peak of nearly 15%. There were a couple of reasons for this. First, lower levels of debt allowed for personal savings to remain robust which fueled productive investment in the economy. Secondly, the economy was focused primarily in production and manufacturing which has a high multiplier effect on the economy. This feat of growth also occurred in the face of steadily rising interest rates which peaked with economic expansion in 1980.
As we have discussed previously in "The Breaking Point" and "The End Of Keynesian Economics", beginning in 1980 the shift of the economic makeup from a manufacturing and production based economy to a service and finance economy, where there is a low economic multiplier effect, is partially responsible for this transformation. The decline in economic output was further exacerbated by increased productivity through technological advances, which while advancing our society, plagued the economy with steadily decreasing wages. Unlike the steadily growing economic environment prior to 1980; the post 1980 economy has experienced by a steady decline. Therefore, a statement that the economy has been growing at 5% since 1980 is grossly misleading. The trend of the growth is far more important, and telling, than the average growth rate over time.
This decline in economic growth over the past 30 years has kept the average American struggling to maintain their standard of living. As their wages declined they were forced to turn to credit to fill the gap in maintaining their current standard of living. This demand for credit became the new breeding ground for the financed based economy. Easier credit terms, lower interest rates, easier lending standards and less regulation fueled the continued consumption boom. By the end of 2007 the household debt outstanding had surged to 140% of GDP. It was only a function of time until the collapse in house built of credit cards occurred.
This is why the economic prosperity of the last 30 years has been a fantasy. While America on the surface was the envy of the world for its apparent success and prosperity; the underlying cancer of debt expansion and lower personal savings was eating away at core.
The massive indulgence in debt, what the Austrians refer to as a "credit induced boom", has now reached its inevitable conclusion. The unsustainable credit-sourced boom, which leads to artificially stimulated borrowing, seeks out diminishing investment opportunities. Ultimately these diminished investment opportunities lead to widespread mal-investments. Not surprisingly, we clearly saw it play out "real-time" in everything from subprime mortgages to derivative instruments which was only for the purpose of milking the system of every potential penny regardless of the apparent underlying risk.
When credit creation can no longer be sustained the markets must began to clear the excesses before the cycle can begin again. It is only then, and must be allowed to happen, can resources be reallocated back towards more efficient uses. This is why all the efforts of Keynesian policies to stimulate growth in the economy have ultimately failed. Those fiscal and monetary policies, from TARP and QE to tax cuts, only delay the clearing process. Ultimately, that delay only potentially worsens the inevitable clearing process.
The clearing process is going to be very substantial. The economy is currently requiring roughly $4 of total credit market debt to create $1 of economic growth. A reversion to a structurally manageable level of debt would involve a nearly $30 Trillion reduction of total credit market debt. The economic drag from such a reduction will be dramatic while the clearing process occurs.
This is one of the primary reasons why economic growth will continue to run at lower levels going into the future. We will witness an economy plagued by more frequent recessionary spats, lower equity market returns and a stagflationary environment as wages remain suppressed while costs of living rise. However, only by clearing the excess can the personal savings return to levels which can promote productive investment, production and ultimately consumption.
The end game of three decades of excess is upon us and we can't deny the weight of the balance sheet recession that is currently in play. As we have stated in the past - the medicine that the current administration is prescribing to the patient is a treatment for the common cold; in this case a normal business cycle recession. The problem is that this patient is suffering from a cancer of debt and until we begin the proper treatment the patient will continue to wither.
Gerald Celente: "Things Are Going to Get Much Worse…Society Is Breaking Down"
by Aaron Task - Daily Ticker
The government this week reported the U.S. poverty rate has risen to 15.1%, the highest since 1993, while 22% of children are living below the poverty line. Meanwhile, average median U.S. income fell 2.3% to $49,445, roughly 7% below the 1999 peak and a level not seen since 1996 on an inflation-adjusted basis.
If you think that's bad, just listen to what trend watcher Gerald Celente has to say in the accompanying video. "Things are going to get much worse," Celente says. "Society is breaking down on every level: socially, economically, politically and it's not just the U.S. It's worldwide."
Celente believes the globe is following a similar path to what occurred after the 1929 crash: Severe economic contraction, followed by currency wars, trade wars and, ultimately, armed conflict. Currency wars have already started he said, citing the recent decision by the Swiss National Bank to peg the Swiss franc to the euro. "Trade wars are next and then real wars, unfortunately," Celente predicts.
Unlike the 1930s and 1940s, The Trends Journal publisher believes major nations will avoid direct conflict "because they can annihilate each other." The bad news is he expects more asymmetrical warfare, including the use of weapons of mass destruction such as bio-terrorism and "suitcase nukes."
Power to the People
Lest you believe Celente, who has been making similar forecasts for some time, is entirely negative, he does believe there's a solution: Direct democracy. "If we can bank online we can vote online," he quips, suggesting we follow the Swiss (or Californian) model of letting citizens vote on "major" decisions, such as war, health-care policy, education and the like.
"We don't have a representative form of government," Celente continues. "This is not a democracy. The only people these cats represent are the people that give 'em a lot of dough."
As discussed in a prior segment, Celente considers himself a political agnostic and doesn't see much (or any) difference between the two major parties. "It's a two-headed, one party system," he says. "We have a bunch of losers in Washington. How can any adult believe these guys after the summer spectacle of debt ceiling baloney?"
How, indeed.
Central banks step in to calm markets
by Peter Garnham
The euro surged higher against the dollar on Thursday after global central banks joined forces to provide dollar liquidity to the market, a move that could ease funding pressure on European banks. The European Central Bank said it would lend eurozone banks dollars in three separate three-month loans to ensure they had sufficient funding until the end of the year.
"The Governing Council of the European Central Bank has decided, in coordination with the Federal Reserve, the Bank of England, the Bank of Japan and the Swiss National Bank, to conduct three US dollar liquidity-providing operations with a maturity of approximately three months covering the end of the year," the ECB said in a statement.
Divyang Shah at IFR Markets said the announcement would come as a welcome relief to markets concerned about European banks access to dollar funding. "The co-ordination from the ECB, Fed, SNB, BoJ and BoE will likely raise the prospect that we are in a period where further policy announcements will be made to deal with more than just the symptoms of the eurozone sovereign debt and financial crisis and actually start to take measures to get Greece back online and dispel default rumours and inject capital directly into selective banks or even across the board in order to reduce concerns over being stigmatised," he said.
The euro rose 1.3 per cent to $1.3914 against the dollar. The euro was already in demand after Germany and France reassured investors that Greece would remain in the eurozone.
Angela Merkel, German chancellor, and Nicolas Sarkozy, French president, put out a statement late on Wednesday stressing their conviction that Greece's future lay in the eurozone after a conference call with George Papandreou, Greek prime minister. This lessened fears that Greece would default on its debts and raised hopes that Athens would receive fresh rescue funding from the International Monetary Fund and its European partners.
The euro also rose 1.4 per cent to Y106.93 against the yen and climbed 0.8 per cent to £0.8787 against the pound. Meanwhile, the dollar suffered, falling 0.5 per cent to $1.5846 against the pound, dropping 1.3 per cent to SFr0.8657 against the Swiss franc and losing 0.7 per cent to $1.0330 against the Australian dollar.
The euro also rose 0.2 per cent to SFr1.2066 against the Swiss franc as the Swiss National Bank reaffirmed its commitment to temper the strength in its currency after imposing a SFr1.20 ceiling against the euro last week. The SNB said it would defend the SFr1.20 level with the "utmost determination" and was prepared to buy foreign currency in "unlimited quantities".
The bank added that it was taking a stand against the acute threat to the Swiss economy and the risk of deflationary developments that sprang from the "massive overvaluation" of the Swiss franc. "Even at a rate of SFr1.20, the Swiss franc is still high and should continue to weaken over time," the central bank said. "If the economic outlook and deflation risks so require, the SNB will take further measures."
Calvin Tse at Morgan Stanley said the statement revealed that the SNB was prepared to act further and was likely to set a lower ceiling in the exchange rate of the Swiss franc against the euro in the coming months. "In our mind, if the market does not move the euro higher against the Swiss franc, the SNB is prepared to," he said. "Currently, there is no risk of inflation in Switzerland but as the SNB notes, there are downside risks to price stability should the franc not weaken further."
Harry Dent: Dow Could Crash to 3,000 in 2013
by CNBC
The recent gyrations in global stock markets are just the beginning, says U.S.-based economist and author Harry Dent, who believes the Dow will fall below 10,000 in the near term before crashing to around 3,000 in 2013.
"I think the stock crash started in late April. This is just the first wave down...I think the crash really starts some time in early 2012," said the Founder and CEO of economic research company HS Dent and author of upcoming book "The Great Crash Ahead". He pointed to the selloff during the last global financial crisis, when the Dow lost around 8,000 points in the period between October 2007 and early 2009.
Dent based his bearish predictions squarely on the changing spending habits of global consumers. "Baby boomers around the world, and all the developed countries — Europe, North America, Australia — they have peaked in their spending cycles...they've been driving up real estates prices and stock prices and the economy for decades, and now they're going to be saving and not borrowing," Dent said.
Accentuating the problem is the deleveraging of U.S. private debt, which has doubled to $42 trillion from $20 trillion in the last eight years, according to Dent, and is now valued at three times the size of the nation's public debt.
"That debt is deleveraging, and that's actually causing deflationary trends. It won't matter how much stimulus the government throws at the system, because baby boomers with their already huge debt burdens will not want to borrow money and spend more," said Dent. "In the Great Depression, that's what happened — deflation came in such a deep downturn because so much debt was deleveraging."
According to Dent, the spending in the boom years has led to the biggest global real estate and credit bubble in history. He believes the worst hit will be those places where the bubble hasn't burst yet — West Canada, Australia and China.
"Bubbles go back to where they started," he noted. U.S. housing prices, he observed, have fallen 34 percent since their peak, and will drop by another 30 percent. "There's a lot more pain coming, especially in real estate," said Dent, who sold his home in Miami, Florida in October 2005, and doesn't intend to buy property until the market bottoms in a few years.
The only solution to the crisis, Dent offers, is for policy-makers to intervene and write down debt. "You can't deal with this crisis without dealing with the debt first because the demographics are not in your favor. So it's the only thing you can do, by writing down debt, you free up cash flow for consumers and businesses. It's the only thing you can do in a crisis like this after such a major debt and credit bubble."
Avoid Gold, Silver; Buy Dollars
Contrary to what most analysts are recommending, Dent advises staying cautious on gold and silver, and stocking up on U.S. dollars. "I think gold and silver are a bubble. It's the most dangerous place to be," Dent said. "Gold's kind of a wild card, but what we notice it's gone parabolic. We've been telling people… to get out of gold at $2,000." He thinks silver has peaked at $50. "The last time silver went to $50, it crashed back to $4 within two years."
As the deleveraging process takes place and most asset classes fall, Dent says the one asset that will return to its safe haven status will be the greenback, "Debts get written off. That destroys dollars. It makes the dollars more scarce. It restores its value."
What Happens When A Nation Goes Bankrupt
by Simon Black - Sovereign Man
Three years ago today, my best friend called me and told me to turn on my television. I remember the way he described it– "Lehman is finished." The TV showed guys packing up their desks on Sunday afternoon, moving out of their offices forever.
That was the precipice from which financial markets plunged the following day, taking the global economy along for the next three years.
We appear to be at that moment once more.
Greece is out of cash. Again. The Greek Deputy Finance Minister said on Monday that his country only has enough cash to operate for a few more weeks. As I write this note, French, German, and Greek politicians are all on a conference call, feverishly trying to figure out a way to avoid default. Everyone seems to understand the consequences at stake… given the chain of derivatives out there, a Greek default will completely dwarf the Lehman collapse.
Unfortunately for the bureaucrats, dissent against the Greek bailout plan is spreading across Europe… and leaders can no longer ignore the growing wave of opposition in Finland, the Netherlands, Austria, and Germany. It's no wonder, when you think about it. Why should a German hairdresser who retires at age 65 stick his neck out so that a Greek hairdresser can retire at age 50? This, from a continent that was perpetually at war with itself for over a thousand years.
Europe's great benefactor over the last several months has been China, whose treasury has been buying up worthless European sovereign debt to ensure that Greece doesn't default. It's a testament to the absurdity of our failed financial system when the highly indebted rich countries of the world have to go to China, a nation of peasants, for a bailout.
Speaking at the World Economic Forum this morning, Chinese premier Wen Jiabao delivered a stern message: there is a limit to Chinese generosity, and it will come at a price. The Chinese will undoubtedly use any further investment in European bonds as leverage to influence western politicians. They already bought Tim Geithner. The US government refuses to label China a 'currency manipulator'. Similarly, European politicians will now be forced to acknowledge China as a 'market economy'.
Ultimately, this charade will fail. It's a simple matter of arithmetic. China could buy every single penny of Greek debt and it still wouldn't solve the underlying problem: Greece would still be in debt! And more, still hemorrhaging billions of euros each month. Throwing more money at the problem only makes it worse.
Then there are those Greek assets for sale… like state-owned Hellenic Railways Group. It lost a cool billion euros last year. Or the notoriously inefficient, highly unionized, traditionally lossmaking Greek postal service, Hellenic Post. Any takers? These are not exactly high quality assets… nor can Greece expect to get top dollar in what's clearly a distress sale.
Over 200 years ago, Napoleon was forced to sell France's claim to 828,000 square miles of land in the New World in order to cover his war expenses. US President Thomas Jefferson happily obliged, paying the modern equivalent of around $315 million (based on the gold price), roughly 59 cents per acre in today's money. According to US census records, there were around 90,000 people living within the territory during that time who literally woke up the next day to a different world. This is the sort of thing that happens when governments go bankrupt.
With the Lehman collapse, a lot of people got hurt… but it was mostly a financial and economic issue. When an entire nation goes bust, the pain is felt much deeper: the most basic systems and institutions that people have come to depend on simply disappear.
Argentina's millennial debt crisis is a great example of this… suddenly the power failed, the police stopped working, the gas stations closed, the grocery stores ran out of food, the retirement checks stopped coming, and the banks went under (taking people's life savings with them).
European leaders (with Chinese help) can postpone the endgame for a short time, but they're really just taking an umbrella into a hurricane. It would be foolish to not expect a Greek default, and it would be even more foolish to not expect significant consequences. The only question is– how are you prepared to deal with what happens?
Pessimism Surges as 72% See U.S. Economy on Wrong Course in Poll
by Mike Dorning - Bloomberg
Americans' pessimism about the economy has deepened and confidence in both political parties has fallen with only 20 percent saying the country is on the right course even as they remain divided over solutions.
Just 9 percent of people say they are confident the economy won't slide back into recession, in a Bloomberg National Poll. A majority says it will take at least six more years for home values in their community to recover to pre-recession levels. "This country is going downhill," says Glenn Davis, 53, a political independent and a factory worker from Lafayette, Indiana. "For regular people like me, it's hard to get ahead."
Americans are sending mixed signals on the path forward, according to the poll, conducted Sept. 9-12 by Selzer & Co. of Des Moines, Iowa. While they embrace the need for tough prescriptions to cut the federal deficit, including scaling back entitlement programs such as Social Security and increasing taxes on the wealthy, they balk at many specific spending cuts.
Still, the public is re-examining opposition to once- politically explosive ideas such as eliminating the home mortgage interest deduction in the income tax code and raising the Social Security retirement age. Pluralities now support both after a resounding rejection only nine months ago.
The broad message of Republicans is resonating, with 57 percent of the country saying the best way to create jobs is to cut taxes and government spending. That hasn't stopped the party's brand from deteriorating, and the public rejects many specific Republican policy prescriptions.
Declining Repeal Appeal
Support for one of the party's central tenets is declining, with just 34 percent of the country now favoring repeal of President Barack Obama's health-care overhaul, down from 41 percent six months ago. Republicans support repeal, while political independents and Democrats don't.
A 51 percent majority says a special congressional committee considering how to reduce the federal deficit by $1.5 trillion should opt to raise taxes on higher-income earners before curbing entitlements such as Medicare or Social Security, rejecting Republican pledges against tax increases. Almost six of 10 say the panel must do one or the other to meet its deficit-cutting goal.
"Taxes are at the heart of the controversy because Americans hold two conflicting views," said J. Ann Selzer, president of Selzer & Co. "In the abstract, they'd rather cut than raise taxes. But in the context of near-term goals to cut the deficit, they prefer raising taxes to cutting entitlements."
Losing Patience
The poll results show the public is running out of patience with political leaders after months of protracted negotiations over the national debt ceiling that brought the country to the brink of default and signs that the economy is weakening. Seventy-two percent say the country is on the wrong track.
Both sides have suffered. A 53 percent majority holds a negative view of the Republican Party, up from 47 percent in June. The Democratic Party has also taken a hit, with a 46 percent to 44 percent plurality of respondents saying they have an unfavorable view of the party, a reversal from a plurality of 48 percent to 42 percent with a positive view three months ago.
"Both sides need to think outside the box," says Rachel Reichard, 40, a political independent and full-time home- schooling mother from Hagerstown, Maryland. "It just seems like everybody is thinking like they did in the Clinton administration. They still had typewriters on the desk and landlines back then."
No Better Off
Only 27 percent of Americans say they are better off now than in January 2009, when Obama took office in the depths of the recession compounded by the September 2008 financial crisis and the country was losing as many as 820,000 jobs a month. That's a decline from June, when 34 percent said they were better off.
Unemployment and jobs are the nation's top concern, cited by 46 percent of Americans, ranking ahead of the combination of the deficit and government spending at 30 percent. Among Republicans, the combination of the deficit and spending was the most important issue, cited by 47 percent, ranking ahead of jobs at 36 percent.
Concern over the economy has increased as growth weakened during the first half of the year to its slowest pace since the recovery began, and market pessimism has risen over the European debt crisis. In August, U.S. employers added no new net jobs, the worst monthly results for payroll growth since September 2010.
Income Drops
Unemployment has been hovering at or above 9 percent for more than two years and real average hourly wages for those who have jobs declined 1.3 percent over the 12 months through July. Even with 3 percent growth in the economy last year, real median income for U.S. households dropped in 2010 to the lowest level since 1996, according to a census report issued yesterday.
The benchmark Standard & Poor's 500 Index has declined 12.8 percent since July 22 and was down 6.74 percent for the year at the market close in New York yesterday. After months of political debate dominated by struggles over the national debt and deficit, Obama's advantage over Republicans on who has the better vision for the economy has now largely eroded.
Poll respondents still favor the president's long-term view by 43 percent to 41 percent for Republicans, though that has slipped from a 12-point advantage for Obama in March. Political independents now divide almost evenly: 38 percent for Obama and 39 percent for Republicans.
The public's view of Federal Reserve Chairman Ben S. Bernanke is also less favorable than in the last poll. Twenty- nine percent said they have a favorable view of the central banker against 35 percent who have an unfavorable view. That compares with the June poll, when 30 percent had a favorable view, and 26 percent had an unfavorable view.
Rejecting Republican Plans
Majorities reject many specifics of Republicans' long-term plan to balance the budget. More than three-quarters oppose cuts to Medicaid, the federal-state health-insurance program for the poor, and almost 6 of 10 reject replacing the Medicare plan for the elderly with a private voucher system. A 54 percent majority would raise taxes on families earning more than $250,000 per year, a measure that Republican leaders oppose.
Public support is rising for some budget measures that much of the country once considered untenable. Americans are now evenly divided on gradually raising the Social Security retirement age to 69, with 49 percent in favor and 48 percent opposed. Last December, the idea was opposed 60 percent to 37 percent.
Viable Option
"It's a viable option," said Chris Nicholson, 44, a political independent and a software architect in Oakland, Tennessee. "People live longer. My mother's 65 and there's no reason for her not to work. As a matter of fact, she'd be working now if she could find a job."
Support for a higher retirement age is strongest among the elderly, whose benefits wouldn't be affected. Still, middle-aged and younger Americans have softened their opposition. Fifty-two percent of those under 55 are now against an increase in the retirement age versus almost two-thirds in December.
A tax revamp that eliminates all deductions, including that for home mortgage interest payments, in exchange for lower rates is backed by 48 percent and opposed by 45 percent. In December, 51 percent were against the proposal compared with 41 percent in favor. Republicans favor the idea 54 percent to 38 percent. In December, they opposed it 51 percent to 41 percent. The poll, which questioned 997 U.S. adults ages 18 or older, has a margin of error of plus or minus 3.1 percentage points.
Fed's Weapons of Mass Distraction
by David Reilly - Wall Street Journal
As the Federal Reserve weighs yet again how to try and stimulate the economy, one option seems like a no-brainer: stop paying interest on about $1.6 trillion in excess reserves that banks keep with the Fed. The idea is that if banks stop receiving 0.25 percentage point on the reserves, they will lend more. After all, the alternative is getting even-more paltry returns on things like short-term Treasury securities.
Trouble is, when it comes to this, or any of the unconventional options the Fed is considering, nothing is as easy or straightforward as it looks. Halting the payment of interest on excess reserves might actually disrupt markets.
The Fed started paying interest on excess reserves—those that exceed the funds banks must hold with the Fed against deposits—during the financial crisis as a way to offset the expansion of its own balance sheet. This was meant to discourage excessive credit creation and help prevent an inflationary spiral. It also allowed for flexibility. As New York Fed President William Dudley said in a speech in July 2009, the Fed could raise the rate to prevent inflation, but could also reduce it "if the demand for credit is insufficient to push the economy to full employment."
But it's more complicated today due to the shaky economy and super-low interest rates. For starters, such a move probably won't do much economic good. Banks aren't likely to suddenly start lending just because they stop getting a measly 0.25 percentage point on excess reserves. They would already be lending if greater loan demand existed.
Plus, a large share of the excess reserves are from foreign banks. And if the Fed interest rate went to zero, banks might end up shifting excess reserves into other assets such as short-term Treasurys or repurchase, or repo, instruments, even though they offer historically low rates.
This could push yields even lower, increasing the risk they dip into negative territory when there are further bouts of extreme market stress. That could disrupt money market funds, leaving them the choice of subsidizing depositors or running the risk of seeing net asset values fall below $1, known as breaking the buck, Joseph Abate of Barclays Capital noted in a recent report.
The possibility that the Fed may unsettle, rather than soothe, markets is also true for some of the other options it is considering. Chief among these is a shift, or "twist", of its Treasury securities portfolio in favor of longer-dated government debt. One fear is that the Fed may actively sell shorter-dated government paper, rather than letting it mature, to fund purchases of longer-dated debt.
This could cause short-term yields to rise, thereby making short-term debt a more-attractive place for investors to huddle. If so, this would run counter to the aim of buying longer debt, which is to push investors into riskier assets. Given the risk of unintended consequences, the Fed needs to be clear that any moves it takes will really benefit the economy. It shouldn't just do something for the sake of appearing to act.
US mortgage default warnings surged in August
by Alex Veiga - AP
Report: Mortgage default warnings spiked in August, signaling potential new foreclosure wave
Banks have stepped up their actions against homeowners who have fallen behind on their mortgage payments, setting the stage for a fresh wave of foreclosures. The number of U.S. homes that received an initial default notice -- the first step in the foreclosure process -- jumped 33 percent in August from July, foreclosure listing firm RealtyTrac Inc. said Thursday.
The increase represents a nine-month high and the biggest monthly gain in four years. The spike signals banks are starting to take swifter action against homeowners, nearly a year after processing issues led to a sharp slowdown in foreclosures. "This is really the first time we've seen a significant increase in the number of new foreclosure actions," said Rick Sharga, a senior vice president at RealtyTrac. "It's still possible this is a blip, but I think it's much more likely we're seeing the beginning of a trend here."
Foreclosure activity began to slow last fall after problems surfaced with the way many lenders were handling foreclosure paperwork, namely shoddy mortgage paperwork comprising several shortcuts known collectively as robo-signing. Many of the nation's largest banks reacted by temporarily ceasing all foreclosures, re-filing previously filed foreclosure cases and revisiting pending cases to prevent errors.
Other factors have also worked to stall the pace of new foreclosures this year. The process has been held up by court delays in states where judges play a role in the foreclosure process, a possible settlement of government probes into the industry's mortgage-lending practices, and lenders' reluctance to take back properties amid slowing home sales. A pickup in foreclosure activity also means a potentially faster turnaround for the U.S. housing market. Experts say a revival isn't likely to occur as long as there remains a glut of potential foreclosures hovering over the market.
Foreclosures weigh down home values and create uncertainty among would-be homebuyers who fret over prospects that prices may further decline as more foreclosures hit the market. There are about 3.7 million more homes in some stage of foreclosure now than there would be in a normal housing market, according to Citi analyst Josh Levin. "This bloated foreclosure pipeline now presents the greatest obstacle to a housing market recovery," Levin said in a client note this week.
Banks have been working through a backlog of properties that first entered the foreclosure process months, if not years ago. But the August increase in homes entering that process sets the stage for a host of new properties being targeted for foreclosure. That's bad news for homeowners who may have grown accustomed to missing payments for several months without the threat of foreclosure bearing down on them. In states such as New York and Florida, for instance, processing delays have helped some homeowners stay in their homes for more than two years before banks got around to taking back their properties.
In all, 78,880 properties received a default notice in August. Despite the sharp increase from July, last month's total was still down 18 percent versus August last year and 44 percent below the peak set in April 2009, RealtyTrac said.
Some states, however, saw a much larger increase. California saw a 55 percent increase in homes receiving a default notice last month, while in Indiana they climbed 46 percent. In New Jersey, where last month a judged ruled that four major banks could resume uncontested foreclosure actions in the state under court monitoring, homes receiving a default notice increased 42 percent. Despite the increase in new defaults, the number of homes scheduled for auction and those repossessed by banks slowed in August.
Scheduled foreclosure auctions declined 1 percent from July and fell 43 percent from a year earlier, RealtyTrac said. Auctions increased from July levels in several states, including Colorado, where they rose 51 percent, and Arizona, where they grew 20 percent.
Lenders repossessed 64,813 properties last month, a drop of 4 percent from July and down 32 percent from a year earlier. Home repossessions peaked September last year at 102,134. Banks are now on track to repossess some 800,000 homes this year, down from more than 1 million last year, Sharga said. The firm had originally anticipated some 1.2 million homes would be repossessed by lenders this year.
In all, 228,098 U.S. homes received a foreclosure-related notice last month, a 7 percent increase from July, but a nearly 33 percent decline from August last year. That translates to one in every 570 U.S. households, said RealtyTrac. Nevada still leads the nation, with one in every 118 households receiving a foreclosure-related notice last month. Rounding out the top 10 states with the highest foreclosure rate in August are California, Arizona, Georgia, Idaho, Michigan, Florida, Illinois, Colorado and Utah.
Americans wade in on Euro crisis
by Mark Mardell - BBC
You might think President Obama has enough on his plate without worrying about the European crisis. But you'd be wrong.
The White House may not really care too much about the fate of the euro itself, but it does care about European banks and the sense of impending economic doom. Any blowback - a Lehman Brothers in reverse - could send the fragile to non-existent US recovery spinning right off course. So President Obama and his treasury secretary have rolled their sleeves up, and got stuck in to the most inflammatory debate in Europe.
Should the crisis mean more Europe, or less? "It is difficult to co-ordinate and agree on a common path when you have so many countries with different policies and economic situations," Mr Obama told a number of Spanish-speaking journalists. That is a truism in Europe to anybody who has dealt with, observed or covered the multi-headed EU beast.
The relationship between the governments of 27 countries, the European Commission and the European Parliament is less fractious than the relationship between Congress and the president. But even America's tortuously slow decision-making process looks like lightning by comparison. There are very good reasons for this. But the president suggested a way has to be found around it.
"In the end the big countries in Europe, the leaders in Europe must meet and take a decision on how to co-ordinate monetary integration with more effective co-ordinated fiscal policy," Mr Obama said.
The Obama administration has felt for a while that European leaders have used sticking plasters instead of drastic surgery, that they come up with bland statements to half-soothe the markets and head off a crisis for a few weeks at a time, only for it to be back the following month. Now they've gone public because private frustration has turned to genuine alarm.
The message that there has to be bold, dramatic action will be delivered in person by none other than US Treasury Secretary Timothy Geithner. He is making an unprecedented trip to join European finance ministers in Poland.
Mr Geithner's analysis will be unprecedented as well in its bluntness. He says Europe has been behind the curve, and has to show that its leaders have finally got the message. "They're going to have to demonstrate to the world they have enough political will. This is not a question of financial or economic capacity," Mr Geithner said. "Even if you take a very conservative, pessimistic estimate of the ultimate cost of resolving this crisis for Europe, it is completely within the capacity of the stronger members of the euro area to absorb those costs."
What is interesting here is that US leaders are missing the ideological nuance, and making - what to them - are pragmatic arguments. They don't really care about the plight of European leaders at the mercy of an economic crisis that demands one thing: great integration - but could prompt a political crisis demanding the exact opposite: a looser Europe. However, because Americans are unconcerned about the ideological nuances of the debate, perhaps they see things a lot more clearly.
Wall Street has much the same view as the White House. It is the crisis that worries them, not the fate of the euro itself, or the exact mechanisms taken to solve it. David Zervos from Jefferies Global Securities says many Americans regard the Euro with distaste.
"The structure of economic and monetary union has been left half-built," Mr Zervos told me. "We are in the middle of one of the worst recessions that any of us have ever lived through, and the euro structure was not built for that sort of turmoil. "Fiscal union, the ability to pull resources fiscally across countries, was not built into the structure and right now we are seeing that problem tear the system apart and it's a pretty messy situation."
He points out that the US went though a debate about federalism 200 years ago, while Europe has had a federal currency for just over 10 years, but seems unenthusiastic to have the same debate.
Behind the intimidating talk of "fiscal integration", what do the Americans mean? They would like Euro bonds, certainly, but may have accepted that is not going to happen. So they would like stronger action by the European Central Bank, with the will of the Fed to act quickly and strongly. They want European politicians to put their people's money where the elites' mouths have been for a long while.
At first blush, it is faintly amusing that this harsh, practical advice is coming from the USA. Here, political pragmatism often goes by the board as every idea gets tested against philosophic first principles.
America's leaders seem to ignore the problem at the heart of this debate: to survive, the euro may need a spirit of European solidarity that simply doesn't seem to exist. But then if the idea of the Euro had been destruction-tested, American-style, against political first principles, Europe's leaders might not be in need of a lecture from the president.
China to 'liquidate' US Treasuries, not dollars
by Ambrose Evans-Pritchard - Telegraph
The debt markets have been warned.
A key rate setter-for China's central bank let slip – or was it a slip? – that Beijing aims to run down its portfolio of US debt as soon as safely possible. "The incremental parts of our of our foreign reserve holdings should be invested in physical assets," said Li Daokui at the World Economic Forum in the very rainy city of Dalian – former Port Arthur from Russian colonial days.
"We would like to buy stakes in Boeing, Intel, and Apple, and maybe we should invest in these types of companies in a proactive way." "Once the US Treasury market stabilizes we can liquidate more of our holdings of Treasuries," he said.
To my knowledge, this is the first time that a top adviser to China's central bank has uttered the word "liquidate". Until now the policy has been to diversify slowly by investing the fresh $200bn accumulated each quarter into other currencies and assets – chiefly AAA euro debt from Germany, France and the hard core.
We don't know how much US debt is held by SAFE (State Administration of Foreign Exchange), the bank's FX arm. The figure is thought to be over $2.2 trillion. The Chinese are clearly vexed with Washington, viewing the Fed's QE as a stealth default on US debt. Mr Li came close to calling America a basket case, saying the picture is far worse than when Ronald Reagan and Margaret Thatcher took over in the early 1980s.
Mr Li, one of three outside academics on China's MPC, described the debt deals on Capitol Hill as "just trying to by time", saying it will not be enough to stop America's "debt dynamic" turning dangerous.
Fair enough, but let us be clear: the reason China has accumulated the equivalent of 6pc of global GDP in reserves (like the US in the 1920s) is because it has held down its currency to gain market share.
As Michael Pettis from Beijing University points out tirelessly, the mercantilist policy hollows out US industries and forces America to choose between debt bubbles or unemployment – or, of course, protectionism, though we are not there yet.
Until it abandons that core policy, it has to keep buying foreign assets and lots of dollars. The euro can absorb only so much – 800bn euros so far – before Europeans realize (the French already realize) that Chinese bond purchases are double edged, and the yen the Swissie can't absorb anything at all. (The governments are intervening to stop it). Besides, China has the same misgivings about euro debt as it does about dollar debt. Perhaps more so after Euroland's long-running soap opera. So what Li Daokui said is not bad for the dollar as such. He said there is "$10 trillion" waiting to be invested in the US, if America will open its doors.
It is bad for bonds – or will be. The money will go into strategic land purchases all over the world, until the backlash erupts in earnest. It will go into equities, until Capitol Hill has a heart attack. It will go anywhere but debt.
Europe and China Bound by Mutual Fears
by Stefan Schultz - Spiegel
While a hard-up America can only admonish those involved in the euro crisis, Chinese Premier Wen Jiabao is offering to be the savior. Beijing's price: more political credit and economic power. The EU must not be intimidated, however -- its bargaining position is better than it may seem at first.
A few years ago, critics from the United States and Europe gave their trading partner China a less-than-favorable name: In an insulting bit of latent racism, they dubbed the emerging superpower a "yellow peril." They warned of an army of Chinese minimum wage laborers, who would destroy entire industries in the West -- and with them millions of jobs. They also warned of growing political influence from the East, which could ultimately even lead to an erosion of human rights.
In recent months, the critics have gone quiet -- because they have far more important problems to worry about. Problems with many zeros on the end. At around $15.2 trillion (€11.1 trillion), the US government's debt at the end of 2012 could be as high as the amount of money the country generates in a year.
In Europe, the debt prognosis is hardly any better. Italy: €1.9 trillion (approximately 120 percent of annual economic output); Greece: €472 billion (150 percent). The debt clocks of America and the euro countries are ticking relentlessly, and the slogan "Money rules the world" is being given a new meaning. In record time, it seems the current global balance of power is shifting -- in favor of China.
On Monday, the US government fired an urgent warning towards Europe. The euro crisis threatens global growth, President Barack Obama said. "As long as this crisis is not solved, we will continue to see weaknesses in the global economy." But America itself is alarmingly high in debt; Obama's exhortation seems like cheap campaign rhetoric, a maneuver to divert attention away from his own serious problems.
America Warns While China Promises Salvation
China currently appears in quite a different light: The country has foreign exchange reserves of $3.2 trillion. The government is holding around a quarter of that in euro securities, mostly government bonds, said Daniel Gros of the Center for European Policy Studies in Brussels. According to the Financial Times Deutschland newspaper, China has more than tripled its financial commitment in Europe since 2007, and this trend is growing.
His country was ready to "extend a helping hand" and to invest more in European countries and the US, Chinese Premier Wen Jiabao said on Wednesday. China has already bought Greek and Portuguese government bonds, and, according to a report by London's Financial Times this week, debt-ridden Italy has recently wooed Chinese sovereign wealth fund CIC for money.
America can only warn, while China promises salvation: This is the new creed of the global debt crisis. The supposed "yellow peril" has positioned itself as a "white knight" which promises not to leave its trading partners in Europe and America in the lurch.
In return, however, Beijing is demanding a high price -- the Chinese government wants more political prestige and more political power:
- Prime Minister Wen has called for more access to American markets, saying the US should be more open for Chinese investors. If China invests more in US companies, new jobs would also be created, he argues. As conciliatory as that sounds, however, the words are poison for President Obama given that high unemployement in the US could ultimately scupper his chances for re-election.
- Wen is also demanding that the US lift restrictions on the export of high technology products to China. This would allow America to increase exports and improve its trade deficit. So far, US companies have held back from such a policy for fear their technology would be copied by potential Chinese competiters.
- Far-reaching demands have also been made of Europe by Wen: European Union countries, he argues, should at last recognize the world's second largest economy as a market economy. He is hoping for a "breakthrough" to happen as soon as the next EU-China Summit on Oct. 25 in the Chinese city of Tianjin.
The demands are not all new -- but China is pushing them with increasing intensity. This is especially shown by the discussion about the recognition of China as a market economy. This would happen automatically in 2016, but for China that is not fast enough, as such a recognition would at a stroke reduce many barriers to trade. In particular, direct investment in Europe would become much easier.
'Euro-Zone Crisis Also Hurting China'
Until now, the debate has been going in just one direction: To recognize China as a market economy sooner, Europe has demanded major concessions on human rights and the protection of intellectual property. China is now turning the tables: Much-needed support during the euro crisis will be available, it says -- if Europeans recognize China as having a market economy.
Europe must not be intimidated, however, because it is China's most important trading partner after the US. "The crisis in the euro zone is also hurting China," said Eberhard Sandschneider of the German Council on Foreign Relations (DGAP). "Not only because Beijing is holding a large amount of European debt securities, but also because the country wants to expand into Europe." In addition, Beijing has consistently stressed that the US dollar should be replaced as the key currency by a triumvirate of dollar, euro and Chinese yuan -- and therefore China wants to support Europe.
Thus, Europe's negotiating position is not all that terrible; it has more political leverage than it would appear at first. Not the least of which is the fact that the continent's ominous weaknesses act as a means of putting pressure on China; it might not be an over-exaggeration to say there is a certain balance of horror. If one fails, both fail.
Nevertheless, Europe will have to get used to the fact that China will be increasingly negotiating using the methods of the industrialized Western nations; that is to say, it will use its growing economic clout more and more as a political weapon. "The behavior of the Chinese government in the euro crisis has become a whole lot more confident," said Sandschneider. "This is the new reality with which Europe and America must deal with constructively."
China wants to break the ultimate taboo and buy into Western companies such as Apple, Boeing and Intel
by Ambrose Evans-Pritchard - Telegraph
China has punctured the last delusion. There will be no rescue of Italy until Europe agrees to major strategic concessions, and only after EMU's fiscal sinners clean house.
Chinese premier Wen Jiabao was soothingly polite in his speech to the World Economic Forum in Dalian, insisting that his country will play its part to "prevent the further spread of the sovereign debt crisis".
The language toughened a few notches when asked later how far China's Communist Party is really willing to go. The message was clipped and severe. Beijing will not sign a blank cheque for European states that have failed to carry out deep reform. "Countries must first put their own houses in order," he said.
Mr Wen said he had spoken to José Manuel Barroso, the president of the European Commission, laying the conditions for Chinese intervention. "I made clear to him that we are confident Europe will overcome its difficulties and make a full recovery. We have on many occasions expressed our readiness to extend a helping hand, and that we are willing to invest more in European countries."
"At the same time, we need bold steps to give redirection to China's strategic objective. We believe they should recognise China's full market economy status," he said, referring to World Trade Organisation (WTO) rules. "To show one's sincerity on this issue ... is the way a friend treats another friend," he said, answering a question after his speech.
Li Daokui, a rate-setter at China's central bank, warned that nobody should delude themselves about China's willingness to play the role of white knight. "I don't think any country can be saved by China in today's world. Countries can only save themselves by pushing through reforms," he told a panel at the forum, echoing language from German Chancellor Angela Merkel.
China's central bank must stop investing its hard-earned wealth in Western debt, switching instead into infrastructure, highways, railways and postal systems in countries such as the US, and even breaking the ultimate taboo by purchasing equities. "The incremental parts of our of our foreign reserve holdings should be invested in physical assets," he said.
"We would like to buy stakes in Boeing, Intel and Apple, and maybe we should invest in these types of companies in a proactive way." "Once the US Treasury market stabilises we can liquidate more of our holdings of Treasuries," he said.
The comments mark a shift in China's strategic thinking since the US was downgraded to AA+ by Standard & Poor's over the summer. Until now the stated policy has been to lower China's share of US debt holdings within its $3.2 trillion reserves by diversifying fresh money into other assets and currencies, rather than by running down its portfolio of US Treasuries.
Mr Li said America's "debt dynamic" is precarious and dismissed the debt-ceiling compromise between the White House and Congress as window dressing. "They are just trying to buy time and procrastinate," he said.
The suggestion that the Chinese government should build up strategic holdings in America's leading industrial and technology companies is likely to cause great unease on Capitol Hill. A switch into hard assets would be neutral for the dollar, allowing China to continue holding down its currency to maintain its global export share. The country is still accumulating $200bn in fresh reserves each quarter.
Whether the US and other Western states will allow the Chinese government and state companies to buy strategic chunks of their industry in this fashion is an open question. It would also mark a revolution in global central banking, where orthodoxy views equities as off limits for reserve holding.
Mr Li said any such plan by China would require a change in policy by Washington. "There is plenty of money ready to be invested in the US, but all you let us buy is Treasury bonds." He said China had shown itself to be a responsible stakeholder in the global system. "China is the most patient investor in the world. Imagine if our $3.2 trillion in foreign reserves had been controlled by George Soros: financial markets would be in much greater chaos," he said.
SAFE, the arm of the Chinese central bank that handles its foreign reserves, has accumulated roughly €800bn of eurozone bonds over the past decade, mostly from the AAA core such as Germany, France and the Netherlands. This has been a crucial factor explaining the strength of the euro. It has intervened a number of times in peripheral markets since the crisis began, allegedly accumulating €50bn (£43.48bn) of Spanish debt.
However, the relentless climb in Spanish and Italian yields over the summer indicates clear limits to Chinese buying. China's central bank has already suffered a large paper loss on Portuguese debt bought with much fanfare before that country needed a rescue.
Giulio Tremonti, Italy's finance minister, said it is hard to persuade Asian investors to buy Italian debt when the European Central Bank hesitates to do so. China's sovereign wealth fund - China Investment Corporation (CIC) - has been in talks with Italy but is more interested in buying key industrial and strategic assets.
Lou Jiwei, CIC's chief, came under attack in China for losses on US investments after the Lehman crisis. He is unlikely to risk his career a second time by taking a gamble on Italian or Spanish debt. He reportedly told a cadre of party leaders that Europe had done China a favour by repelling Chinese investment before the financial crisis. "They saved us a lot of money," he said.
Market status under the WTO has become the Holy Grail for China, not just because it makes the country less vulnerable to "anti-dumping" sanctions from the EU and the US but also because it marks the country's final coming of age in the global economy.
Beijing is bitter that the EU recognises the market status of Russia despite open violations of WTO rules by the Kremlin, claiming that the "double standard" is a disguised form of protectionism. Under its WTO accesssion accord in 2001, China remains a "non-market economy" for 15 years unless other members agree to fast-track the process. Beijing fears that the goalposts may shift again by the time 2016 arrives.
China states price for Italian rescue
by Ambrose Evans-Pritchard - Telegraph
China has called for major strategic concessions from Europe before agreeing to rescue the eurozone, chilling hopes for immediate purchases of Italian bonds.
Premier Wen Jiabao said his country and will play its part to "prevent the further spread of the sovereign debt crisis," but warned that China will not sign a blank cheque for states that have failed to carry out full reform. "Countries must first put their own houses in order," he told the World Economic Forum in Dalian.
Mr Wen said he had spoken to José Manuel Barroso, the president of the European Commission, laying the conditions for Chinese intervention. "I made clear to him that we are confident Europe will overcome its difficulties and make a full recovery. We have on many occasions expressed our readiness to extend a helping hand, and that we are willing to invest more in European countries."
"At the same time, we need bold steps to give redirection to China's strategic objective. We believe they should recognise China's full market economy status," he said, referring to World Trade Organisation rules. "To show one's sincerity on this issue ... is the way a friend treats another friend," he said.
Li Daokui, a member of the monetary policy committee of China's central bank, warned that nobody should delude themselves about China's willingness to play the role of white knight. "I don't think any country can be saved by China in today's world. Countries can only save themselves by pushing through reforms," he told a panel at the forum, echoing langugage from German Chancellor Angela Merkel.
Professor Li said China must stop investing its hard-earned wealth in western debt and switch its incremental holdings into "physical assets", including the equities of major western companies. "China is the most impatient investor in the world. Imagine if our $3.2 trillion in foreign reserves had been controlled by George Soros: financial markets would be in much greater chaos," he said.
China has accumulated roughly 800bn euros of eurozone bonds over the last decade, mostly from the AAA core such as Germany, France, and the Netherlands. This has been a crucial factor explaining the strength of the euro. It has intervened a number of times in peripheral markets since the crisis began, allegedly accumulating €50bn (£43.48bn)of Spanish debt.
However, the relentless climb in Spanish and Italian yields over the summer indicates clear limits to Chinese buying. China's central bank has already suffered a large paper loss on Portuguese debt bought with much fanfare before that country needed a rescue. Italy's finance minister Giulio Tremonti said it is hard to persuade Asian investors to buy Italian debt when the European Central Bank hesitates to do so.
China's sovereign wealth fund -- China Investment Corporation -- has been in talks with Italy but is more interested in buying key industrial and strategic assets. Lou Jiwei, CIC's chief, came under harsh attack in China for losses on US investments after the Lehman crisis. He is unlikely to risk his career a second time by taking a gamble on Italian or Spanish debt.
Market status under the WTO has become the Holy Grail for China, both because it makes the country less vulnerable to 'anti-dumping' sanctions from the EU and because it marks the country's final coming of age in the global economy. Beijing is bitter that the EU recognises the market status of Russia despite open violations of WTO rules by the Kremlin, claiming that the "double standard" is a disguised form of protectionism.
Under its WTO accesssion accord in 2001, China remains a "non-market economy" for 15 years unless other members agree to fast-track the process. There could still be problems even after 2016 if major powers take a tough line.
EU predicts Eurozone growth is 'coming to a standstill'
by BBC
The European Commission has predicted that economic growth in the eurozone will come "to a virtual standstill" in the second half of 2011. It halved its forecast for July to September to growth of just 0.2%, while the forecast for the last three months of the year is down from 0.4% to 0.1%. The commission blamed financial market problems over the summer as well as weakening demand from outside Europe. But it remained confident that there would not be a return to recession.
"Recoveries from financial crises are often slow and bumpy. Moreover, the EU economy is affected by a more difficult external environment, while domestic demand remains subdued," EU Economic Affairs Commissioner Olli Rehn said at a news conference to unveil the report. "The sovereign debt crisis has worsened, and the financial market turmoil is set to dampen the real economy."
'Integral part'
The report predicted that member states having to cut back on their spending to reduce their debt would also hit growth. One of the countries currently cutting back its spending is Greece, which reiterated on Wednesday that it was determined to meet all the deficit reduction plans it has agreed to in exchange for its two bailouts.
There were supportive comments from eurozone leaders towards Greece on Wednesday, which boosted the stock markets on Thursday. Eurozone leaders said Greece was an "integral" part of the eurozone.
Greece is set to receive the next loan from its initial EU and International Monetary Fund bailout later this month, but it will get this only if inspectors from the EU, European Central Bank and IMF agree that it is keeping up with its spending cut targets. There have been concerns that they may rule that Greece has fallen behind. Without this month's loan, Greece will not be able to meet its debt payments by the middle of next month.
Inflation steady
The commission said that inflation would fall back faster than had been expected, because commodity price rises had slowed more than predicted. Also on Thursday, official figures from Eurostat showed that inflation in the eurozone stood at an annual rate of 2.5% in August, unchanged from July's figure.
The inflation figure for the whole of the EU was 2.9% in August, also unchanged from July. The commission predicted that those would also be the inflation figures for the whole of 2011.
Jefferies: Expect Massive Policy Response In Europe, Bank Nationalizations And TARP In Drachma
by Tyler Durden - Zero Hedge
The most scathing report describing in exquisite detail the coming financial apocalypse in Europe comes not from some fringe blogger or soundbite striving politician, but from perpetual bulge bracket wannabe, Jefferies and specifically its chief market strategist David Zervos.
"The bottom line is that it looks like a Lehman like event is about to be unleashed on Europe WITHOUT an effective TARP like structure fully in place. Now maybe, just maybe, they can do what the US did and build one on the fly - wiping out a few institutions and then using an expanded EFSF/Eurobond structure to prevent systemic collapse. But politically that is increasingly feeling like a long shot. Rather it looks like we will get 17 TARPs - one for each country. That is going to require a US style socialization of each banking system - with many WAMUs, Wachovias, AIGs and IndyMacs along the way.
"The road map for Europe is still 2008 in the US, with the end game a country by country socialization of their commercial banks. The fact is that the Germans are NOT going to pay for pan European structure to recap French and Italian banks - even though it is probably a more cost effective solution for both the German banks and taxpayers... Expect a massive policy response in Europe and a move towards financial market nationlaization that will make the US experience look like a walk in the park. "
Must read for anyone who wants a glimpse of the endgame. Oh, good luck China. You'll need it.
Full Report:
In most ways the excess borrowing by, and lending to, European sovereign nations was no different than it was to US sub prime households. In both cases loans were made to folks that never had the means to pay them back. And these loans were made in the first place because regulatory arbitrage allowed stealth leverage of the lending on the balance sheets of financial institutions for many years. This levered lending generated short term spikes in both bank profits and most importantly executive compensation - however, the days of excess spread collection and big commercial bank bonuses are now long gone. We are only left with the long term social costs associated with this malevolent behavior. While there are obvious similarities in the two debtors, there is one VERY important difference - that is concentration. What do I mean by that? Well specifically, there are only a handful of insolvent sovereign European borrowers, while there are millions of bankrupt subprime households. This has been THE key factor in understanding how the differing policy responses to the two debt crisis have evolved.
In the case of US mortgage borrowers, there was no easy way to construct a government bailout for millions of individual households - there was too much dispersion and heterogeneity. Instead the defaults ran quickly through the system in 2008 - forcing insolvency, deleveraging and eventually a systemic shutdown of the financial system. As the regulators FINALLY woke up to the gravity of the situation in October, they reacted with a wholesale socialization of the commercial banking system - TLGP wrapped bank debt and TARP injected equity capital. From then on it has been a long hard road to recovery, and the scars from this excessive lending are still firmly entrenched in both household and banking sector balance sheets. Even three years later, we are trying to construct some form of household debt service burden relief (ie refi.gov) in order to find a way to put the economy on a sustainable track to recovery. And of course Dodd-Frank and the FHFA are trying to make sure the money center commercial banks both pay for their past sins and are never allowed to sin this way again! More on that below, but first let's contrast this with the European debt crisis evolution.
In Europe, the subprime borrowers were sovereign nations. As the markets came to grips with this reality, countries were continuously shut out from the private sector capital markets. The regulators and politicians of course never fully understood the gravity of the situation and continuously fought market repricing through liquidity adds and then piecemeal bailouts. In many ways the US regulators dragged their feet as well, but they were forced into "getting it" when the uncontrolled default ripped the banks apart. Thus far the Europeans have been able to stave off default because there were only 3 borrowers to prop up - Portugal, Ireland and Greece. The Europeans were able to do something the Americans were not - that is "buy time" for their banking system. And why could they do this - because of the concentrated nature of the lending. In Europe, there were only 3 large subprime borrowers (at least so far), so it was easy to front them their unsustainable payments - for a while. But time is running out. Of couse, the lenders (ie the banks) have always been dead men walking!
At the moment, the European policy makers – after much market prodding - have finally come to grips with the gravity of their situation. And having seen the US bailout movie, they know all too well what happens when a default of this caliber rips through the financial system. The reason the EFSF was created in the first place was so that there could be some form of a European TARP when the piper finally had to be paid and the defaults were let loose. Certainly many had hoped the EFSF could be set up as a US style TARPing mechanism (like our friend Chrissy Lagarde suggests). The problem of course is that there are 17 Nancy Pelosis and 17 Hank Paulsons in the negotiation process. And while the Germans are likely to approve an expanded TARP like structure on 29-Sep, it increasingly looks like it may be too little too late. The departure of Stark, the German court ruling on future bailouts/Eurobonds, the statements by the German economy minister and the latest German political polls all suggest that Germany is NOT interested a full scale TARPing and TLPGing process across Europe. They somehow think they will be better off with each country going at it alone.
The bottom line is that it looks like a Lehman like event is about to be unleashed on Europe WITHOUT an effective TARP like structure fully in place. Now maybe, just maybe, they can do what the US did and build one on the fly - wiping out a few institutions and then using an expanded EFSF/Eurobond structure to prevent systemic collapse. But politically that is increasingly feeling like a long shot. Rather it looks like we will get 17 TARPs - one for each country. That is going to require a US style socialization of each banking system - with many WAMUs, Wachovias, AIGs and IndyMacs along the way. The road map for Europe is still 2008 in the US, with the end game a country by country socialization of their commercial banks. The fact is that the Germans are NOT going to pay for pan European structure to recap French and Italian banks - even though it is probably a more cost effective solution for both the German banks and taxpayers.
Where the losses WILL occur is at the ECB, where the Germans are on the hook for the largest percentage of the damage. And these will not just be SMP losses and portfolio losses. It will also be repo losses associated with failed NON-GERMAN banks. Of course in the PIG nations, the ability to create a TARP is a non-starter - they cannot raise any euro funding. The most likely scenario for these countries is full bank nationalization followed by exit and currency reintroduction. Bring on the Drachma TARP!! The losses to the remaining union members from repo and sovereign debt write downs at the ECB will be massive (this is likely the primary reason why Stark left). It will require significant increases in public sector debt and tax collection for remaining members. And for the Germans this will probably be a more costly path. Nonetheless, politics are the driver not economics. There is a reason why German CDS is 90bps and USA CDS is 50bps – Bunds are not a safe haven in this world – and there is no place in Europe that will be immune from this dislocation. Expect a massive policy response in Europe and a move towards financial market nationlaization that will make the US experience look like a walk in the park. Picking winners and losers will be VERY HARD but let's look at a few weak spots –SocGen 12b in market cap (-70% this year) with assets of 1.13 trillion BNP 31b in market cap (-55% this year) with assets of 2 trillion Unicredito 13b in market cap (-70% this year) with assets of 1 trillion Intesa 14b in market cap (-70% this year) with assets of 700b Compare this with the USA where we have - JPM 125b in market cap with assets of 2.1 trillion BAC 70b in market cap with assets of 2.2 trillion
Importantly, France GDP is only 2 trillion and in bank balance sheets are some 400% of that number. The banks are dead men walking with massive leverage to both home country income as well as assets. The governments are about to take charge and Europe as a whole is about to embark on a sloppy financial market socialization process that has been held back for nearly 2 years by 3 bailouts. The weak links will not be able to raise enough Euros/wipe out enough private sector equity to get this done, so there will be EMU members that need to exit and use a reintroduced currency for this process. We put a Greek drachma on the front cover of our Global Fixed Income Monthly 20 months ago for a reason.
Greece Should 'Default Big,' Says Man Who Managed Argentina's 2001 Crisis
by Eliana Raszewski and Camila Russo - Bloomberg
Mario Blejer, who managed Argentina's central bank in the aftermath of the world's biggest sovereign default, said Greece should halt payments on its debt to stop a deterioration of the economy that threatens the European Union.
"This debt is unpayable," Blejer, who was also an adviser to Bank of England Governor Mervyn King from 2003 to 2008, said in an interview in Buenos Aires. "Greece should default, and default big. A small default is worse than a big default and also worse than no default."
World Bank and International Monetary Fund officials will meet in Washington Sept. 23-25 as European Union officials work to keep the currency union from unraveling and the Greek crisis worsens. Europe is facing "a full-blown banking crisis" said Mohamed El-Erian, chief executive officer of Pacific Investment Management Co., in an interview yesterday.
Rescue programs backed by the IMF and European Central Bank are "recession-creating" efforts that will leave Greece saddled with more debt relative to the size of its economy in coming years and stifle growth, Blejer said. A Greek default would push Portugal to do the same and would put Ireland "under tremendous pressure to at least symbolically default" on some of its debt, he added.
'Totally Ridiculous'
"It's totally ridiculous what is going on," Blejer, 63, said. "If you assume that these countries do everything that is in the program, they do all these adjustments and privatizations, at the end of 2012 debt-to-GDP will be bigger than this year."
The statements by Blejer, who ran Argentina's central bank in the months after its default on $95 billion in debt, put him at odds with German Chancellor Angela Merkel, who said the risks of contagion from a Greek default are too big and that an "uncontrolled insolvency" would further agitate turbulent global markets.
German coalition officials stepped up their criticism of Greece last week after a delegation from the European Commission, European Central Bank and IMF suspended a report on progress made in Athens toward meeting the terms of its rescue program. The delay threatened to derail a payment to Greece due next month.
"It doesn't make sense to give money to Greece so Greece can pay the Germans back," Blejer said when asked about the aid programs. "All these projects, all the euro projects don't make sense economically."
'Recipe for Disaster'
Domenico Lombardi, a former IMF board official and a senior fellow at the Brookings Institution in Washington, said a "disorderly default" in Greece would be "a recipe for disaster." "The spreading of the European crisis has gone so far that it would be really impossible to contain its spillover effects to the rest of the euro area," Lombardi said in an interview. An orderly default with private investor engagement would be better for Greece, he said.
Greece's government now expects the economy to shrink more than 5 percent this year, more than the 3.8 percent forecast by the European Commission, as austerity measures deepen a three- year recession. Prime Minister George Papandreou approved a plan to help repair the budget deficit at the weekend amid swelling resistance from Greeks.
It costs a record $5.8 million upfront and $100,000 annually to insure $10 million of Greece's debt for five years using credit-default swaps, up from $5.5 million in advance on Sept. 9, according to CMA.
'Very Complicated'
Blejer didn't advocate Greece leaving the euro zone, which he said would be a "very complicated" move that would force a rewriting of business contracts and would push more lenders toward bankruptcy. Germany and France will have to bear the brunt of financing efforts to help Greece and other countries that default re-start their economies, he said.
"Someone will have to pay," said Blejer, who is a vice chairman of mortgage bank Banco Hipotecario and a board member of energy company YPF SA. "If they are not willing to pay for the euro they will have to get out of the euro."
Greece's 10-year bond yield rose 94 basis points, or 0.94 percentage point, to 24.48 percent at 5 p.m. in New York, after earlier climbing to a euro-era record of 25 percent. Italian borrowing costs also jumped at a 6.5 billion-euro ($8.8 billion) bond auction yesterday as contagion from Europe's debt crisis leaves investors shunning the region's most-indebted nations. Italy's Treasury sold 3.9 billion euros of a benchmark five-year bond to yield 5.6 percent, up from 4.93 percent for similar maturity securities sold in July.
Argentina Crisis
Blejer took the reins of Argentina's central bank for five months starting in January 2002, when the country was reeling from the effects of its default and the loss of four presidents in just over two weeks. The government had just ended the peso's one-to-one peg with the dollar when Blejer accepted the position from then-President Eduardo Duhalde. To help stabilize the currency after the devaluation, Blejer created short-term bonds known as lebacs that paid an annual interest rate of as much as 140 percent, he said.
Argentina's economy shrank 10.9 percent in 2002 before starting a nine-year growth streak, aided by rising commodity prices and an expansion in neighboring Brazil. Blejer left the central bank in June 2002 after disputes with then-Economy Minister Roberto Lavagna over lifting restrictions on the withdrawal of bank deposits.
Sarkozy, Merkel Say Greece's Future Is in the Euro Region
by Helene Fouquet and Eleni Chrepa - Bloomberg
French President Nicolas Sarkozy and German Chancellor Angela Merkel said they are "convinced" Greece will stay in the euro area as they faced international calls to step up efforts in fighting the region's debt crisis.
The euro rose after the leaders of Europe's two biggest economies issued a statement yesterday following a telephone conversation with Greek Prime Minister George Papandreou. It erased most of those gains today. Papandreou committed to meet deficit-reduction targets demanded as a condition for an international bailout, according to statements from governments in Berlin, Athens and Paris.
European governments are aiming to ratify a July 21 agreement to bolster the euro region's bailout fund and extend a second rescue to Greece. Investor skittishness over the spread of the debt crisis has raised banks' funding costs and roiled markets worldwide.
"I am skeptical that this will help to reassure markets," Tullia Bucco, an economist at UniCredit Global Research in Milan, said of the leaders' statement. "The road to the implementation of the second aid package is still quite long and may prove bumpy." The euro was up 0.1 percent to $1.3731 at 8:43 a.m. in Berlin, as futures on the Euro Stoxx 50 Index added 1.2 percent.
Geithner's Travels
Treasury Secretary Timothy F. Geithner will travel to Wroclaw, Poland, to attend a session for the first time of the European Union's Economic and Financial Affairs Council that begins tomorrow. Chinese Premier Wen Jiabao yesterday called on other countries to "put their houses in order." Underscoring divisions in Europe, European Commission President Jose Barroso said he was close to proposing options on joint euro-area bond sales, putting officials in Brussels on a collision course with Germany over steps to contain the sovereign debt crisis.
"The commission will soon present options for the introduction of euro bonds," Barroso told the European Parliament yesterday in Strasbourg, France, prompting applause from lawmakers who have backed the idea and a swift rejection from officials in Berlin. "Some of these options could be implemented within the terms of the current treaty; others would require treaty change."
In the three-way telephone call, Papandreou committed to enacting policies demanded by the EU and International Monetary fund to keep the bailout funds flowing. Sarkozy and Merkel "are convinced that the future of Greece is in the euro zone," the French statement said.
Greek Steps
The Greek Cabinet this month endorsed measures to help meet deficit targets of 17.1 billion euros ($23.6 billion) in 2011 and 14.9 billion euros in 2012, covering a 2 billion-euro shortfall for this year that has been exacerbated by a deepening recession. The fulfillment of Greece's adjustment program is "more than ever" essential and is a condition for the payment of further aid tranches, Merkel said in the call, according to an e-mailed statement from her chief spokesman, Steffen Seibert.
Papandreou said Sept. 10 that the government's top priority is "to save the country from bankruptcy" and said he would do whatever is necessary to meet targets. Putting austerity programs into place "is indispensable to establish sustainable and balanced growth in Greece," according to the statement issued in Paris. "The success of the Greek plan will provide stability to the euro zone."
Euro Banks' Capital Conundrum
by Simon Nixon - Wall Street Journal
European banks are woefully short of capital to cope with multiple losses on euro-zone sovereign bonds. That was obvious long before Christine Lagarde, managing director of the International Monetary Fund, said so publicly in August.
It was clear from this year's European "stress test" disclosures, which showed a capital shortfall of €80 billion if Greek, Irish, Portuguese, Spanish and Italian debt had been marked to market prices. That deficit would rise to over €200 billion if the pass rate had been a 9% core Tier 1 capital ratio, Morgan Stanley estimates. That is similar to the initial IMF analysis.
But this only tells part of the story. Any losses arising from multiple restructurings of euro-zone sovereign debt are sure to go well beyond merely first order effects given the scale of interconnectivity. If the euro zone started to fall apart—perhaps as a result of an ECB refusal to keep funding Greek banks—the consequences would be incalculable as instant deposit flight led to a toppling of peripheral country banking systems. It is hard to see what scenario banks should be recapitalizing themselves to withstand, bearing in mind official euro zone policy is that there will be no sovereign defaults beyond Greece.
Besides, stock market valuations suggest markets are now focused on extreme scenarios. French bank shares have halved since the summer, yet they remain among Europe's highest-rated banks even after Moody's downgraded Société Générale and Crédit Agricole Tuesday. BNP Paribas, which escaped a downgrade, is one of only six banks globally rated double-A after Moody's concluded it had capital to withstand severe haircuts on all peripheral government bond exposures and continues to generate capital. Its 13% return on equity in the first half of 2011 was the highest among globapeers. Yet BNP Paribas trades on 0.4 times book value. Société Générale and Crédit Agricole trade on 0.3 times.
For French banks—in common with all euro-zone banks—the real challenge is funding. Short-term dollar funding from U.S. money market funds is shrinking. But banks have plenty of access to short-term euro liquidity, including from the ECB, and can use foreign-exchange swaps to access dollars while they run down positions. BNP Paribas and Société Générale have said they will run down or sell U.S. dollar funded businesses.
The closure of medium and long-term bond funding markets is a potentially bigger challenge. French banks may have largely fulfilled their funding needs for 2011 but they all face heavy refinancing needs in 2012. If markets remain closed, they will be forced to deleverage even faster, threatening a credit crunch and feedback loops to the economy. But this merely underlines the need for the euro zone to come up with a comprehensive solution to its sovereign crisis. Until it does, bank investors are right to fear the worst.
Europe Lending Woes Deepen
by Sara Schaefer Muñoz, Carrick Mollenkamp and Brian Blackstone - Wall Street Journal
Two Banks Tap ECB for Dollars; Companies Look Beyond Euro Zone for Loans
Europe's financial crisis intensified Wednesday as banks moved to obtain more dollars for loans to their U.S. customers, and some nervous corporate clients began looking to banks outside the euro zone for loans.
Tensions in the 17-nation euro zone are increasing despite attempts by central banks to pump badly needed dollars into the region, as U.S. sources have shrunk. On Wednesday, the European Central Bank said two banks had tapped it for $575 million, only the second time in six months the ECB has doled out dollar funding. The names of banks that tap the ECB are kept confidential.
European banks need the U.S. currency to fund loans they have extended to U.S. companies and consumers. European banks also need dollars to repay past borrowings they made in dollars, such as loans from U.S. money-market funds.
As expected, Moody's Investors Service downgraded Société Générale's long-term debt by one notch to Aa3—three notches below triple-A—with a negative outlook. It lowered Crédit Agricole's rating to Aa2, one notch higher, and also kept it on review. Moody's maintained BNP Paribas's rating at Aa2 but kept it on review for a possible downgrade. Weaker credit ratings can mean it costs a company more to borrow.
The deepening problems illustrate how sovereign-debt concerns in Greece, Ireland and other places, which date to early last year, have spilled into the broader market. While problems haven't reached 2008 levels, they have caused increasingly tough consequences for Europe's banks.
Some French banks' corporate clients, for example, have sought financing from banks outside Europe to lessen their reliance on French banks as a hedge in case lending dries up, according to people familiar with the situation.
The clients include energy and commodity providers, from oil giant BP PLC to midsize companies, which need liquidity for day-to-day operations, such as the transportation of oil and other commodities. Société Générale and BNP are among the key providers of this financing, which accounts for some 10% to 15% of their annual profits, according to analyst estimates. Now, several major companies that have relied on them in the past are turning elsewhere. "If European markets close, they don't want to have a funding gap. They want to be ready," said a person involved in some of the talks.
U.S. banks, stuffed with deposits thanks to U.S. networks of branches and access to central bank money, have received requests from European companies seeking loans. One energy company is talking with Citigroup Inc. about obtaining a $1 billion credit line for its shipping operations amid fears that renewing credit with European lenders could prove too expensive, according to a person familiar with the matter.
It isn't just natural-resources companies that have been tapping banks outside the euro zone. Some European banks have for the first time approached Japanese bank Nomura Holdings Inc. for ideas on how to access dollars from investors in Asia, according to a person familiar with matter. However, BNP Chief Executive Baudouin Prot said he isn't seeing evidence of big European companies lining up alternative financing.
European banks have lost access to more than $700 billion in U.S.-dollar funding—short-term IOUs and interbank loans—over the past year from U.S. money-market funds and others worried about exposure to Greece and other troubled European economies, according to J.P. Morgan Chase & Co. and CreditSights research. That has forced the banks to curtail dollar-denominated lending and find dollars far afield, such as in the Middle East. Banks need dollars to fund dollar-denominated loans and other obligations.
"Things are deteriorating," said Joseph Abate, a money-markets specialist at Barclays Capital in New York. "This week and certainly probably since August, it seems like their access to unsecured [funding] really has tightened up." Jonathan Loynes, an economist at consultancy Capital Economics in London, says he fears the mix of fiscal belt-tightening, a loss of confidence among consumers and businesses and, now, the risk that financing costs may go higher in parts of Europe will lead to a 0.5% contraction in euro-zone output next year and a further 1% slide in 2013. "There are growing concerns that we are going back into a credit crunch," he said.
That is partly because U.S. banks and stronger European banks aren't overly eager to fill the lending gap left by French and other banks. Nearly all lenders have seen their funding costs rise at least moderately in recent weeks, and are cautious about lending to companies in Europe's uncertain economic environment, said executives at major U.S. and U.K. banks.
Bank executives and traders said deep pools of liquidity remain. Foreign banks, for example, have parked $848.7 billion at the Federal Reserve. Still, concerns are growing among U.S. regulators. In an interview with CNBC Wednesday, U.S. Treasury Secretary Timothy Geithner called problems in Europe "a dominant concern." He said the issue matters to the U.S. "because it adds to a caution around the world at a time when…we're still healing from the crisis."
In efforts in the past week to reassure investors and clients, chief executives at BNP Paribas and Société Générale said they are moving to reduce their need for dollars. In one sign banks still have avenues to obtain dollars, a senior bank trader in London said that in the so-called repurchase market, where banks exchange collateral for dollars, European banks are still able to obtain loans.
Société Générale has said it is cutting back on certain lending, such as loans in the aircraft and shipping industries.
In trading on Wednesday, Société Générale shares fell 2.9%, or €0.515, to €17.385, while BNP Paribas declined 3.9%, or €1.10, to €26.90. Crédit Agricole added 1.2%, or €0.063, to €5.216. A person familiar with Société Générale's corporate-funding business said that the bank is still providing money to key clients and that its long-term expertise in finance-advisory and related services will keep that part of its businesses strong.
Spanish banks sharply increased borrowing from the European Central Bank in August as a deepening sovereign-debt crisis cut off alternatives for banks in Southern Europe. According to data released by Spain's central bank on Wednesday, gross borrowing by Spanish banks from the ECB hit €81.22 billion in August, up 42% from €57.20 billion in July. U.S. money-market funds continue to curtail lending to European banks. When the funds do extend IOUs, they are doing so for shorter terms in order to protect themselves, analysts said.
The market where banks provide loans to one another is under stress, according to CreditSights. Bank loans to other euro-zone banks had fallen by €600 billion during a one-year period through June. A benchmark bank borrowing rate continued to increase. The three-month dollar London interbank rate edged up to 0.3491% on Wednesday, from 0.3471% on Tuesday. In June, the rate was around in 0.254%. Mr. Abate, the Barclays analyst, said earlier this week the rate could hit 0.50% by year end.
The move by Moody's in France wasn't as severe as some investors expected, with BNP Paribas dodging a downgrade and Société Générale avoiding a two-notch downgrade that Moody's warned of in June. Moody's ratings for Société Générale and Crédit Agricole remain above those of other ratings firms. Moody's factored in potential losses of 60% on Greek sovereign debt for the French banks, much larger than the 21% write-downs they have taken already.
The French government is determined to monitor the banks' efforts to strengthen their equity capital and will guarantee the soundness of the country's financial system, spokeswoman Valerie Pecresse said after the weekly cabinet meeting. Bank of France governor Christian Noyer said any talk of the nationalization of French banks "makes no sense and is completely surreal."
Greece Has 98% Chance of Default on Euro-Region Sovereign Woes
by Abigail Moses - Bloomberg
Greece has a 98 percent chance of defaulting on its debt in the next five years as Prime Minister George Papandreou fails to reassure investors his country can survive the euro-region crisis. "Everyone's pricing in a pretty near-term default and I think it'll be a hard event," said Peter Tchir, founder of hedge fund TF Market Advisors in New York. "Clearly this austerity plan is not working."
It costs a record $5.8 million upfront and $100,000 annually to insure $10 million of Greece's debt for five years using credit-default swaps, up from $5.5 million in advance on Sept. 9, according to CMA. Greek bonds plunged, sending the 10- year yield to 25 percent for the first time.
German Chancellor Angela Merkel said she won't let Greece go into "uncontrolled insolvency" as politicians try to limit contagion to other euro members. Papandreou's pledge to adhere to deficit targets that are conditions of the European Union and International Monetary Fund's bailout were undermined by data showing his country's budget gap widened 22 percent in the first eight months of the year.
The default probability for Greece is based on a standard pricing model that assumes investors would recover 40 percent of the bonds' face value if the nation fails to meet its obligations. CMA, which is owned by CME Group Inc. and compiles prices quoted by dealers in the privately negotiated credit- swaps market, lowered its recovery assumption to 38 percent late yesterday, which would give Greece a 95 percent chance of default.
Economy to Shrink
Greece's government now expects the economy to shrink more than 5 percent this year, more than the 3.8 percent forecast by the European Commission, as austerity measures deepen a three- year recession. Papandreou approved a plan to help repair the budget deficit at the weekend amid swelling resistance from Greeks.
Greece's 10-year bond yield rose 111 basis points, or 1.11 percentage points, to 24.65 percent as of 1:55 p.m. in London, after earlier climbing to a euro-era record of 25 percent. The two-year note yield increased 662 basis points to 76.17 percent, after rising to an all-time high.
Greek stocks fell, with the ASE Index tumbling as much as 1.2 percent to the lowest since 1995 and down more than a third from July 22. The risk of contagion beyond Greece weakened the euro and boosted benchmark German bunds. The common currency fell toward its weakest level since 2001 against its Japanese counterpart, declining 0.6 percent to 104.99 yen.
Sovereign Record
An index measuring the cost of default protection on 15 European governments to a record. European bank debt risk also jumped to the highest ever amid speculation French lenders will be downgraded because of their holdings of Greek bonds.
The Markit iTraxx SovX Western Europe Index of credit- default swaps climbed one basis points to 354, an all-time high based on closing prices. The Markit iTraxx Financial Index linked to the senior debt of 25 banks and insurers increased two basis points to 316, while a gauge of subordinated debt risk was up seven basis points at 557, according to JPMorgan Chase & Co.
"The contagion impact of a default will be severe, because next in the firing line will be Italy, Spain and it will take in the whole of the European banking sector too," Suki Mann, a strategist at Societe Generale SA in London, wrote in a note yesterday. "This trio are already under intense pressure, but it will get much worse."
Euro-Region Nations
Credit-default swaps on Portugal, Italy and France rose to records, according to CMA. Portugal jumped nine basis points to 1,224, Italy rose four basis points to 510 and France was up 7.5 basis points at 196.5.
Germany's government is debating how to support its nation's banks should Greece fail to meet the budget-cutting terms of its rescue package, three coalition officials said Sept. 9. Merkel said in an interview with Berlin-based Inforadio that avoiding an "uncontrolled insolvency" was her "top priority" and that the region's most indebted country is taking the right steps to getting its next bailout payment.
Credit-default swaps on BNP Paribas SA, Societe Generale SA and Credit Agricole SA, France's largest banks, surged to all- time highs on bets they'll have their ratings cut by Moody's Investors Service this week. Swaps on SocGen were 14 basis points higher at 448.5, Credit Agricole increased 9.5 to 331.5 and BNP Paribas rose 16 basis points to 321, according to CMA.
Moody's placed the three banks' ratings on review in June to examine "the potential for inconsistency between the impact of a possible Greek default or restructuring and current rating levels," the rating company said at the time. Downgrades are likely as the review period concludes, said people with knowledge of the matter, who declined to be identified because the information is confidential.
A basis point on a credit-default swap protecting 10 million euros ($13.6 million) of debt from default for five years is equivalent to 1,000 euros a year. An increase signals declining perceptions of credit quality. Swaps pay the buyer face value in exchange for the underlying securities or the cash equivalent should a borrower fail to adhere to its debt agreements.
Merkel Muzzling Coalition Critics to Gain Time
by Philipp Wittrock - Spiegel
German Chancellor Angela Merkel has tried to bring her coalition partners back in line following rogue comments on a possible Greek bankruptcy and exit from the euro zone. She is desperate to restore calm in her ranks to avoid exacerbating the crisis and to gain time to prepare for worst-case scenarios.
These days, when Angela Merkel and Nicolas Sarkozy issue a joint statement, it usually means that the debt crisis has fallen into a state of greatest possible uncertainty. It's when the German chancellor and the French president feel compelled to call for quiet and discipline. The message to be expected at these times is that the euro is safe, the Greeks have understood what must be done and that everything is under control -- even if nothing really is.
Tuesday, midday, appeared to be one such time. A news agency had reported that a joint German-French statement on the euro bailout was expected imminently. The news was followed a half-hour later by denials -- first from Paris and later from Berlin. "There will be no paper on Greece today," Merkel stated personally during a press conference held after a meeting with Finnish Prime Minister Jyrki Katainen in the chancellor's offices, the Chancellery.
There was little Merkel could do about the false report. The rumor appeared to have originated somewhere close to the French government. Nevertheless, the latest confusion was symptomatic. The chancellor's crisis management isn't going well, and the policies being pursued in efforts to rescue the euro are appearing more and more like some kind of odyssey.
Merkel, who heads the conservative Christian Democratic Union party, is in a dilemma. Germany, as the continent's economic engine, has a duty to hold the European Union and the euro zone together at this difficult time. But Merkel must also pay attention to growing skepticism amongst the German public, and she must explain and justify her actions to critics within her own political ranks. That obviously works best when, at the very least, Merkel's cabinet -- comprised of the her CDU, it's Bavarian sister party the Christian Social Union (CSU) and the business-friendly Free Democratic Party (FDP) -- demonstrates unity and speaks with one voice. Precisely the opposite is happening right now, with a growing number of soloists in the unruly choir of her coalition.
A Rebuke for Merkel's Economics Minister
This week, Merkel had to call her vice chancellor and economy minister, Philipp Rösler of the FDP, back into line after he said there should be no "taboos" on Greece and mentioned the possibility of an orderly bankruptcy for the country in a newspaper guest editorial on Monday. Rösler must have felt like a schoolboy being scolded by his teacher. Merkel was said to have been furious about his statements. And it is doubtful she found much pleasure in the fact that he then defiantly stuck with his words after the rebuke. "More and more people are asking themselves how Europe will proceed," Rösler told the Rheinische Post newspaper. "Honest answers are rightly being demanded about how to deal with countries that don't adhere to their reform commitments."
Merkel's other coalition partner, Bavaria's CSU, not only welcomed Rösler's words -- it also issued its own position paper in which it did not rule out the idea that highly-indebted states should leave the euro zone. It was yet another move that did not exactly add to unity within Merkel's coalition.
The chancellor is trapped between two coalition partners who are each pursuing their own domestic political agenda. On the one side, she has an FDP that risks sliding into irrelevance following a dramatic slump in voter support, and is desperate to sharpen its profile. On the other, she has a CSU that is seeking to regain its absolute majority in the Bavarian state parliament in 2013. On Tuesday, she sought to reach out to these partners using a diplomatically formulated appeal during her joint appearance with the Finnish prime minister. She said she was convinced that the parties in her cabinet were united on the path to save the euro.
Merkel Navigates According to Visual Flight Rules
Merkel is keen to avoid talking openly about a Greek insolvency because she regards the consequences of such a move as incalculable. After all, what would happen if Greece actually did officially declare it was insolvent or the country even left the currency union? Experts are divided on this. Would the situation calm down because, finally, there was no more horrific news coming out of Athens? Or would it worsen because a large number of banks would be exposed? Would the Greek economy be permanently ruined? And would a domino effect hit Spain, Ireland, Portugal and Italy?
These are all risks Merkel doesn't want to take -- at least not yet. She is trying to keep up the pressure on Greece, partly in order to assuage MPs in her party who doubt the country can be rescued. At the same time, she is urging patience and caution. "It will be a very long, step-by-step process," Merkel reiterated on Tuesday. The chancellor appears to be flying blind. She doesn't know what risks are going to pop next: Will it be Rösler, Seehofer -- or a fresh crop of bad news from Athens? She knows very well that Greece is in dire straits. She also knows that an insolvency cannot be ruled out. At the same time, she doesn't want to fan the flames. She would prefer to have the experts in her government quietly play out the worst-case scenarios internally.
The first thing that must happen in preparation for this worst-case scenario is the establishment of the expanded European Financial Stability Facility (EFSF). This is because it is the EFSF, with an expanded toolbox of financial instruments at its disposal, which will be the first institution that could absorb a Greek bankruptcy -- that's one area experts in the German Finance Ministry are certain about. The vote in the German parliament on expanding the EFSF's powers is set for the end of September.
Merkel and European Commission President Jose Manuel Barroso just reiterated that the rescue fund should be up and running by October. That's the month when Greece's finances could ultimately dry up. If the troika comprised of the International Monetary Fund, the European Central Bank and the European Commission conclude that Athens hasn't fulfilled the reform conditions stipulated, then the next tranche of previously agreed to aid for Greece will not be paid out.
On Wednesday, French President Sarkozy and Chancellor Merkel will take Greek Prime Minister George Papendreou to task yet again in a conference call. It is quite possible there may be another joint German-French statement afterwards. The message: Everything is under control.
Any Exit Strategies Go Right Out The Door for Euro-Zone Members
by Charles Forelle - Wall Street Journal
Economists say that as much as some German politicians wish Greece would leave the euro zone, such a thing is easier said than done. Adopting the euro was designed to be irrevocable, and European Union treaties don't contain provisions that would permit a country to leave. Amending the treaties could take years and requires unanimous agreement—including that of any country threatened with expulsion.
That means Greece can't be pushed out against its will. But Citigroup's chief economist, Willem Buiter, argues in a new paper that the other countries could make life so difficult for Greece that is has no choice. After all, Greece depends almost entirely on loans from the euro zone and International Monetary Fund, which are providing the credit for Athens to run budget deficits and repay maturing debts. The European Central Bank is providing badly needed liquidity to Greece's enfeebled banks. Those spigots could be shut off.
But such an action would be hugely costly, Mr. Buiter says. Once cut off, Greece would have little ability, or incentive, to service its euro-denominated debts. Banks across Europe holding Greek bonds would suffer giant losses. More important, he adds, a wider market rout could follow. "When Greece can exit," he writes, "any country can exit." Markets, he adds, will shift their focus to the next-weakest countries, and depositors would flee those countries' banks.
Might it be possible, though, for Greece to negotiate a "friendly" withdrawal from the currency union? After all, freeing Greece to devalue its currency, a step that would make Greek goods and tourist destinations cheaper for foreigners, could help the country boost its exports and revive its economic growth.
This path is fraught with trouble, too. Perhaps the biggest challenge: How to keep capital and bank deposits inside the country before the changeover. Greek citizens would have every incentive to keep their savings in euros rather than a new currency with a plunging value, by rushing their money out of the country if necessary.
If Greece decided to leave, "the obvious response of anyone with exposure to the secessionist banking system is to withdraw money from the bank as quickly as possible," economists at Swiss bank UBS write in a paper published this month.
Such a debilitating bank run would likely happen before any actual secession—and it would very possibly spread to other weak countries, precipitating an even bigger mess. A destabilizing Greek default is easier to imagine than a euro exit.
Budget figures released Monday make clear Greece is far from reaching its EU-imposed deficit targets this year. It will need either more aid money or more painful austerity measures to cover the shortfall. The first would be deeply unpopular with the German taxpayers footing the bill. The second is already provoking howls of outrage from Greeks.
Troubled French banks prime acquisition target for foreigners
by Mark Deen - Bloomberg
Societe Generale SA, the French bank that has shed more than a quarter of its market value this month, risks becoming the target of a takeover by a foreign bank, a French lawmaker said. "We're headed for a takeover attempt on Societe Generale by a foreign bank at a good price," Jean-Pierre Balligand, a Socialist lawmaker who sits on the finance committee of the National Assembly, said in an interview. "It would be taking advantage of the euro crisis and that's not good for France."
The remarks underline French political anxiety about the independence of the nation's major lenders in the face of a sovereign debt crisis that has crimped their ability to raise funds. Shares of major French banks have dropped this year on concerns about their holdings of sovereign debt in Greece, Portugal, Ireland, Italy and Spain and the growing reluctance of money-market funds to lend to them.
Moody's Investors Service cut Societe Generale's debt and deposit ratings by one level today to Aa3 from Aa2 with a negative outlook and Credit Agricole SA's long-term ratings to Aa2 from Aa1. BNP Paribas SA's Aa2 long-term rating was kept on review for a possible cut.
Before today, BNP Paribas had slid 41 percent in Paris trading this year, Credit Agricole had fallen 46 percent and Societe Generale had dropped 55 percent on escalating concern that the European sovereign debt crisis is turning into a banking crisis. Societe Generale has fallen more than 27 percent just this month.
'Not a Solution'
The market value of Societe Generale, France's third- largest bank by assets, is now about 13.4 billion euros ($18.3 billion). In contrast, New York-based JPMorgan Chase & Co. is valued at $126.7 billion.
Societe Generale Chief Executive Officer Frederic Oudea dismissed speculation of a merger or takeover, pointing out that most lenders' shares have tumbled and that a "big" banking merger wouldn't help solve the euro-region crisis. "I don't think a big merger is the solution to this crisis of confidence," Oudea said in an interview yesterday with Bloomberg Television in New York.
Societe Generale spokeswoman Helene Mazier declined to comment on remarks made by lawmaker Balligand, saying the bank doesn't comment on speculation. Societe Generale was the subject of takeover speculation in 2008 when it said it lost 4.9 billion euros because of unauthorized transactions by trader Jerome Kerviel. French Prime Minister Francois Fillon said then that "Societe Generale is a great French bank and will remain a great French bank."
Barroso Vows Euro-Bond Options, Countering German Concerns
by Jonathan Stearns - Bloomberg
European Commission President Jose Barroso said he is close to proposing options on joint euro-area bond sales, putting officials in Brussels on a collision course with Germany over steps to contain the debt crisis.
"The commission will soon present options for the introduction of euro bonds," Barroso told the European Parliament in Strasbourg, France, today, prompting applause from lawmakers who have backed the idea. "Some of these options could be implemented within the terms of the current treaty; others would require treaty change."
The idea of bonds sold jointly by the euro area's 17 nations remains alive because unprecedented bailouts by governments and the European Central Bank have failed to stamp out debt concerns that began in Greece almost two years ago and rattled markets in AAA rated France last month.
The disagreement over collective debt guarantees underscores the worries of policy makers outside Europe over euro leaders' inability to solve the crisis. U.S. Treasury Secretary Timothy F. Geithner will travel to a meeting of European Union finance ministers in Poland this week to urge them to step up their efforts amid Obama administration concerns that the region's woes may hurt the U.S. economy.
Greek Conference Call
German Chancellor Angela Merkel, French President Nicolas Sarkozy and Greek Prime Minister George Papandreou will hold a conference call at about 7 p.m. today Athens time to discuss developments in Greece and the euro area.
European authorities "need to do whatever they can do to calm these pressures," Geithner told Bloomberg Television Sept. 9. "They have to demonstrate they have enough political will." The commission said in August that it may present draft legislation on euro bonds when completing a report on the feasibility of common debt sales. The commission opposed such a step earlier this year because of German-led objections.
"We are opposed as far as the instrument of euro bonds is concerned because we believe you can't fight debt in Europe by making it easier to take up debt," German Foreign Minister Guido Westerwelle told reporters in Berlin today. Merkel's government will react specifically to Barroso's proposals when they are on the table, he said.
In France, spokeswoman Valerie Pecresse restated her government's concerns. "Mutualization of debt is an arrival point, not a departure point," she told reporters in Paris. She said euro bonds "would be the final stage of a process of convergence. Right now there's a consensus that the step to take is repairing public finances."
Feasibility Study
EU Economic and Monetary Affairs Commissioner Olli Rehn said in July that the feasibility study on common bond issuance would be ready "toward the end of the year." "We must be honest: this will not bring an immediate solution for all the problems we face," Barroso said today. He also called Greece's latest budget-austerity measures "significant."
The Greek government decided on Sept. 11 to cut one month's wages from all elected officials and impose an annual charge on all property for two years in a bid to qualify for another installment of international aid. The aim is to meet 2011 and 2012 targets for narrowing the budget deficit and to cover a shortfall for this year that has been exacerbated by a deepening recession, according to Finance Minister Evangelos Venizelos. "The Greek government has taken significant steps," Barroso said. "I urge Greece to finalize these efforts."
Greece is seeking this month to win a sixth tranche of loans under last year's 110 billion-euro ($150 billion) aid package from the euro area and International Monetary Fund and to avoid a default. Prime Minister George Papandreou's government also wants to benefit from a planned second aid package of 159 billion euros approved by euro-area leaders on July 21. "What we need now is Greece to fully carry out its reform program," Barroso said.
Deposit Flight at European Banks Means Risk Piling Up at ECB
by Yalman Onaran - Bloomberg
European banks are losing deposits as savers and money funds spooked by the region's debt crisis search for havens, a trend that could worsen economic and financial conditions.
Retail and institutional deposits at Greek banks fell 19 percent in the past year and almost 40 percent at Irish lenders in 18 months. Meanwhile, European Union financial firms are lending less to one another and U.S. money-market funds have reduced their investments in German, French and Spanish banks.
While the European Central Bank has picked up some of the slack, providing about 500 billion euros ($685 billion) of temporary financing, banks are cutting lending, which could slow growth in their home countries. They're also paying more to keep and attract deposits -- or, in the case of Italy, selling bonds to retail customers for five times the interest they offer on savings accounts -- which will erode profitability.
"All of this is symptomatic of a lot of fear in the European financial sector," said Kash Mansori, senior economist at Experis Finance in Charlotte, North Carolina, which advises U.S. and European companies. "It shows that even European banks don't trust each other anymore, so they're taking their money out of the EU system. It's similar to the distrust that happened worldwide in 2008."
Deposit Erosion
Deposits by financial institutions in Greek banks, which make up 21 percent of the total, have fallen by one-third since the beginning of 2010, while those by non-financial firms and residents dropped 9 percent, according to Bank of Greece data.
In Germany, deposits by financial institutions, which account for one-third the total, declined 12 percent over the same period and 24 percent since the September 2008 collapse of Lehman Brothers Holdings Inc., ECB figures show. In France, where the erosion started last year, the same type of deposits, which make up half the total, are down 6 percent since June 2010. They have fallen 14 percent since May 2010 at Spanish banks, where they account for one-fifth of the total.
Deposits include money kept in banks by individuals and companies. Most of the short-term funding supplied by financial institutions and money funds is counted as deposits by the ECB and other central banks in Europe.While retail deposits at Italian banks have fallen only 1 percent in the past year, the outflow of money from financial institutions has exceeded $100 billion, a 13 percent decline, according to Bank of Italy and ECB data.
Money-Fund Withdrawal
Some of the retail deposits have been invested in bank bonds sold directly to retail clients that pay as much as 5 percent, compared with an average interest rate on deposits of 0.88 percent. Retail investors in Italy own about 63 percent of bank debt, compared with a European average of 48 percent, data compiled by the Bank of Italy and banking association ABI show.
In Portugal, where banks raised the interest rates they pay savers, non-residents have reduced deposits by 19 percent since March 2010. The eight largest U.S. money-market funds halved their lending to German, French and U.K. banks over the past 12 months and stopped financing Italian and Spanish financial firms, according to data compiled by Bloomberg from investment reports.
A survey by Fitch Ratings showed that U.S. money-market funds reduced their lending to European banks by 20 percent from the end of May through July. The funds cut investments in Spanish and Italian lenders by 97 percent, to German firms by 42 percent and to French ones by 18 percent, Fitch said. The Aug. 22 survey covers almost half the $1.53 trillion assets held by money funds in the U.S.
Relying on ECB
Moody's Investors Service today cut the long-term debt rating one level on Credit Agricole SA and Societe Generale SA, the country's second- and third-largest lenders by assets, citing the euro-region sovereign debt crisis and concerns about "the structural challenges to banks' funding and liquidity profiles." BNP Paribas SA, France's biggest lender, was kept on review for a possible cut. BNP fell 4.3 percent at 4:02 p.m. in Paris trading, while SocGen declined 8 percent. Credit Agricole fell 2 percent.
To make up the deficit, firms are leaning on the ECB for short-term funding. Borrowing by Italian lenders from the central bank more than doubled to 85 billion euros between June and August. Greek and Irish banks each took about 100 billion euros from the ECB in August. Irish lenders also got 56 billion euros from their domestic central bank. Portuguese banks borrowed about 46 billion euros from the ECB, while Spanish banks took 52 billion euros in July. The ECB said today it will lend $575 million to two euro- area banks, without identifying them, a sign that they're finding it difficult to borrow the U.S. currency in markets.
'Left With Garbage'
By accepting those countries' bonds as collateral in exchange for funds, the ECB is piling up risk, said Desmond Lachman, a fellow at the American Enterprise Institute in Washington. In the event of a default, the ECB's losses would be borne by the EU's member states. Lending to the region's banks by the ECB and other central banks is about seven times the capital of the Eurosystem, the consolidated balance sheet of all euro zone central banks.
"If there are sovereign defaults, the ECB will be left with garbage that has been accepted as collateral," said Lachman. "It's putting EU taxpayers' money at risk in a very non-transparent way. But there's no alternative. The ECB is the only game in town."
ECB Defends Actions
William Lelieveldt, a spokesman for the ECB in Frankfurt, declined to comment about the risk to the central bank. ECB President Jean-Claude Trichet has defended his institution's actions. European banks have more collateral that they can place with the ECB in exchange for additional financing if they need it, he said Sept. 8 in Frankfurt. "We stand ready to provide liquidity as we have done in the past," Trichet said.
The outflow of deposits is a measure of eroding trust in the region's financial system. Banks outside of Greece, Ireland, Portugal and Spain have $1.7 trillion at risk in loans to those countries' governments and corporations, as well as guarantees and derivatives contracts, according to the Bank for International Settlements.
Concern that those nations will default or leave the EU and devalue their currencies has hastened the flight, according to Dimitris Giannoulis, a Deutsche Bank AG analyst based in Athens. People "are now afraid of the possibility of returning to the drachma," said Giannoulis, referring to the Greek currency in circulation before the country adopted the euro in 2001. "Just a headline is enough to spook depositors."
Irish Banks Hurt
Irish banks have been the hardest hit. Losses on the collapsing real-estate market and a government guarantee of bank liabilities forced the nation to seek EU assistance in November. The money started flowing out in early 2010 as confidence in the government's ability to support the banks waned, and it accelerated later that year after Ireland's rescue by the EU led multinational companies to move deposits out of the country.
Ireland took control of five lenders and is winding down two of them. Even Bank of Ireland, which wasn't nationalized because its losses weren't as catastrophic, saw deposits dwindle by 20 billion euros, or 23 percent, last year.
At Allied Irish Banks Plc, Ireland's second-largest lender, deposits declined 37 percent over the past 18 months. The bank said July 25 that most of the drop occurred at the end of 2010 and in the first quarter of this year as companies pulled money amid sovereign and bank downgrades. Deposits since the end of the first half have been "broadly stable," said Alan Kelly, the lender's director of corporate affairs and marketing, who declined further comment.
'Afraid of Them'
While "the rate of outflow is falling," Finance Minister Michael Noonan said on Sept. 1 in Dublin, that hasn't soothed savers such as Phil Carey, an 86-year-old mother of eight from Galway in western Ireland. "I wouldn't trust the banks," said Carey, who keeps her savings at credit unions. "I'd be afraid of them. Look at the money they gave to the builders and the terrible situation we're in now."
It isn't easy for retail depositors such as Carey to move funds abroad. In Ireland, there has been some shift to units of foreign banks operating in the country. RaboDirect, the Irish online-banking unit of Utrecht, Netherlands-based Rabobank Group, saw deposits rise about 40 percent in 18 months, according to General Manager Roel van Veggel.
Tax Avoidance
While the implosion of Irish banks led the government to seek an EU bailout, in Greece the state's finances collapsed first. Now Greek lenders are feeling the pain because they own about 40 billion euros of their government's sovereign debt. If they have to take losses of 40 percent or more on those bonds, it would wipe out all the capital held by the country's banks, the European Commission estimated in July. Greek government bonds are already discounted by 60 percent in the secondary market, according to data compiled by Bloomberg.
In addition to fearing a drachma conversion, some affluent Greeks are moving money out of the country to avoid having their bank accounts become targets for tax collectors, said Antonio Ramirez, an analyst at KBW Inc. in London. "As the government starts looking for revenue, starts fighting tax evasion, wealthy families move their money out," said Ramirez, who covers Greek, Irish and Portuguese banks.
That dynamic is also at work in Italy, according to Carlo Alberto Carnevale-Maffe, a professor of business strategy at Milan's Bocconi University. Deposits at Milan-based Intesa Sanpaolo SpA, Italy's second-biggest bank by assets, fell 4.4 percent in the year ended in June.
'Under the Mattress'
"People are moving deposits into safe goods such as gold and safety-deposit boxes," Carnevale-Maffe said. "They're simply putting the money under the mattress to avoid taxes." Intesa CEO Corrado Passera said on an Aug. 5 call that the decline was the result of a decision to discontinue some institutional funding and the sale of retail bonds. "In terms of flight to quality, no, I must tell you that we are not experiencing in our country anything like that," Passera said.
European lenders are also moving money out of the region. The cash that foreign banks keep at the U.S. Federal Reserve has more than doubled to $979 billion at the end of August from $443 billion at the end of February, according to Fed data. The increase in bank deposits at the ECB has been smaller, suggesting that healthy European firms are putting money in the Fed instead of lending to weaker banks, according to economist Mansori, who also writes a blog called "Street Light."
Bank Lending
"Do you want to keep your money at the Fed, which you know will pay you back, or at the ECB, which has lots of periphery euro zone country debt?" said Mansori.
The reluctance of European banks to lend to one another has been on display since last month. The spread between Euribor and the overnight indexed swap rate, which reflects the higher risk of lending euros for three months versus overnight, widened to 0.85 percentage point on Sept. 13. The rate compares with 0.36 percentage point at the beginning of August.
Banks can't continue to rely on the ECB for funding because that's a sign of being on "life support," so they'll have to shrink their balance sheets, said KBW's Ramirez. That means reduced lending in countries where growth is stagnant.
Lending by banks in Ireland declined 9 percent in the past year, 3 percent in Greece and Italy and about 1 percent in Portugal and Spain, according to ECB data. Gross domestic product in Italy expanded 0.8 percent in the second quarter from a year ago and 0.7 percent in Spain. Greece's economy shrank 7.3 percent, while Portugal's contracted by 0.9 percent. Irish GDP growth was 0.1 percent in the first quarter, according to the latest data available.
Irish Cutbacks
Ireland said in March that its surviving banks would wind down more than 70 billion euros of loans. Most of the reduction will be lending to borrowers outside Ireland, which could hurt growth in other EU countries. Greek banks, unable to sell sovereign bonds they hold, will also have to trim their loan books, according to Ramirez. "It'll aggravate the recession," he said.
While banks say higher capital requirements will curb lending and economic growth, it's the lack of capital in the European banking system that's spooking depositors and other creditors, said Lachman of the American Enterprise Institute. That's why the International Monetary Fund is pushing for recapitalization of the region's banks, he said.
Paying more for deposits to prevent them from leaving, as banks in Ireland, Spain and Portugal are doing, will hurt banks' chances of rebuilding capital through earnings. Offering higher interest rates for retail bonds as Italian lenders have done will cut into interest margins.
'Not Sustainable'
"It's not sustainable for this type of pricing strategy to continue," Rabobank's Van Veggel said about the high rates Irish banks are offering for deposits. "But I don't think rates will start to come down until nervousness about European, and indeed global, issues calm down."
German and French banks are losing funds because they hold the most debt linked to troubled euro zone countries, according to Mark Schaltuper, an analyst at Business Monitor International, a London-based consulting group. Investors and creditors worry that German and French lenders will face losses on their holdings in the event of a default, he said.
"European policy makers are kicking the can down the road, waiting for banks to recapitalize slowly so they can take these losses over time," said Schaltuper, the firm's chief European analyst. "Until the debt situation in the periphery is sorted out, these funding troubles won't end."
Europe's leaders battle to keep faith with euro as Greek bailout flounders
by Ian Traynor and Dominic Rushe - Guardian
Amid fresh setbacks in struggle to rescue Greece, US treasury secretary prepares to join euro crisis meetings in Poland
Europe's struggle to come good on pledges to rescue Greece from bankruptcy and save its single currency has descended into confusion amid political feuding and parliamentary setbacks across the eurozone.
Angela Merkel's coalition in Germany faced rows about whether Greece should be allowed to fail; a parliamentary committee in Austria delayed a vote to ratify plans for a stronger bailout fund; and Slovakia's Eurosceptic parliamentary speaker demanded that Greece be allowed to go bust, making clear that he would seek to undermine the plan hatched at a eurozone summit in July in Brussels.
Amid the cacophony, José Manuel Barroso, head of the European commission, voiced exasperation at the failure of EU national leaders to keep their promises and talked up the benefits of eurobonds, a pooling of eurozone government debt.
The Polish finance minister said the survival of the EU was at stake. "Europe is in danger," Jacek Rostowski told the European parliament in Strasbourg. "If the euro area breaks up, the European Union will not be able to survive." Poland currently holds the EU presidency and Rostowski faces a tough challenge on Friday when he chairs a meeting of EU finance ministers in Wroclaw which will now be consumed by the crisis.
International pressure on Merkel and other European leaders surged, with the US, China, Russia and others demanding they get a grip. In a display of Washington's alarm, the US Treasury secretary, Timothy Geithner, is to take part in the Wroclaw meetings .
The American fear is that a Greek collapse would trigger a renewed European banking crisis which would spill over into the US, a reverse of what happened in 2008, when the collapse of Lehman Brothers was exported across the Atlantic. A fresh crisis could plunge America back into recession and damage Barack Obama's re-election hopes. The US markets reacted to the news from Europe with another jittery day., but the Dow Jones Industrial Average closed up more than 140 points having fallen more than a 100 earlier in the day.
Damon Vickers, a Seattle-based hedge fund manager, said the jitters were likely to continue. "This is anxiousness, fear, it's 2008 all over again. That crisis was about banks and the consumer, this is about countries," he said. "The sooner we get this over with the better, then we can move on," he said.
John Canally, economist and investment strategist at LPL Financial, said investors were torn between the "fear that we are going to see a collapse in the euro and a country is going to fail and the belief that everything is going to be OK." He said all eyes were now on the meeting of European finance ministers this Friday and the US Federal Reserve next week. "The markets want to see a bold policy move in Europe," he said. "If they don't see that, this will continue."
Similar fears are gripping the Elysée Palace in Paris. A Greek collapse would impact severely on French banks eight months before Nicolas Sarkozy faces a second-term presidential election.
Another leader under pressure, Italian prime minister Silvio Berlusconi, has won a vote of confidence, paving the way for his austerity package to be voted through. The governing coalition has been fighting over the details of the fiscal consolidation plan for weeks but Berlusconi mustered enough of a majority to win the vote.
At a teleconference Greek prime minister George Papandreou told Merkel and Sarkozy his country was determined to meet all obligations agreed with international lenders in exchange for an EU/IMF bailout. All three leaders have a vested interest in playing for time over Greece despite the sense that it is running out. "The president and the prime minister have repeated in unison France's determination to do whatever it takes to rescue Greece," said the French government spokeswoman, Valérie Pécresse.
Officials from the European commission, European Central Bank (ECB) and the International Monetary Fund returned to Athens to try to get the Greek rescue package back on track. According to senior EU diplomats, this month the three officials departed from Athens "in despair" at the Greek government's failure to honour the stiff terms of the bailout deal.
In July, eurozone leaders pledged a second €109bn bailout for Greece, to increase the bailout pot, the European Financial Stability Facility, and to empower it to replace the European Central Bank (ECB) in buying up stricken government bonds.
But the plans have run into problems. The level of involvement by Greece's private creditors in rolling over debt remains lower than foreseen. The 17 countries of the eurozone have to ratify the new scheme promptly, but ratification has been delayed in Austria, Slovakia, Finland and possibly Slovenia, and run into rebellion among Merkel's coalition partners.
While Barroso talked up the prospect of eurobonds on Wednesday, Germany's economics minister and liberals' leader, Philipp Rösler, ruled them out. Pécresse in Paris said there would not be a quick fix. "Eurobonds are for us the end of a process of consolidation in the eurozone because sharing debt also requires the convergence of our budget policies."
In Bratislava, Richard Sulík, the Eurosceptic speaker of parliament and leader of one of four parties in the ruling coalition, said the bailout fund was a bigger threat to the euro than Greece. "It has often happened that a city within a country goes bankrupt, and that does not have consequences for the currency. We must let Greece go into bankruptcy," he told Austrian radio. "The rescue plan tries to overcome the debt crisis with new debt. We are saying that this is equally a threat to the euro."
That echoed growing calls among political leaders across eurozone creditor countries. The Dutch prime minister, Mark Rutte, was the first eurozone head of government formally to propose recently new arrangements enabling fiscal recalcitrants to be expelled from the single currency. Barroso said: "Solid, feasible and concrete proposals have been made and agreed upon. But they have taken too long and have not yet been fully delivered."
ECB moves to ease strain on eurozone banks
by Ralph Atkins - FT
The European Central Bank has lent $575m to eurozone banks in the first use of its dollar facility for a month. In the latest sign of escalating eurozone bank tensions, the ECB said two bidders had taken advantage of the weekly offer of dollar liquidity it operates with the US Federal Reserve without naming the banks involved.
Because the 1.1 per cent interest rate charged was higher than that paid by banks in commercial markets, the facility's use indicated two banks were having difficulty obtaining sufficient dollars. US investors have withdrawn funding from the eurozone amid worries about the region's escalating debt crisis.
Questions have been asked about the funding needs of France's largest banks over the summer because of their exposure to Greek sovereign debt and the risk of a possible downgrade by Moody's, the credit rating agency. Moody's made that move on Thursday.
But the sums borrowed remained low compared to the overall size of ECB liquidity operations, suggesting the problems remained specific rather than general. However, banks may have been put off applying for dollars because of the possible stigma attached to tapping the ECB, even though no details are revealed about banks' borrowings.
The ECB is monitoring the rising costs that eurozone banks' face in obtaining dollars, and has left open the possibility of improving access to its supplies of the US currency. In June, when announcing that offers of weekly dollar liquidity would continue, the ECB said it would "keep the necessity, frequency and maturity of its US dollar repo operations under review".
The ECB announcement came as BNP Paribas revealed plans to reduce its dollar funding needs by $60bn. France's biggest bank by market capitalisation said it would sell assets to reduce its balance sheet by about 10 per cent by the end of next year. The bank on Wednesday denied a media report that it had problems with dollar funding and said it had access to funding lines "in the normal course of business" either directly or through swaps.
Earlier this week Société Générale promised to raise €4bn by 2013 through business asset disposals as it battled to contain falls in its share price which have lost a third of their value in the past month. Acting with the US Fed, the ECB first offered US dollars to eurozone banks at the end of 2007. The programme was reactivated after the collapse of Lehman Brothers in late-2008 – and in May last year, when the eurozone debt crisis was at its most intense.
On Wednesday, the ECB again offered banks dollar liquidity. The $575m drawn compares with the $500m borrowed by a single bidder under the facility on August 17 but remains modest in comparison with the amount – up to $10bn – that was borrowed weekly in May 2010.
UBS hit by $2 billion 'rogue trade'
by Haig Simonian and Mark Wembridge - FT
UBS shocked investors on Thursday with news that it had discovered a potential $2bn loss due to unauthorised trading at its investment bank. The Swiss group gave no further details, other than saying the loss had been caused by "a trader" and the matter was under investigation. It warned the discovery could prompt it to report an overall loss for the group when third-quarter figures are revealed in October.
"It is possible that this could lead UBS to report a loss for the third quarter of 2011. No client positions were affected," the group said in a statement. UBS officials could not identify in which area of the investment bank the unauthorised trades occurred, when they had taken place, or when more information might become available. "For the time being, we have nothing to add", said a spokesman.
The loss will inevitably recall the €4.9bn loss caused to Société Générale by Jerôme Kerviel, a relatively junior trader in its investment bank, which caused the French group to wobble, and the actions of "rogue trader" Nick Leeson at Barings.
The revelation will inevitably prompt, and probably reinforce, calls from some investors and many Swiss politicians for a downgrading – or even outright closure – of UBS's investment banking activities. The group wrote off more than $50bn in the credit crunch on toxic paper, plunging it into heavy loss. Staffing at the investment bank, the cause of the problem, was severely reduced, amid frequent changes of management.
Some stability has returned at the unit under Carsten Kengeter, the former Goldman Sachs executive hired to restore order. But in spite of significant hiring to rebuild numbers and morale, the group has so far largely failed to convince investors about the viability of much of its investment banking operations.
Some Swiss politicians, still angered by the state bail-out of UBS in late 2008, are likely to take the latest news as "proof" the bank should quit investment banking and focus exclusively on its less risky private banking and fund management activities. The news will also prompt doubts about Oswald Grübel, the veteran Credit Suisse chief executive who came out of retirement in February 2009 to head UBS.
Mr Grübel has been highly effective in turning around the group, which was one of the biggest casualties of the credit crunch. But, as a very much "hands on" manager and a former trader himself with an acknowledged "nose" for the markets, Thursday's revelation will be particularly unwelcome. Shares in UBS, already battered by the lack of confidence in bank stocks, fell by as much as 8.51 per cent to SFr10.00 in early Zurich trading.
The news comes after UBS last month said that it would shed 3,500 jobs as part of a sweeping cost-cutting programme aimed at reshaping its business for a much tougher climate, particularly within its struggling investment banking division. The job cuts, which total about 5 per cent of UBS's global workforce, were signalled in last month's dismal second-quarter results, when chief executive Oswald Grübel scrapped a group profit target of SFr15bn.
Almost half of the reductions will be made in the investment bank as UBS focuses on developing its flagship wealth management arm in fast-growing markets, while scaling back efforts to rebuild sales and trading operations battered by the financial crisis.
The $2 Billion UBS Incident: 'Rogue Trader' My Ass
by Matt Taibbi - Rolling Stone
The news that a "rogue trader" (I hate that term – more on that in a moment) has soaked the Swiss banking giant UBS for $2 billion has rocked the international financial community and threatened to drive a stake through any chance Europe had of averting economic disaster. There is much hand-wringing in the financial press today as the UBS incident has reminded the whole world that all of the banks were almost certainly lying their asses off over the last three years, when they all pledged to pull back from risky prop trading. Here's how the WSJ put it:The Swiss banking giant has been struggling to rebuild trust after running up vast losses in the original financial crisis. Under Chief Executive Oswald Grubel, the bank claimed to have put in place new risk management practices, pulled back from proprietary trading and focused on a low-risk client-driven model.
All the troubled banks, remember, made similar promises in the wake of the financial crisis. In fact, some of them used the exact same language. Some will recall Goldman's executive summary from earlier this year in which the bank pledged to respond to a "challenging period" in its history by making changes.
"We reviewed the governance, standards and practices of certain of our firmwide operating committees," the bank wrote, "to ensure their focus on client service, business standards and practices and reputational risk management."
But the reality is, the brains of investment bankers by nature are not wired for "client-based" thinking. This is the reason why the Glass-Steagall Act, which kept investment banks and commercial banks separate, was originally passed back in 1933: it just defies common sense to have professional gamblers in charge of stewarding commercial bank accounts.
Investment bankers do not see it as their jobs to tend to the dreary business of making sure Ma and Pa Main Street get their $8.03 in savings account interest every month. Nothing about traditional commercial banking – historically, the dullest of businesses, taking customer deposits and making conservative investments with them in search of a percentage point of profit here and there – turns them on.
In fact, investment bankers by nature have huge appetites for risk, and most of them take pride in being able to sleep at night even when their bets are going the wrong way. If you're not a person who can doze through a two-hour foot massage while your client (which might be your own bank) is losing ten thousand dollars a minute on some exotic trade you've cooked up, then you won't make it on today's Wall Street.
Nonetheless, thanks to the Gramm-Leach-Bliley Act passed in 1998 with the help of Bob Rubin, Larry Summers, Bill Clinton, Alan Greenspan, Phil Gramm and a host of other short-sighted politicians, we now have a situation where trillions in federally-insured commercial bank deposits have been wedded at the end of a shotgun to exactly such career investment bankers from places like Salomon Brothers (now part of Citi), Merrill Lynch (Bank of America), Bear Stearns (Chase), and so on.
These marriages have been a disaster. The influx of i-banking types into the once-boring worlds of commercial bank accounts, home mortgages, and consumer credit has helped turn every part of the financial universe into a casino. That's why I can't stand the term "rogue trader," which is always tossed out there when some investment-banker asshole loses a billion dollars betting with someone else's money.
They're not "rogue" for the simple reason that making insanely irresponsible decisions with other peoples' money is exactly the job description of a lot of people on Wall Street. Hell, they don't call these guys "rogue traders" when they make a billion dollars gambling.
The only thing that differentiates a "rogue" trader like Barings villain Nick Leeson from a Lloyd Blankfein, Dick Fuld, John Thain, or someone like AIG's Joe Cassano, is that those other guys are more senior and their lunatic, catastrophic decisions were authorized (and yes, I know that Cassano wasn't an investment banker, technically – but he was in financial services).
In the financial press you're called a "rogue trader" if you're some overperspired 28 year-old newbie who bypasses internal audits and quality control to make a disastrous trade that could sink the company. But if you're a well-groomed 60 year-old CEO who uses his authority to ignore quality control and internal audits in order to make disastrous trades that could sink the company, you get a bailout, a bonus, and heroic treatment in an Andrew Ross Sorkin book.
In other words, "rogue traders" are treated like bad accidents and condemned everywhere from the front pages to Ewan McGregor films. But rogue companies are protected at every level of the regulatory structure and continually empowered by dergulatory legislation giving them access to our bank accounts.
There is a movement in the UK for a thing called "ringfencing" that would separate investment bankers from commercial bankers. Some people think this UBS incident will aid that movement, even though UBS can apparently absorb the loss without necessitating a bailout or endangering client accounts.
The U.S. missed its own chance for ringfencing when a proposal for a full repeal of Gramm-Leach-Bliley was routed during the Dodd-Frank negotiations.
That means we're probably stuck here in the states with companies like Bank of America, JP Morgan Chase and Citigroup, giant commercial banks in charge of stewarding trillions in client bank accounts and consumer credit accounts who also behave like turbocharged gamblers via their investment banking arms.
Sooner or later, this is going to blow up in our faces, and it won't be one lower-level guy with a $2 billion loss we'll be swallowing. It'll be the CEO of another rogue firm like Lehman Brothers, and it'll cost us trillions, not billions.
Canada's Household Debt Soars To New High As Economy Leaves Little Room To Maneuver
Rachel Mendleson - Huffington Post
Household debt levels have reached a new high, increasing the vulnerability of average Canadians to unexpected economic shocks just at a time when uncertainty is mounting.
Despite signs that Canada's economic recovery is fizzling, data released by Statistics Canada Tuesday shows that the ratio of credit market debt to personal disposable income climbed to 148.7 per cent in the second quarter, surpassing the previous record of 147.3 per cent set in the first three months of this year.
Driven mostly by an uptick in consumer credit and mortgage borrowing amidst bargain basement interest rates, economists say the increase could have significant consequences for the household balance sheet no matter which way the economic winds blow. "Anytime the [debt-to-income] ratio rises -- and I think there's full recognition that it's already very high -- that increases the vulnerability to the household from a medium-term perspective to unanticipated surprises, like an interest rate hike or weakness on the job market," says Derek Burleton, deputy chief economist for TD Bank.
But with record-low interest rates expected to persist for some time to come, Burleton says it's likely that Canadians will continue to spend beyond their means. "When I look ahead, I do think the ratio is going to move higher before it goes lower," says Burleton. Adding to the concern is the extent to which the arguably overvalued housing market is making consumers feel wealthier than they truly are.
"It may well be that the housing price bubble continues to be fueled by low interest rates, but those low interest rates are being driven by poor economics," says David Macdonald, a research associate at the Canadian Centre for Policy Alternatives. "So consumers are digging a bigger hole for themselves at the same time as their employment prospects are weaker."
According to Statistics Canada, among "non-financial assets," residential real estate accounted for over half of the 1.2 per cent increase in national net worth during this period. And as Canadians sink ever deeper into debt, their ability to pay their bills is becoming more strained. Per capita household net worth -- the value of households' assets minus their debt -- fell from $185,500 in the first quarter to $184,300, the first drop since the second quarter of 2010.
Statscan attributed that drop to the falling stock market, which has shaved some 5.9 per cent off household equity. Not everyone, however, is sounding the alarm bells. Characterizing the housing market as "fundamentally sound," Royal Bank of Canada economist David Onyett-Jeffries told The Wall Street Journal that Canadians have accumulated debt much more gradually than in the U.S. Though he concedes that growing debt levels should "definitely remain on the risk radar," he says, "We're not in the mindset that it's a perilous position."
But as Macdonald sees it, artificially inflated housing prices are currently masking the severity of the debt problem. "It's like you have one disease that causes you to lose too much weight, but you have another disease that causes you too gain to much weight, so you're sort of OK," he says. "But in the end, you have these two diseases."
The day of reckoning, he says, will come when recovery resumes in earnest. "If and when the economy in Canada does start to pick up and starts to put pressure on interest rates, then we'll see personal debt -- most of that being housing debt through mortgages -- be a real drag on economic growth," he says. "Long term, it's not a stable situation."
Spain to Sell Government Bonds Amid Systemic-Risk Threat
by Angeline Benoit - Bloomberg
Spain today plans to sell as much as 4 billion euros ($5.5 billion) of bonds, two days after Italy's borrowing costs surged at a bill auction and as Greece's slide toward a possible default roils global markets. "Lower demand is likely to push up rates as systemic risk dominates the markets," said Fadi Zaher, a fixed-income strategist at Barclays Wealth in London. "The European Central Bank credit card is running out, the involvement of private investors in Greece remains hanging in the air and euro-zone leaders are showing no unity."
The Treasury is selling bonds maturing in 2019 and 2020 as the premium investors demand to buy Spain's debt rather than German equivalents narrowed to 351 basis points today from 359 basis points on Sept. 13. The ECB intervened on the secondary markets on Aug. 8 to stem surging Spanish and Italian borrowing costs. The yield on Spain's benchmark 10-year bond reached a 6.3 percent euro-era high on July 18. Results for today's auction are due about 10:45 a.m. Madrid time.
Finance Minister Elena Salgado said yesterday that Spain's interest-cost burden is one of the lowest in Europe. Prime Minister Jose Luis Rodriguez Zapatero is struggling to cut a budget deficit that's three times the European Union limit and dodge a bailout. Divisions among European leaders on aiding Greece and helping Spain and Italy avoid being engulfed by the debt crisis are sapping demand for bonds in the region. Greek Prime Minister George Papandreou's latest offer of increased austerity is failing to convince investors the country can meet its fiscal targets and avoid a default.
Advancing Yields
Italy's Treasury sold 3.9 billion euros of five-year bonds on Sept. 13, with yields rising to 5.6 percent compared with 4.93 percent when similar-maturity securities were sold on July 14. The Treasury fell short of its maximum target of 7 billion euros as demand was 1.28 times the amount offered, down from 1.93 times at the last sale.
The yield on Greece's two-year note surged to a record 77 percent yesterday, while the cost of insuring Greek, French, Spanish and Italian debt against a default surged. The yield on Spain's benchmark 10-year bond climbed to 5.37 percent today compared with 5.08 percent the day after the ECB started buying Spanish debt.
Spanish banks' borrowings from the ECB surged to 69.9 billion euros in August, an 11-month high, from 52.05 billion euros in July, the Bank of Spain said yesterday. Divisions among European governments over how to tackle the region's debt crisis have helped drive up banks' borrowing costs, narrowing their access to the wholesale debt markets they need to fund their business.
Downside Risks
Spain's credit rating faces risks "on the downside" as growth slows and regional governments fall behind schedule on deficit-reduction targets, Fitch Ratings Director Douglas Renwick said in a telephone interview on Sept. 13.
Fitch rates Spain AA+ with a "negative" outlook, and Renwick said weaker growth, failure to meet deficit targets or larger-than-forecast use of public funds to rescue banks could be "clear triggers for the rating." Moody's Investors Service has an Aa2 rating on Spain and Standard & Poor's rates it AA.
Zapatero said yesterday that market tension may affect the government's growth forecast. Still, he expects quarterly growth rates in the third and fourth quarters to be "similar" to the 0.2 percent expansion in the three months through June.
Spain bonds well-received, but at a price
by Nigel Davies - Reuters
Spain's Treasury sold almost 4 billion euros (3.45 billion pounds) of three bonds on Thursday but paid dearly, even with the support of the European Central Bank, as euro zone leaders struggle to tackle Greece's debt problems. The Treasury sold 1 billion euros worth of a 2019 bond and 1.4 billion and 1.5 billion euros of two bonds maturing in April and October 2020, respectively. The amount sold was at the top end of the Treasury's target of 3 to 4 billion euros, but yields were close to their highest levels since 2002.
The sales come before euro zone finance ministers meet in Poland on Friday to try yet again to draw a line under the Greek crisis that has hit global markets and sent borrowing costs in countries like Spain and Italy to record highs.
The results showed there is no let-up for weaker periphery euro zone countries, after a five-year debt auction in Italy on Tuesday saw its borrowing costs jump to record highs. "This was nothing spectacular. But the way the background risk is and Greece's fate on a bit of a knife edge, it's the best Spain can expect right now," said Jo Tomkins, analyst at consultancy 4Cast.
Separately, core euro zone country France, under pressure after bank rating downgrades this week, sold 8.5 billion euros in bonds, though demand was weaker than at previous auctions.
Despite ongoing support from the ECB in buying periphery debt, Spain too paid dearly, with yields on all the bonds near or above 5 percent. The average yield on the 2019 bond was 4.969 percent. On the April 2020 bond it was 5.006 percent, and for the October 2020 bond it was 5.156 percent. All were last sold between April 2009 and December last year.
ECB Hand
The outcome could have been a lot worse without the support of the ECB, which has bought roughly 70 billion euros of periphery debt in the last five weeks in a bid to stop the crisis worsening for Spain and Italy. Borrowing costs jumped to euro-era record highs in August, with the yield on Spain's benchmark bond spiking to 6.3 percent. On Thursday it was trading around 5.3 percent.
"It's encouraging they were able to exhaust the range, something which Italy was not able to do on Tuesday. (But average yields) are at uncomfortable territory ... It would be much better to get them lower, and they are ECB-influenced so it's as good as it gets," said David Schnautz, strategist at Commerzbank.
Analysts say Spain will be able to keep financing at those levels, but if borrowing costs on 10-year debt were to rise as high as 7 percent, then the country would eventually need a bailout like Portugal or Ireland. The Treasury saw reasonable demand for the bonds. The bid-to-cover ratio, an indicator of investor demand, was 2.2 on the 2019 bond. It was 2.0 on both of the bonds maturing in 2020.
Austere Italy? Check the Traffic
by Rachel Donadio - New York Times
With only 960 residents and a handful of roads, this tiny hilltop village in the arid, sulfurous hills of southern Sicily does not appear to have major traffic problems. But that does not prevent it from having one full-time traffic officer — and eight auxiliaries.
The auxiliaries, who earn a respectable 800 euros a month, or $1,100, to work 20 hours a week, are among about 64 Comitini residents employed by the town, the product of an entrenched jobs-for-votes system pervasive in Italian politics at all levels. "Jobs like these have kept this city alive," said Caterina Valenti, 41, an auxiliary in a neat blue uniform as she sat recently with two colleagues, all on duty, drinking coffee in the town's bar on a hot afternoon. "You see, here we are at the bar, we support the economy this way."
But what may be saving Comitini's economy is precisely what is strangling Italy's and other ailing economies throughout Europe. Public spending has driven up the public debt to 120 percent of gross domestic product, the highest percentage in the euro zone after Greece's. In recent weeks, concerns about Italy's solvency and the shaky finances of other deeply indebted European nations have sapped market confidence and spread fears about the stability of the euro itself.
On Wednesday, Italy's lower house of Parliament gave final passage to a $74 billion austerity package aimed at eliminating Italy's budget deficit by 2013. But analysts doubt that the measures — primarily tax increases but also cuts in aid to local governments, a higher retirement age for women in the private sector and a change in Italy's labor law to make it easier for companies to hire and fire — will achieve the advertised savings.
Many of the cuts in financing for local governments may yet be bargained away in annual budget negotiations to be held this year, and nowhere in the legislation are there any measures to reduce the salaries or the number of public sector employees, more than 80 percent of whom have lifetime tenure. But they would lose some retirement benefits, and a hiring freeze is already in place.
Financial markets have remained edgy, with yields on Italian bonds rising to a record high of 5.7 percent at auction this week, before rallying a bit after the government passed a confidence vote on the austerity measures. Investors remain unconvinced, though, fearing a possible downgrading of Italy's credit rating, which could further drag down the euro, and there is already talk of the government introducing additional austerity measures.
"I have great doubts about whether they're sufficient," Stefano Micossi, an economist and the director of Assonime, an Italian business research group, said of the austerity package. "The mechanisms that led to such spending haven't changed." The sticking point, he added, was the public sector. "The big problem is the public administration," he said. "It's inefficient and corrupt. But corruption is born in politics and politicians don't want to change."
Italy is contending with a public debt, built up under a succession of Christian Democratic governments, that helped the country emerge from dire poverty after World War II to become Europe's third-largest industrial economy. Especially in the poorer Italian south, the Christian Democrats put millions of people on the state payroll in a jobs-for-votes system that many say has persisted under Prime Minister Silvio Berlusconi. The quid pro quo worked so long as the economy was expanding, but now is seen as one of the major threats to Italy's solvency.
In 2009, the most recent year for which data is available, an estimated 3.5 million Italians were on the state payroll out of a work force of 23 million, according to the Ministry for the Public Administration and Innovation. On Mr. Berlusconi's watch, government expenditures — including the cost of public administration and defense — rose to more than $1 trillion in 2010 from $753 billion in 2000.
Analysts attribute some of the rise to the introduction of the euro in 2001 and the rising cost of pension spending in a nation that will soon have more retirees than workers, as well as to soaring health care costs. But they say it also stems from deals Mr. Berlusconi has made with powerful politicians from both the north and the south to get the votes needed to hold together his government.
Those votes mean the government is loath to stop the flow of money. Even with the new austerity measures, "They haven't closed the taps," Mr. Micossi said. Some say the jobs-for-votes mentality derives from Italy's feudal heritage. Italy was a patchwork of warring fiefs before unification 150 years ago, and personal networks are often still seen as more powerful than institutions.
Even today, the concept is: "I understand the state if it gives a benefit to my person, family, business," said Luigi Musella, a historian at the University of Naples and the author of "Clientelism," about Italy's quid pro quo politics.
For his part, Nino Contino, the mayor of Comitini since 2002, is proud that he has used public money to create jobs. "I know that 60 people in a town of 1,000 is a good number, it's a lot," Mr. Contino, 49, said of his city's employees. "But if I didn't let them work, these people would have to go work in America. That's 60 people with 60 families looking for work elsewhere."
"Besides," he added, "the city doesn't pay them. The state and the region do." Indeed, Comitini's city employees are paid 90 percent by the regional government and 10 percent by the town. "This town lacks for nothing," Mr. Contino added, as he showed off the town's library, with a children's play area and an extensive collection of Sicilian history books, including a rare 10-volume set of the "History of Feudalism."
Upstairs, a small museum featured Arab-Norman pottery fragments and an exhibition on the nearby sulfur mines that employed as many as 10,000 people before they closed in the 1950s and 1960s, forcing many residents to retire early and others to emigrate.
Beyond its 960 residents, the town counts 3,000 emigrants registered to vote there, said Mr. Contino, whose main job is as a specialist in cellulite reduction. Some residents are concerned that the new austerity measures mean that money for local employees might dry up. But Mr. Contino said he was not worried. "I don't think that's a risk. Here, there's a culture of maintaining jobs," he said. "Political will here is relative," he added.
Yet the cuts to regional spending in the austerity measures are real, even if changes to local government will likely take years to apply. "We can't touch salaries," Raffaele Lombardo, the president of the Region of Sicily, said in a telephone interview, "But now it's certain that hiring will be blocked for many years."
Back in Comitini, residents began to gather in the main piazza. A city council member was getting married in the church. Cars stopped and parked beneath a "no parking" sign while their drivers hopped out for a coffee in the bar. Inside, Ms. Valenti and her colleagues said they were not much inclined to give parking tickets. "We try to avoid giving fines," she said. "It's a small town, we all know one another."