Friday, 11 May 2012

Whoops! Helicopter. Euro.

The drama of the Spanish banking sector is getting worse. The government has asked the (savings) bank sector to increase loss provisions from 54 bn EUR to 166 bn EUR to cover potential losses on loans to construction companies and developers: It would not be that bad, if it also covered potential losses from loans given to property buyers. Some estimate that making reasonable provisions for such loans would mean that the banks would have to make provisions of 270 bn EUR. That would effectively kill the sector.

Spain is rapidly approaching an Irish situation, with one important difference: the Spanish government has not been silly enough to guarantee anything. The problem is quickly beginning to look like a situation where it will be impossible for the government to bail out the banks by injecting capital. I am afraid that at some point in time it will be impossible for the government not to explore the “Swedish model”, of nationalisation without any compensation to shareholders, flotation of huge chunks of bad loans, and a later re-privatisation of healthy banks.

The good news is that EU is now clear in offering Spain an extension of the time limit to reduce government deficit to below 3% of GDP. In return Spain has to accept an “audit” of the plan to rescue the banking sector. I am not entirely sure that such a plan really exists.

Spain is a living testament to the complete misunderstanding that this crisis is about government debt. It is not it is about total leverage of the economy, public AND private. Spain and Ireland (and Denmark) had healthy government finances but a hugely leveraged private household sector as the crisis began. Healthy government finances proved to be no help.

More Whoops!
JP Morgan-Chase admitted to have lost some loose change, USD 2bn and counting, on their Prop Trade activities, i.e. speculation for the bank’s own books. Of course that old devil, mark-to-market, was to blame (together with poor risk management and failing organisational oversight). If only JPM had been allowed to book the positions at prices that suited the bank better insted of being mercilessly forced to book the positions at market prices, things would not have run out of hand.

To me it sounds as if the arrogance of the pre-2007 period is coming back with a vengeance. As they say in French “Chasser le naturel, il revient au gallop”.

The good news is that such a loss is a major setback for Wall Street’s lobbying activities, aimed at weakening the legislative efforts to curb Prop Trade, the so-called Volcker rule.

Helicopter Ben gets company
Fed Chief Ben Bernanke got the nickname early in his career because he advocated QE programmes to stave off financial crises. Now Citi’s chief economist Willem Buiter joins Ben in the helicopter. Buiter recommends even more radical easing of the monetary policy than seen so far. Buiter is not just any bank economist. He was a highly respected academic economist and a member of Bank of Englands Monetary Policy Council before taking the jump to the big paycheque in Citi. It is just six weeks ago that Buiter claimed that Spain was heading for a debt restructuring. The reason: the government is not strong enough to recapitalise the savings bank system.

Now Buiter sees that the monetary initiatives by the world’s central banks are becoming increasingly ineffective when combined with a banking system in full deleveraging mode. Add the death-by-austerity fiscal policies in Europe. Buiter suggests Central Banks to lend money directly to the private sector, circumventing the banking system.

And some good news
The Euro has been weakening recently (no, it is not really the dollar that has gained, if you measure on a trade-weighted basis), and the usual chorus of anti-EU megaphones have trumpeted that as a sign of the Euro-zone’s imminent collapse.

For those who remember my writings last year in the autumn, I am strongly in favour of a weaker currency. I am even in favour of parity with the USD. It should not happen too quickly and disorderly, though. But for sure it would help on Europe’s economic situation. As long as Europeans still find it cheap to shop in the US, there is something wrong with the terms of trade.

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