” … our policy makers have put us in the position of continually revisiting a can that they simply kicked down the road.” John Hussman“:And so, predictably, Europe is now choosing to kick the can down the road.” John Hussman
“From my perspective, this is another perpetual game of kick-the-can-down-the-road to prevent mortgages from being classified as delinquent, which prevents banks from having to reserve against loan losses or write down the value of the assets. ” John Hussman
Yesterday’s decisions “do not address long-term solvency issues,” said Andrew Bosomworth, a Munich-based fund manager at Pacific Investment Management Co. “It’s a kick-the-can-down- the-road solution as opposed to acknowledging and confronting the here-and-now insolvency problems.” Neuger & Kennedy (Bloomberg)
I feel the can’s pain. How far down the road can it go?
“The market can stay irrational longer than you can stay solvent,” says John Maynard Keynes
Ouch! The period since Keynes’s heyday, when dinosaurs ruled the Earth up until now represents a terribly long period of can- kicking. Our current anxiety about markets and growth could be around for some time to come! What does it all mean?
It means the euro can will get kicked down the road until the Irish budget is put up for a vote next week and then the panic can begin all over again. It is hard to see the Irish citizenry taking a collective bullet for a bunch of sleazy crooks: Alex Gloy, of Lighthouse Investment Management: (by way of Zero Hedge):
An example of low indebtedness as recently as 2007 (25% debt-to-GDP ratio compared to 65% for Germany) – the country has descended into financial chaos within 3 years. And, contrary to Greece, Ireland has not overspent, nor falsified government statistics.
This year alone, saving its banks from collapse will cost Ireland 32% of GDP.
But the EU/IMF rescue package saddles the country with another EUR 85bn of debt – more than 50% of GDP (remember, Maastricht criterion was 60%). The ratio would look even worse if you used the gross national product (GNP) instead (EUR 139bn vs. GDP 170bn for 2009[2]). A lot of global firms have shell companies in Ireland, where – due to the low corporate tax rate of 12.5% – profits are being booked. Royalties are charged towards holding companies in higher-tax countries to avoid paying higher taxes. These tax shells are run by few employees and do not add much to the industrial output or tax base of the country. Hence GNP would be a better measure of economic strength.
It seems Ireland tried to resist a bail-out, but was forced to accept (Irish banks are hanging on by a thread of EU 130bn of loans from the ECB).
But wait a minute – non-Irish banks make up EUR 35bn of this amount. And didn’t some foreign banks (among them German Depfa, which was bought by Hypo Real Estate which in turn had to be rescued by the German government and has so far cost more than EUR 100bn) move their headquarters to Dublin to escape stricter regulation at home? And now the EU/IMF forces the Irish tax payer to bear the cost of bailing out those banks?
The problem with all these bailouts is that a) they are always done @ the last minute so nobody really knows all the links between entities including counterparties, and b) they all have some sort of ‘jive’ to them. Add rumors that the Fed/Treasury combine was prepared to flood the Eurozone rathole with dollars and the enterprise stinks of insider deals and conflicts of interest.
Note that the IMF/EU requires the Irish to commit their own funds as part of the Faustian bargain. No Irish pensions, no bailout. Not friendly but the obvious outcome when a country finds itself dependent upon the ‘kindness’ of strangers.
Europe will clearly be in the spotlight early this week, as a run on Irish banks coupled with large fiscal deficits has created a solvency crisis for the Irish government itself and has been (temporarily) concluded with a bailout agreement. Ireland’s difficulties are the result of a post-Lehman guarantee that the Irish government gave to its banking system in 2008. The resulting strains will now result in a bailout, in return for Ireland’s agreement to slash welfare payments and other forms of spending to recipients that are evidently less valuable to society than bankers.Essentially, the problem in Ireland is exactly what Dornbusch described: First, Ireland has a banking system that like other countries around the world, including the United States, carries a mountain of bad long-term debt on the asset side, and has become increasingly dependent on funding them with short-term deposits over the past decade, thanks to the allure of “cheap” money at the short-end of the maturity curve.
Next, Ireland and other countries in the European Monetary Union have their liabilities denominated in a currency (the euro) that they cannot actually print on their own. As Ireland, Greece, Portugal and other European countries run budget deficits, they have to induce the private market to buy their government bonds, which are denominated in the common currency. This is effectively like being on a fixed exchange rate or a gold standard, so rather than being able to print money or depreciate the currency, the only adjustment variable is the interest rate. So rates have been soaring in these countries. To some extent, states and municipalities in the U.S. are in a similar situation.
Over the short run, Ireland will promise “austerity” measures like Greece did – large cuts in government spending aimed at reducing the deficit. Unfortunately, imposing austerity on a weak economy typically results in further economic weakness and a shortfall on the revenue side, meaning that Ireland will most probably face additional problems shortly anyway.
Germany’s Chancellor Angela Merkel is effectively the only major leader who recognizes the correct prescription, which is – as Dornbusch advises – to grow up, restructure the debt, and clean up the banks, because bailing them out will simply make the problem worse down the road. Merkel calls this “burden sharing” – which is another phrase for “restructuring” – but she is also vilified for it, because lenders would much prefer to have the government make them whole at public expense (and mostly the German public at that). And so, predictably, Europe is now choosing to kick the can down the road.
Here at home, the situation is only a little different from the standpoint of underlying fundamentals, but as noted at the outset, month-to-month economic progress has been reasonably positive in the U.S. lately, so there is a larger distinction between surface conditions and latent ones.
What do we recommend here @ Economic Undertow? Energy conservation and restructuring. Are we going to get it? Fifty- fifty sez more sugar! Markets are interpreting Jean- Claude Trichet’s remarks today as being a green light for the euro- version of Quantitative Easing, the purchase of euro- denominated sovereign debt.
People in charge don’t know what they are doing! Gloy has Trichet holding the Irish banks hostage to the tune of € 130 billion in paper it wants to dump. To take the banks off Trichet’s hook the Irish members of the euro- family are made examples of and are given the ‘rum, buggary and the lash’ treatment. Now the ECB wants to buy another € 130 billion of Irish bonds. Amazing! Don’t they (‘They’) have any phones @ the ECB?
Trichet has set the euro hares racingNils Pratley Guardian UK
Is Jean-Claude Trichet, president of the European Central Bank, really about to ride to the rescue of the eurozone by launching a gigantic programme of buying government debt? We’ll find out tomorrow. In the meantime, be amazed by how much has been read into a few ambiguous remarks: the euro rose strongly, the bonds of Portugal and Spain were in demand and stock markets surged.
True, some strong(ish) manufacturing data contributed to the outbreak of optimism, but Trichet-inspired excitement was the main driver. Expectations are sky-high. Investors sense a change of policy at the ECB. They are guessing that the likes of Axel Weber – the Bundesbank boss who has been damning about bond-buying – have been defeated.
If that is really the case, it would represent a colossal U-turn by the ECB, which has been strong in holding the line that it is the job of governments to fix (and fund) the deep-seated problems at the outer regions of the eurozone. The bank has regarded its role as providing liquidity to the markets and, indeed, has been signalling that the time had come to lift the state of emergency. Concern about mission-creep was uppermost only a few weeks ago.
I seem to recall suggesting in May the Axel Weber step out of character and lead an EU version of QE since Trichet didn’t seem up to it. Will the monetary authorities change their stripes and ‘Do the Bernanke’? I like sugar just as much as the next guy — along with some ‘extend and pretend’ and some bailouts — but the restructuring must be done promptly. Credit cannot only expand.
Monetizing euro- debt would take a lot of pressure off the peripherals as it would act as a defacto- devaluation of the euro. This would represent a repricing of European wages as opposed to the repricing by deflation which is likely to take place instead.
It is hard to see how Germany would object since it would help German exporters. While the German auto industry fills me with disgust, the Germans are going to make the carz anyway and allowing Ireland and the other peripherals to escape debt deflation is more important. The alternative is spreading ‘contagion’ and the ultimate deflationary collapse of the EU/euro.
Pumping cash into Europe would kick the can down the road, Right?