Friday, 27 April 2012

Hollande. S&P. Spain. US GDP.

Expecting Hollande
The expectation of Francois Hollande winning the French Presidency has triggered some shuffling of feet in Berlin, Frankfurt, and Bruxelles. In Berlin, Chancellor Merkel tries to make sure that Hollande will feel welcome when he arrives for the first of his foreign visits, probably already on the day after the election. On the other hand she is also clear that the Fiscal Pact is not up for renegotiation. However, she subtly changed her language about the necessity of balancing the budget. Now it is needed “over time”.

Francois Hollande on his part said that when he arrives in Berlin, the French people will have given him a clear mandate for renegotiation.

Not particularly surprising, Bundesbank believes that the “fiscal consolidation” should continue. Even if the negative growth makes it increasingly difficult for many countries to actually consolidate.

And perhaps the best news is that the Eurocrats in Bruxelles are discretely pointing out that there is enough legal leeway in the Pact to actually relax it quite a bit. “The pact is not stupid”, as an anonymous source have succinctly put it. Changes must be approved by a majority. Germany holds no veto in this matter.  

Spanish Downgrade
S&P Downgraded Spanish government debt by two notches from A to Bb. Yawn. The press has ignored it. The downgrade happens after everybody has found out there is something wrong in Spain.

Spain takes the bull by the horns
Sorry, could not let that one pass! The Spanish economy minister has announced that the Governent will force a sale of real estate assets from the crisis Cajas. He expects foreign real estate funds to bid for the property. It confirms my impression that Spain are more hands on handling their banking crisis than many other countries. Unfortunately, forcing a firebrand sale of assets will likely leave a colossal hole in the balance sheets of the local savings banks, that the government will then have to fill. It would be better first to nationalise the banks.

Stronger than expected labour market data, an increase in Consumer Spending and better data from the US housing market has made most US economists upgrade their expectation for today’s release of US GDP data. They now expect an annualised growth rate of between 2.5 and 3.0 per cent.

Adam Posen, an American member of the Bank of England Monetary Policy Board, has explained why things are better in the US: There is no austerity programs, and companies are not as dependent on banks for financing as in Europe. European small and medium-sized companies depend critically on bank loans they cannot get. No further explanations are necessary.

Wednesday, 25 April 2012

Austerity backlash on its way

How stupid are the markets?
Faced with a growing unease over the effects of the austerity programmes, German Chancellor Merkel and her spokespersons are making it clear – this lady is not for turning. The message from Berlin is that there is no alternative to the “balanced budget”  fiscal pact, and that “Europe’s Credibility” is identical to the ability of respecting budget discipline.

No, Europe’s credibility (or rather, that of the Euro-zone) depends on the ability to find a cure for the current predicament that does not kill the patient. Continuing with cutbacks in an economy with negative growth is suicidal.

To the best of my knowledge, suicides committed to prove credibility has never led to anything but a passing admiration and a shaking of the head. Too bad, so sad.

Anyway, The Dutch government collapsed on the issue. If Hollande wins the French elections, the “core” of the “Team Austerity” has shrunk to one member, Germany. With upcoming local elections in Germany we will see how strong that core really is.

As for the alternatives, are there really any? Of course, it is just a question of not putting on the ideological sunglasses on. Germany could add to domestic demand. France could unleash an economic revolution by privatising the state-controlled behemoths that increasingly hampers French competitiveness. Spain could (temporarily) nationalise the Cajas and move on, in particular with reforming the dysfunctional labour markets. All of Europe could postpone the insane idea of forcing the banks to deleverage amid the economic crisis. And so on.

British recession
The UK GDP numbers for Q1 have just been released and they showed a second consecutive quarter of negative growth. Construction fells sharply, and there is no growth in the biggest sector. The service sector. Consumers are squeezed by higher oil prices, government cutbacks, slow income growth. Oh, and then there is the problem of having too large debts related to buying property.

All of this is not surprising. A possible cause for concern is that UK exports are not doing any better after a long period of  a weakened currency. Maybe because things are not looking too good in the export markets, either.

Where did the money go?
ECB President Chairman Draghi gave a testimony to the Economic and Monetary Affairs Committee of the European Parliament. Draghi clearly asked the politicians to put growth back on the agenda. And he revealed a concern (which I share): The huge loans granted to the banks are not flowing into the economy in the form of loans to businesses and consumers. Draghi is optimistic that it will happen with time.

The question is: how long time does Draghi expect this will take?

On a lighter note
FT today carries this little story about Italian Banking. Enjoy. Or cry.

Monday, 23 April 2012

Hollande. Europe's growth is slowing.

French presidential contender Francois Hollande of the Socialist Party came out with most votes in the first round of the French presidential elections. He will now face incumbent president Sarkozy in the second round in two week’s time. Opinion polls have persistently shown that Holland would win the second round hands down. Assuming that he wins, there will probably also be snap parliament elections.

Markets are now nervous that a new French government will challenge the German-imposed austerity programmes. Hollande has been clear that he wants to renegotiate the basis for the euro-zone “fiscal compact”. I have previously been quite convinced that faced with German determination, Hollande would back down quickly. But it seems that one of the austerity stalwarts, the Netherlands are also beginning to have second thoughts about the austerity programme

Growth has slowed markedly in the Netherlands in the first months of the year. It has now led to the Anti-Immigration party PVV to refuse supporting the EUR 16bn cutbacks, required for the country to meet the demands of the Fiscal Pact. Party Chairman Geert Wilders demand new parliamentary elections, in order “to allow the voters to decide” on the “Brussels diktat”. The open question is whether the other political parties can find an agreement to force through further savings as the economy is slowing.

Bank of Spain released its quarterly survey this morning and it is not uplifting. Economic growth in Q1 is falling, demand as well as supply is contracting. Employment is falling at a rate of 4% per year. BoE points out that private sector demand is weak and the decline in house prices has accelerated to a rate of more than 7% per year. So far, exports have been a growth driver. That has also stopped, but is more than balanced by a strong fall in imports. Add the significant budget cutbacks. Ugly!

This morning’s “Flash” PMI for the Eurozone and for Germany were not good news. Essentially, they point to a stronger rate of decline in Europe now at the start of the second quarter. I am certainly uncomfortable with this, as it demonstrates what has been visible in the Euro-zone monetary data, that bank lending is not reflecting a recovery.

I need some time to think this one over. My expectation has been that Germany would do nicely, and that the rest of Europe would be past the maximum downdraft forced by the austerity programmes. With Germany as the motor, I had expected Europe’s recession to end now. I may have been mistaken on two elements: Germany’s growth is still more driven by exports than by domestic demand – which means that the economic activity in the other European countries affect key export sectors. And the austerity programmes in Italy, France, UK, Spain and elsewhere may have more power in pulling down the economies than expected.

If this is the case, we will see Europe – including the UK - tanking under the weight of its own mistakes (the accelerated austerity programmes) while the US will do relatively fine because of the absence of austerity programmes for now.

If France and the Netherlands join Italy in a criticism of Germany regarding the austerity programmes, we are entering a phase of new political dynamics. The austerity programme may come under heavy fire, eagerly helped by the London-based financial press who will find it a brilliant opportunity to counter the increasing German influence on the continent. We may be looking at a renewed round of crisis meetings.

It will only confirm my opinion that the German zero-deficit ideology was destabilising for the economic growth. I will be happy if the rest of Europe comes to its senses and oppose Germany’s wrong designs. I am not sure I will be happy about the way it happens. It could be messy.

Wednesday, 18 April 2012

Spain. IMF.

Mr Market has got something right
You will not often catch me saying something positive about the large majority of financial market participants. In the past couple of days, I have found several pieces that have left me thinking whether the markets are actually getting something right.

In Spain, all signs point to disaster. The story is well-known by now. A host of weakly banks have fuelled a housing boom. The growth falls, property prices begin to fall, banks end up in deep trouble, and that accelerates the economic downturn. Government finances deteriorate sharply. Add Spain’s notoriously ineffective labour market.

In Berlin, Paris, and Bruxelles, politicians are still shocked that Greece was “forced” into a de facto bankruptcy. The response is that the market “attacks” are best countered by draconian austerity measures.

The markets now appear a good deal more sophisticated than that. Bond markets are not afraid of government deficits as such. Bond markets are afraid of losing money. That leads to the critical point: Markets are not afraid of the Spanish budget deficit, but they rightfully fear that a German-style austerity policy will make things worse and lead to a “death spiral”, which eventually increases the default risk.

So far it appears that this analysis is better than the one made by the European politicians: in order to meet the EU demands to the budget deficit in 2013, the Spanish government introduces policies making it close to impossible to reach the goal.

Suddenly I find myself siding with the bond markets. Weird feeling, indeed.

Has adjusted its growth forecast for the EU-zone upwards. From -0.5% to -0.3% in 2012. Wow, let’s have a party! This is entirely for public consumption. No economist worth his salt believes that forecasts can be made that precise (and in 98% of the cases they are wrong anyway).

The most important is that IMF strongly pushes the European politicians to make it their “overarching priority” to prevent a renewed escalation of the debt and growth crisis. IMF also tells Europe to get more busy in resolving the problems in the banking sector. IMF identifies two major obstacles to a resumption of normal growth in the Western economies, fiscal consolidation and bank deleveraging. I totally agree.

In the cases of USA, UK, Spain, and Denmark another factor is at play, a heavy increase in household debt related to property investment, all happening while property prices were booming. That complicates the situation in those four countries. In the US there is no political consensus to fight the budget deficit and hence no austerity. In Denmark the government debt is sufficiently low that dramatic action can be postponed. But have a look at UK and Spain.

Friday, 13 April 2012

EBF. Spain. Seasonality

There is now less than three months until the European banks have to meet EBA’s strict demands for a Tier 1 Capital of 9 per cent. I have repeatedly been highly critical of the decision to force the banks into a rapid deleveraging at a point in time when the European economies are being hit left right and centre by austerity programs. Not surprisingly Christian Clausen, President of the European Banking Federation (EBF) is also highly critical. In his criticism, he adds a couple of points that are worth noting.

His first point is that the new standards are often so weakly formulated that the banks tend to be more careful, rather than aggressive, when implementing the standards. Another point is that in order to meet new demands for net stable funding, the interbank market need to provide funding to the tune of 1.9 tn EUR, which is frankly impossible.

While I agree with some of Clausen’s views, it is worth remembering that the banks themselves created the mess that politicians are now trying to get them out of. Shame that the same politicians managed to make a mess out of the rescue mission.

I continue to be surprised about the lack of precision in the financial press when it comes to bailouts. Reading the most recent batch of comments about Spain’s economic problems, the reader would be excused for believing that Spain faced bankruptcy. It could also seem that the European bailout funds are not sufficiently large as their total volume more or less corresponds to Spain’s government debt. It is nonsense.

Greece got a debt restructuring. It means that a large proportion of the country’s government bonds were declared null and void, and new ones with a lower nominal value were issued instead.

Portugal and Ireland got what is now popularly referred to as a “bailout”. It is a credit line, established for a limited period in time, allowing the countries to cover their financing needs from other EU countries. Such credit facilities allow the countries to bypass the market, and the idea is to reduce the financing costs temporarily while the countries try to get their economic house in order,

Such a credit facility is not related to the overall outstanding debt, but to the financing and refinancing needs for the term of the facility. If it is e.g. a three year period, it is assumed that 10-year bonds will be dealt with on market terms later.  

Spain may opt for such a facility if the short term yields continue to climb. But it has nothing to do with 10-year bond yield climbing past 7 per cent, as the press has had it.

In order for a country’s debt/GDP ratio not to increase, the average yield on the outstanding debt cannot exceed the nominal growth of the GDP. That is exactly the purpose of “bail-out packages”, and explains why the interest paid on the credits are lower than market rates.

The most recent job numbers from the US came out a bit worse than expected after a number of months with better than expected numbers. While being highly interesting from a political point of view, the data are probably simply a result of the milder than normal winter in the US.

Job data are always seasonally corrected, as everybody knows that bad winter weather leads to short term layoffs. When the winter is milder than expected, fewer people are laid off. Seasonal correction mechanisms are based on several years of data and adds some jobs. The result is an overshoot. Unless you are familiar with this mechanism, you will have a tendency to adjust your forecasts upwards.

But around March, the effect of the warm winter disappears out of the statistics as the seasonal correction does not add those extra jobs in the spring. So suddenly your fresh optimistic forecasts collide with the seasonal correction mechanism. And the data disappoint. Interesting to see if we are in for more disappointments.