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Friday, October 31, 2008

Spain Officially Enters Recession

Well it would seem that Spain's recession is now as official as it is ever going to get (since there is no Spanish equivalent of the US NBER independent dating committee), and it started on 1 July 2008 (assuming we get no posterior revisions to the Q2 data, which is always a possibility, you know, opening the gate after the horse has bolted). The Bank of Spain this morning that - according to their estimations, which will undoubtedly be very near to those of the INE - Spain's GDP fell by 0.2 percent in the third quarter from the previous quarter, the first such decline in 15 years. Of course, for this to be a recession we need 2 successive quarters of q-o-q GDP contraction, but is anyone in their right mind going to suggest at this point that Q4 will see an expansion (well, there is always Artemio Cruz himself, but then I did say "in their right mind"). Let's take a look at the chart:



Well, I have had to look at a lot of "strong" material in recent months - the Baltics, Hungary, etc - but this one beats them all, frankly I am flabergasted, since I have never seen anything like it (except, possibly, the Irish equivalent).

The Bank of Spain also said in a statement released this morning (Friday) that the annual growth rate in the July to September period was 0.9 percent, just half the rate achieved in the second quarter. If we look at the year on year chart then it is clear the we will soon be in year on year contraction territory (possibly in Q4 at this rate, but maybe in Q1 2009). The Spanish economy will almost certainly contract in 2009, and very sharply. Depending on a number of factors which still aren't clear, I would say we should belt ourselves in for a contraction of between 3 and 5 percent.



So now we know when we entered. But anyone want to guess when we will leave? At this stage I can't even reasonably guess.


And if you like perusing charts that only ever seem to point sharply downwards, the you really should try some of the individual country readings on the latest EU sentiment index, since European economic confidence saw its biggest ever fall in October, as the global bank crisis generated the bleakest outlook since the early 1990s, according to the findings of this months European Commission economic sentiment survey. The survey results give us just one more dramatic illustration of the devastating impact the financial turmoil is having on the real economy. Pessimism has risen dramatically on all fronts - from manufacturers' expectations about exports to consumers' fears about unemployment.

These gloomy results now make it almost a certainty that the European Central Bank will cut its main interest rate by at least half a percentage point to 3.25 per cent when it meets next week.





The European Union executive's "economic sentiment" indicator for the 27-country bloc fell by 7.4 points in October to 77.5 points. The latest index reading was the lowest since 1993 and marked the largest month-on-month decline ever recorded.

Wednesday, October 29, 2008

Spanish Mortgages Continue Their Long Decline In August

Mortgage lending continued to fall in Spain in August, and the rate of decline even accelerated, according to data out today from the National Statistics Office (INE). The average value of mortgages signed in August was down 10.6% year on year (falling to 152,672 euros). The number of mortgages that change their conditions was up 8.9%.

The total number of properties mortgaged was 88,161 - down 30.8% year on year, while the total value of the new mortgages was 13.459 billion euros - down 38.1% year on year. So, at the moment, this just continues and continues.



If we look at dwellings alone, they were down 36.8 percent year on year, (to 37,744 homes mortgaged in August) compared with a 26.3% fall in July. The drop in mortgage lending for housing also accelerated, falling 43.2 percent to 7.73 billion euros as compared with a 33.2% drop in July.

Building Permits Down and Housing Completions Up


The number of planning approvals in Spain fell by 59% to 199,146 in the first 8 months of the year, according to recent figures from the Spanish Ministry of Development. This means that housing starts this year will drop to a level not seen in Spain nearly a decade. Looking just at August, planning approvals were down by 67% compared to August 2007, and by a staggering 80% compared to August 2006.

The positive side of this is that the dramatic reduction in planning approvals will reduce the pipeline of new properties coming onto what is an already saturated market, though unfortunately it will take at least two years for any impact to even start to be felt. That said, housing starts in Spain are still very high compared to other European countries. In the UK, for example, there are around 120,000 housing starts per year.

The bad news is that falling planning approvals will drive up construction-sector unemployment even further, reducing demand for new homes.

And whilst planning approvals have collapsed, the number of new homes completed has continued to rise, even if this is now at a lower rate than before. According to the Ministry of Development there were 399,381 construction completions in the first seven months of the year, compared to 398,244 in the same period last year – a rise of 0.3%.

At present there are at least 650,000 unsold new homes on the market, and the figure is expected to reach 1 million by the end of the year, according to estimates from developers. Beatriz Corredor – Spain’s Housing Minister – estimates that it will take up to 2 years for the market to absorb the excess supply, but I think even this estimate is hopelessly optimistic.

The Bank Bailouts Are Very Well Intended, But Where Is All The Money Going To Come From?

As every woman who has ever had dealings with a man knows only too well, it is a lot easier for people to make promises than it is for them to keep them. And when Europe's leaders met in Paris on the 12 October, a lot of fine promises (which were all, surely, very well intentioned) were made. The reality of having to live up to them, however, is turning out, as might only have been expected, to be much more complicated.

Basically, the kernel of the plan which is now being operationalised seems to have been thrashed out in Washington on 11 October, when key G7 leaders met with Dominique Strauss Kahn of the IMF, and it was decided to try and erect two great firewalls (corta fuegos) - at least as far as Europe is concerned. One of these was to be co-ordinated by the EU governments, and the other by the IMF, who were to act in the East. Both these parties essentially agreed to guarantee the banking systems in the countries for which they took responsibility, so the action, in a sense, moved from the banks (which are now, more or less "safe") to the governments and the IMF (who is ultimately backed by cash from governments), and it is the "safety" of these institutions which is likely to be more or less tested by the markets, with the first trial of strength taking place right now in Iceland.

So the big question now is, do these various institutions have the resources to back up their guarantees, should the need arise?

Problem Selling Bonds


In this context the Financial Times had a very interesting article yesterday about the fact that the Austrian government had decided to cancel a bond auction.

Austria, one of Europe’s stronger economies, cancelled a bond auction on Monday in the latest sign that European governments are facing increasing problems raising debt in the deepening credit crisis.
According to the FT article the difficulties Austria, which has a triple A credit rating, is facing only serves to highlights the extent of the deterioration in the sovereign bond market, where benchmark indicators of credit risk such as the iTraxx index hit fresh record spreads yesterday.

Austria now is the third European country to have cancelled a bond offering in the last few weeks - in the Autrian case the markets are getting more and more nervous over the exposure of some of its key banks (Erste, Raffeison) to the mounting disaster over in Eastern Europe - both Hungary and Ukraine received IMF loans this week (see below) and they certainly won't be the last.

Austria seems to have dropped its plans for a bond launch next week due to the size of the premiums (spreads) investors seemed likely to demand, although the Austrian Federal Financing Agency did not give any explanation for the decision.

Spain, which alos currently has a triple A rating, and Belgium have both cancelled bond offerings in the past month because of the market turbulence, with investors again demanding much higher interest rates than debt managers had bargained for.

So really many European governments are now facing similar problems to those their banks faced earlier, they can get finance, but only at rates which they consider to be punitively high (remember, the interest has to be paid for from somewhere, in the present recessionary climate from cuts in services more than probably, since, remember, if we look over at Eastern Europe, investors are very likely to "punish" those governments who try to go down the easy road, and run large fiscal deficits over any length of time).

Market conditions have steadily deteriorated in recent days with the best gauge to credit sentiment, the iTraxx investment grade index, which measures the cost to protect bonds against default in Europe, widening to more than 180 basis points, or a cost of €180,000 to insure €10m of debt over five years, on Monday.
This is a steep increase since only as recently as Monday of last week, when the index closed at 142 base points. Also the cost of default protection on European companies has risen to record highs this week on investor concern that the global economic slowdown will curb company profits. The Markit iTraxx Europe index of 125 companies with investment-grade ratings fell 3.5 basis points yesterday to 166.5, after hitting a record high on Monday.

The FT cites analyst warnings that the there is now a huge quantity of government debt building up in the pipeline, and the government bonds due to be issued in the fourth quarter and early next year will only add to the problems some countries are facing, and particularly those countries like Greece and Italy who already carrying large amounts of debt that needs to be refinanced or rolled over.

It has been estimated that European government bond issuance will rise to record levels of more than €1,000bn in 2009 – 30 per cent higher than 2008 – as governments seek to stimulate their economies and pay for bank recapitalisations.

The eurozone countries will raise €925bn ($1,200bn) in 2009, according to Barclays Capital. The UK, which is expected to increase its bond issuance from the current €137.5bn in the 2008-09 financial year, will take the figure above €1,000bn.


Italy, and Greece, both with a debt-to-GDP ratios of over 100 percent, are certainly the most exposed to continuing difficulties in the credit markets, (with analysts forecasting that Italy alone will need to raise €220bn in 2009). At the present time the Libyans are lending the Italian government a helping hand (and here) in struggling forward, but even oil rich Libya doesn't have the money to fund the long term needs of the Italian banking, health and pension systems.

IMF Have Only $250 Billion


On the other hand Bloomberg had an article yesterday on the growing pressure on the IMF's somewhat limited resources, as one country after another in Central and Eastern Europe joins the "consultation queue" in the hope of getting a bail out.

Bloomberg report that the cost of default protection on bonds sold by 11 emerging-market nations has now either approached or surpassed distress levels, raising the very immediate likelihood that the International Monetary Fund's ability to bailout countries may soon start to be put to the test.

Credit-default swaps on eight countries including Pakistan, Argentina and Russia have now passed the 1,000 basis points mark, the level which is normally considered to signify "distress", according to data provided by CMA Datavision. Funding one basis point on a contract protecting $10 million of debt from default for five years is equivalent to $1,000 a year.

``The resources of the IMF may not be sufficient for wider bailouts if needed,'' said Vivek Tawadey, head of credit strategy at BNP Paribas SA in London. ``If it can't raise the money, some of the more distressed emerging markets could end up defaulting.''
Ukraine, Hungary, and Iceland have already received IMF loans, while the fund is currently in "consultation" talks with Belarus, Turkey, Latvia, Serbia, Romania, Bulgaria and Pakistan, at the very least.

According to Simon Johnson, former chief economist at the fund the IMF only has up to $250 billion it can currently lend (as quoted in the Financial Times yesterday).

Credit-default swaps on Pakistan currently cost 4,412 basis points. Contracts on Argentina are at 3,650 basis points, Ukraine at 2,850, Venezuela at 2,400 and Ecuador costs 2,072. Default protection on Russia, Indonesia and Kazakhstan also costs more than 1,000 basis points, while Iceland costs 921, Latvia 850 and Vietnam 837. Contracts on Turkey cost 725 basis points.


The IMF agreed at the weekend to lend Ukraine $16.5 billion for 24 months and stated yesterday that they would contribute $12.5 billion towards a $25.5 billion loan for Hungary (with the other participants being the EU and the World Bank. Iceland got a $2 billion loan on Oct. 24 and Belarus has asked for at least $2 billion. Just how many more loans are now in the pipeline, and if the IMF does start to see its funds stretched, just who exactly is going to step up to the plate and fork the necessary money out? The sheer fact that they only put part of the cash for the Hungarian loan, and that the World Bank had to come on board with a symbolic $1 billion shows they are already aware that the problem may arise.

Update

Well just after writing this, I see from reading the FT that Gordon Brown got there just before me. Beaten by a short head!

Gordon Brown on Tuesday spearheaded calls for a multi-billion pound "bail-out fund" to prevent the global crisis spreading to more countries, and warned of the need to stabilise economies "across eastern Europe".....

The prime minister on Tuesday urged the oil-rich Gulf states and China to provide "substantial" funding to the International Monetary Fund, before flying to France for talks on an increase to the European Union's bail-out fund. The government is keen to emphasise the link between global action and domestic voters' interests, as well as portraying Mr Brown as a world leader.

The prime minister said it was "in every nation's interests and the interests of hard-working families in our country and other countries that financial contagion does not spread". While he did not rule out the UK making a contribution, he insisted the "biggest part can be played by the countries that have got the biggest [balance of payments] surpluses".

The IMF's $250bn (£158bn) bail-out fund "may not be enough" to prevent the crisis destabilising more countries, Mr Brown said. His spokesman added the UK was "looking at a figure in the hundreds of billions of dollars" for the IMF. Mr Brown called for "action on this new fund immediately".


Also, another story in Bloomberg gives us a further glimpse of how the EU governments are planning to do all that financing. The German government, it seems, is going to print IOUs (sorry, bonds) and give them directly to the banks. That is, they are not going to auction bonds and give the proceeds, they are simply giving the paper, and presumeably paying a coupon (or interest). Oh yes, and the bonds will not be sellable, since this would, of course, damage the yield curve via the supply and demand process, but they will count as debt, which means that the German government is being very naieve here (assuming the report is accurate) since of course the rise in the debt may well mean a breach of the 2011 balanced-books commitment, and falling back on this will almost inevitably have an impact on the extra implied risk investors will be looking to get paid for holding the bonds.

Germany plans to finance part of its 500 billion euro ($636 billion) bank rescue package by issuing bonds to banks in exchange for new preferred stock, according to Finance Agency head Carl Heinz Daube.

``The banks will not be allowed to sell the injected government bonds,'' Daube said in an interview in Tokyo today. ``So far there's obviously not a huge demand for any rescue measures, but this might change in the coming weeks.''

Germany's rescue plan, approved by lawmakers on Oct. 17, amounts to about 20 percent of the gross domestic product of Europe's biggest economy. Chancellor Angela Merkel's administration pledged 80 billion euros to recapitalize distressed banks, with the rest allocated to cover loan guarantees and losses.

....Hypo Real Estate Holding AG, the Munich-based lender that's already had a 50 billion euro bailout, today asked the Deutsche Bundesbank for 15 billion euros to cover short-term liquidity needs. ....Frankfurt-based Deutsche Bank AG may also need 8.9 billion euros of new capital, more than any bank in Europe, Merrill Lynch & Co. analysts Stuart Graham and Alexander Tsirigotis wrote on Oct. 20.

The bailout plan is still being discussed in Berlin and more information will probably be released at the end of this week, Daube said.

Germany may meet additional funding needs for its bank rescue by selling six-month bills before examining options for borrowing using longer-term securities, Daube said. The government plans to offer between 212 billion euros and 215 billion euros of debt through its 2009 program, about the same as the 213 billion euros scheduled for this year.

The debt-for-equity swap will probably have ``next to no effect'' on the country's yield curve because the notes offered to banks won't trade in the so-called secondary market, he said. The yield curve plots the rates of government bonds according to their maturities, and increases indicate higher borrowing costs.

``The government deficit of course will increase, the outstanding volume of bonds will increase as well,'' Daube said. ``The number of outstanding bonds available in the secondary market will stay exactly the same.''


Gentlemen, we are out of our depth here.


Second Update: More On Greece


Greece was the only country in the eurozone to exceed the budget-deficit limit last year, following an upward revision of the Greek figure based on new "updated data" for taxes, social security and other items.

The budget shortfall amounted to 3.5 percent of gross domestic product, according to Eurostat, revising up an earlier estimate of 2.8 percent. Under European Union fiscal rules, governments must keep the deficit within a limit of 3 percent of GDP.

The Greek government recently escaped the threat of EU disciplinary action over its deficit after faster economic growth helped it cut the shortfall to below the EU ceiling. The European Commission, the EU executive in Brussels, in May said Greece's deficit-cutting efforts were "credible and sustainable.'' The commission called the latest revised 2007 figure "regrettable".

The statistics office said the revision was ``due to updated data for taxes, hospitals, social security, changes in the balance of Treasury Accounts at the Central Bank, changes in the recording of the transactions with the EU budget and improved coverage of extra-budgetary bodies.'' The office also revised the 2006 deficit, to 2.8 percent from 2.6 percent.

The Greek government said Oct. 6 that new taxes will help shrink the budget shortfall to 2.3 percent of GDP this year and 1.8 percent in 2009 even as economic growth slows to 3 percent. The cooling economy and lagging tax-revenue collection undermined the government's plan to trim the deficit to 1.6 percent this year.


The EU four years ago launched an investigation into Greece's deficit after a revision of budget data revealed that, contrary to previous indications, the shortfall had exceeded the 3 percent ceiling ever since the country switched to the euro in 2001. The budget gap reached a euro-area record 7.5 percent in 2004, boosted by costs for the Olympic Games in Athens.



The commission warned last week that EU governments should make sure the financial crisis and bank-rescue operations don't push their budget deficits beyond the EU limit. Greece's biggest banks, including National Bank of Greece SA, recently agreed to take part in a 28 billion-euro ($38 billion) government proposal to protect the industry by loan guarantees and other measures. Greek banks have recently expanded into Romania, Bulgaria, Serbia, Turkey, Poland and Ukraine in an attempt to tap growth in what were thought to be relatively underbanked markets, but of course now such expansion could become a major liability.

Update Monday 3 November

The Financial Times are reporting today that Portugal’s government have announced plans to nationalise a Portuguese bank that has run up accumulated losses of €700m ($891m, £554m) and faces an “imminent breakdown” of its ability to meet payments. The government also said it would also make up to €4bn available to Portuguese banks to strengthen their capital ratios, in line with the state-backed recapitalisation programmes recently announced in several other countries. The funds would be provided in the form of preference shares.


Fernando Teixeira dos Santos, finance minister, said he had rejected proposals by Banco Português de Negócios, a small universal bank, for a government-backed rescue because it was not in the best interests of taxpayers. He said the government had decided instead to nationalise the bank, which has net assets of about €8bn, to ensure depositors were fully protected.

Friday, October 24, 2008

Spain's Unemployment Hits 4 Year High In The Third Quarter of 2008

Spanish unemployment hit a four-year high in the third quarter of this year as tens of thousands of jobs are lost every month as the decade-long housing boom comes to an end.

According to data published today (Friday) by Spain's National Statistics Institute, the jobless rate rose to 11.33% in the third quarter from 10.44% in the second quarter. Lest we get confused here, there are two different systems for collecting data, one a monthly labour survey (based on interviews) on the basis of which the quarterly reports are prepared, and which go into the National Accounts (for GDP measurement purposes) and the monthly report from the Labour Office (or INEM). In some ways the latter give a better day to day comparison of the evolution of jobless trends, and the next one of those will be out at the start of November.

In their accompanying statement, INE said that 78,800 jobs were lost in Spain during the three months to Sept. 30. The INE also said 164,300 jobs had been lost since September of last year, and this was the first time the total number of jobs had declined on an annual basis since 1994.

Until the financial crisis began in August of last year, Spain had been one of Europe's engines of economic growth and job creation. Largely thanks to a massive home-building boom, the eurozone's fourth largest economy created over a third of all new jobs (and consumed more cement than any other single member country) in the single-currency area over the last decade.

This boom allowed Spain's historically high unemployment rate to fall to just under 7.95% in the second quarter of 2007. But as the housing boom has slowed (from January 2007) and then collapsed following the onset of the global financial crisis all this has changed. With home sales and new home starts now in free fall, the INE said 354,000 construction sector jobs were lost in the third quarter from the same period a year earlier.

According to internationally comparable monthly data released on Oct. 1 by Eurostat - the European Union's statistics coordinator - Spain had an 11.3% unemployment rate in August, the highest among the European Union's 27 member countries.

The International Monetary Fund earlier this month forecast Spanish gross domestic product will grow by 1.4% in 2008 and contract by 0.2% in 2009 after growing by 3.7% in 2007. My own view is that both the 2008 and the 2009 numbers are rather high given the pace of the contraction that we are seeing in the second half of the year, but still, at least they are in the right ballpark, which is more than can be said about the numbers we have been receiving from the Spanish government itself, where perhaps the most polite thing one can do is avoid mentioning them.

Bad Debts Rising

And as the unemployment goes up, so do the bad debts. Non-performing loans at the Valencia-based savings bank Caja de Ahorros del Mediterraneo (CAM) more than tripled to 3.2 percent in September from 1 percent a year earlier following the collapse of Spain's coastal construction and property boom. Spain's only publicly traded savings bank, CAM said yesterday (Thursday) that it faced complex financial conditions but still managed to report a 5 percent increase in net profit (to 301.5 million euros - $387.6 million) in the nine months to September. Savings banks in Spain's Mediterranean region lent heavily to real estate and construction companies during the boom, and these which now account for over 25 percent of all loan defaults as house sales and prices fall.

According to their quarterly report earlier this week, bad loans ratio at Banco Popular rose to 2.19 percent from 1.42 percent at the end of the first half, when Popular had said it expected a rise to 2-2.25 percent by year-end.

Heavy Truck Sales Fall Through The Floor


European heavy-truck sales fell 4.8 percent last month as the ongoing credit crisis and rising concern about the depth and duration of the coming recession continues to deter companies from expanding their fleets.

Manufacturers sold 28,947 trucks weighing 16 metric tons or more in September compared with 30,403 a year earlier, the Brussels-based European Automobile Manufacturers Association said in a statement today. Nine-month deliveries rose 3.5 percent to 250,580 vehicles.

Heavy-truck sales fell the most in southern and eastern Europe, led (yep, you got it) by Spain with a whopping 50 percent slide and Italy, the third-largest European market, with an 18 percent decline. Registrations in eastern Europe plunged 28 percent to 3,660 vehicles last month. Among the bigger countries in Europe, only Germany and the U.K. posted gains.

Monday, October 20, 2008

Reyal Urbis Refinances

According to a Reuters report this morning, Spanish real estate company Reyal Urbis have reported this morning reaching a deal with creditors to refinance debt of 3.006 billion euros ($4.05 billion). In a statement to the stock exchange regulator, the firm said it had obtained two new credit lines which gave the company "the necessary liquidity for its operative management.

The new deal refinances two syndicated loans signed in 2005 and 2006 in addition to other loans and debt issues, said the company. Under the new financing terms, the company has postponed its first payment on the debt until October 2011 and signed up to twice-yearly payments after that date until 2015, when it will have to pay off the remaining 40 percent of the debt.

Reyal Urbis said it had provided additional debt guarantees against stakes, shares and mortgages. Like other Spanish real estate companies, Reyal Urbis is facing increasing pressure to meet growing debt payments as its revenue shrinks and asset values drop in Spain's property crisis.

One of Spain's largest developers, formed through the merger of Urbis and Reyal in 2007, Reyal Urbis said it had net debt of 5.5 billion euros when it reported its first-half results.

So basically, we are displacing the problem forward to 2011, which promises to be a very complicated year indeed if many more developers are able to get similar refinancing deals following the recent collective bank bailout. Obviously by that point we will not only have all the existing debt to think about, but also all the additional interest charges incurred in the meantime.

Saturday, October 18, 2008

Training Session on the Spanish Bank Bailout Plan

Keynes, however, once semi-seriously proposed, as an anti-deflationary measure, that the government fill bottles with currency and bury them in mine shafts to be dug up by the public.
Ben Bernanke, Deflation: Making Sure "It" Doesn't Happen Here
Many of the macro-economic fundamentals of Spain today are very different from those of ten or fifteen years ago...........A lot of factors look better this time around. Compared to its history, Spain has low interest rates, low unemployment and a strong fiscal position........the 2007 levels of government debt, unemployment and interest rates are about half the level of 1993. Equally, a lot of factors related to debt levels, housing and bank funding are worse versus the last downturn. For instance, the relative size of mortgage debt or total private sector debt to GDP, or the size of the construction sector to GDP, were all about 60% bigger in 2007 than in 1993. As was the bank system’s loan-to-deposit ratio. And the housing PE has expanded almost as much. So when Spanish bank management’s argue that the world today is not like the early 1990s, they are right: some things are better, but others are worse. As Mark Twain noted many years ago, history may not repeat itself but it does rhyme.
Spanish Banks, How Bad Can It Get? - Citigroup, September 2008

As I suggest in the title, the contents of this post resembles more an online training session about how the recent proposals to refloat and reinforce the Spanish banking sector may work out in practice than a conventional blog post, but still, this is the weekend, and at weekends, as well as all that interminable football, hiking and tapas snacks in bars, people are supposed to enjoy complementary and value-enhancing activites like going on courses, aren't they? So why don't we have a try. But remember, this topic is only for those with the sternest of stomachs, and the greatest of abilities to find - now what was the word Krugman recently used, ah yes, beauty - in that otherwise most arid of landscapes, the world of financial book-keeping.

So, as is the custom in all good training sessions, let's all start by watching a video, just to get us in the mood, and into the swing of things as it were. I think after the viewing what follows may be a lot more digestable, and certainly it should be more comprehennsible. (The version is conveniently supplied with substitles in Castellano the benefit of any Spanish speaking readers who might drop by).


Friday, October 17, 2008

Spanish Bad Loans Jump In August

Well, with all the serious heavy duty material we have floating about at the moment, day-to-day macroeconomic details seem almost boring and trivial in comparison. This, however, is far from being the case, since in the short term it is likely that the financial crisis drops back to the rear seat again, while the real economy (recession etc) jumps to lead position. So, for what it is worth, here we go.

Bad Loans Continue To Rise


Bad loans held by Spanish banks jumped 256 percent in the 12 months to August, according to data from the Bank of Spain on Friday.

Bad loans totalled 43.359 billion euros in August, or 2.44 percent of total lending, up 5.325 billion euros from July. The data wcovered both commercial banks and regional savings banks controlled by regional governments. In the months prior to the summer, bad debts were rising at a rate of around 3 billion euros a month, but in July they jumped by 9.6 billion euros largely due to the impact of the insolvency of property company Martinsa Fadesa

Quote of the Day

We face difficult times for public finances, European Union Economic and Monetary Affairs Commissioner Joaquin Almunia said on Friday at a presentation.


Services Activity Down Again In August

In August, the Services Sector turnover decrease by 4.6% compared with August 2007. All sectors of the service industry decreased their turnover in interannual terms. Trade registered the greatest decrease, with an interannual rate of -5.9%, followed by Information Technologies ( 2.7%), Tourism (-2.3%), Transport (-1.6%) and Services rendered to companies (-0.9). The activities with the highest turnover growth were Air Transport and Investigation and security services (debt collection?), whose interannual growth rates were 7.3% and 7.0%, respectively. On the other hand, the greatest turnover decreases were registered in activities related with Vehicles and Fuel (-22.7%) and Labour recruitment and provision of personnel (-11.0%).



Conditions in the Spanish service sector appear to have worsened considerably in September. There were substantial declines in activity, new business and employment. Spanish companies were generally highly pessimistic about their prospects over the next twelve months, with the seasonally adjusted Markit Business Activity Index, registering 36.1 in September, down from 39.0 in August.





More Developers Fall


Two leading developers in Catalonia, Restaura SL (part of the Restaura Group) and Strength, have been forced to seek court protection from their creditors. Restaura SL, specialises in buying, refurbishing and reselling residential buildings in prime city locations, primarily in Barcelona. It has bought and refurbished some of Barcelona’s landmark historic buildings, for example on the corner of Paseo de Gracia and Gran Via. Many of its clients are international investors.

The company, which has debts of 237 million Euros spread between half a dozen banks and savings banks, is part of the Restaura Group, which has debts of 1.6 billion Euros. According to the Spanish press, industry sources are not ruling out insolvency proceedings for other parts of the Restaura Group, including the parent company.


Construction Continued To Decline In August


Well, surprising as it may seem, according to the latest data from Eurostat, construction output was actually up in Spain in August - by 1.4% over July. This is perhaps not as incredible as it sounds, since total output is the sum total of private construction and civil engineering, and the latter was evidently up considerably in August, partly as a result of the application of the government 20 billion euro stimulus programme. Also, housing activity remains strong while already started buildings are completed. It is from September (perhaps) and especially as we get into 2009 that we should expect to see the full weight of the slowdown. Year on year of course, output was down by 8.4%, although this is still much less than the interannual drop of 15.9% registered in July.



According to the Eurostat data among the Member States for which data was provided for August 2008, construction output rose in nine countries and fell in four. The highest interannual increases were recorded in Romania (+28.5%), Slovakia (+10.4%) and Slovenia (+9.3%), and the largest decreases in Spain (-8.4%) and Portugal (-6.3%). Building construction decreased by 2.2% in the euro area and by 1.2% in the EU27, after -3.2% and -1.7% respectively in July. Civil engineering fell by 2.2% in the euro area and by 1.5% in the EU27, after -4.4% and -1.4% respectively in the previous month.




On an month on month basis (over July 2008) construction output rose in six countries and fell in seven. The most significant increases were registered in Germany (+5.5%), Romania (+2.4%) and Spain (+1.4%), and the largest decreases in Portugal (-6.6%), Slovenia (-4.9%) and Bulgaria (-4.7%). Building construction grew by 0.3% in the euro area and by 0.1% in the EU27, after 0.0% and -0.8% respectively in July. Civil engineering increased by 1.3% in the euro area but decreased by 0.7% in the EU27, after -0.8% and -0.1% respectively in the previous month.

Tuesday, October 14, 2008

Some Reflections On The Plan As The Details Emerge

``It was the president of the European Central Bank who urged governments to take measures to help in financing and in some cases recapitalizing financial institutions,'' Zapatero said at a press conference in Paris today. ``We don't need to do this at the moment but if we do need to we will.''
Well, despite Zpt's "don't blame me, blame Trichet" speak, the plan has been introduced and we are starting to see some numbers, although we are still a long way short of getting actual drill-down details of what is involved, and how it is going to be financed, so apart from being mind-boggling, the numbers we are being offered are, in fact, almost meaningless. Take an ´x´ and attach a lot of zeros to it, 'x' can range from one to a trillion. Or put another way "I'm trumping you, now let's see if you can trump me". But, for what it is worth, AP are saying this:

European governments overcame their differences to put $2.3 trillion on the line
Monday in guarantees and other emergency measures to save the banking system in their most unified response yet to the global financial crisis.

Now $2.3 trillion does sound like quite a lot, so it would be interesting to know just how the number had been arrived at - other than asking "what looks so big that no one will dare say it doesn't seem to be enough - I mean, are there anything vaguely resembling detailed studies, and breakdowns lying behind all this? Only a thought. Anyway, according to the AP report about 250 billion euros ($341 billion) of the European pledges (I like that word, like in a charity auction) was earmarked to be spent on recapitalizing banks by buying stakes - but again we have no breakdown of who is doing what on this front.


The German package alone is said to be worth as much as 500 billion euros ($671 billion) - well, you know, they are thorough the Germans.

"We are taking drastic action, no question about it ... so that what we have experienced is not repeated," German Chancellor Angela Merkel told reporters.

Chancellor Angela Merkel's government has "pledged" 400 billion euros in loan guarantees, plus as much as 80 billion euros to recapitalize banks in distress and another 20 billion euros in the budget to cover potential losses from loans. The total value of the rescue package will amount to about 20 percent of German gross domestic product. The plan, which was agreed to by the German cabinet yesterday but will have to go through parliament for final approval, includes, among other provisions, reforms of Germany’s lending, insurance supervisory and insolvency laws.

The French government has "pledged" to provide up to 360 billion euros to help banks, 320 billion euros in guarantees for bank refinancing and 40 billion for bank capital injection, and the Netherlands will put up 198 billion euros in interbank loan guarantees, which will be added to the 23 billion euro fund set up last week to help financial institutions like Fortis. The Austrian government will set up an 85 billion-euro clearing house to be run by the Austrian Kontrollbank and this will provide cash by holding illiquid bank assets as collateral. Austria also "pledged" to buy banking shares if and when domestic financial institutions seek to sell new stock. It should not escape out notice that the Austrian stock market was temporarily closed last Friday afternoon after a rout of the Austrian banking sector (and particularly Erste Bank) which is especially exposed in Eastern Europe. In fact Austrian shares are down this year more than any others in the Eurozone in recent months.

Italy will guarantee some bank debt and buy preferred stock in banks if necessary, according to Finance Minister Giulio Tremonti , but he did not provide figures (which is hardly surprising given that if Italy is to avoid problems with the credit ratings agencies it has very little money indeed to spend without making direct cuts in services). Tremonti limited himself to saying that Italy would put forward "as much is necessary'' to shore up the country's banking system, and that the government was going to act on a case by case basis. Portugal has guaranteed $27 billion - or nearly 12 percent of annual GDP - in an attempt to encourage banks to lend to each other.

Spain's cabinet have approved measures to guarantee as much as 100 billion euros of bank debt this year (to be followed by an unspecified further amount next year) and authorized the government to buy shares in banks in need of capital. Prime Minister Jose Luis Rodriguez Zapatero was at pains to stress that no banks needed additional capital now and the measure was ``preventative and precautionary.'' As far as I can see a significant part of the money Spain is allocating will be used to buy up Cedulas Hipotecarias and other financial instruments which are due for "rollover" in the months to come.


Looked At In The Cold Light Of Day

Having now had the opportunity to sleep on all this overnight (always a good thing to do when taking decisions about important matters I feel) I still think (obviously) that Europe's leaders have done what had to be done, even if the weaknesses in what has been decided now do seem a lot clearer in the cold hard light of day (although, as I was at pains to stress yesterday, they probably couldn't have done much more at this point in any event). The numbers need to be to some extent vague (we wouldn't want to set the credit ratings agencies off looking too hard into the fiscal implications of everything just yet, now would we), and in any event waht is being offered is a guarantee, which it is hoped may never actually be called on. So rather than announcing the extent of their actual immediate involvement, what they have tried to do is put a limit on how far they are willing to go, in the hope that this quantity will be just too much for anyone in their right mind to try to bet against.

However, this kind of underwriting process is, by its very nature, open to all sorts of uses, and abuses.

To take just one immediate example, Banco Santander have this morning announced that they are taking over the 75% they didn't already own of the US-based Philadelphia-thrift Sovereign Bancorp - for some $1.9 billion. They already had a 25 percent stake in Sovereign and will now buy up the remainder in exchange for their own stock. Sovereign Bancorp has received a drubbing in the stockmarkets due to rising mortgage delinquencies as the US housing market has tumbled. Its stock has lost nearly two-thirds of its value in the year to date, and clearly given the money Paulson is offering may well look attractively priced as the US housing market steadies up. The question is, would Santander have felt in a position to make this acquisition before last Saturday's decision? There is no clear answer to this question, but it is a point at least worth bearing in mind.

The second example that comes into my (Barcelona based) head is a the sudden rum-rum of builders cranes and drills that I can hear in the streets around me, after weeks of what seemed like ominous silence. Is it only in my district, or are builders all over Spain now going back to work, following a sudden availability of loan extensions and overdraft rollovers from the banking sector? I know Zpt said we wanted to ease up the liquidity seize-up in the small business sector, but did it have to be precisely these small business that had their credit "eased up" (and not other, more currently relevant ones)? Bluntly put, what is the point of spending what are effectively scarce resources (and at the end of the day taxpayers money) building more houses, when there are already at least a million you still can't sell!

Now.... in the Santander case the point is, with loans and debts guaranteed at home, and Spanish property prices set to take a beating, why not buy up cheap US banks where the house prices are probably already near their bottom? But this is hardly what the average Spanish taxpayer thought they were giving the green light to. However, once you give a blanket underwrite to the banking sector, there is really little you can do to stop this, since banks are commercial enterprises, and have to do what is best for them and their shareholders. All of this has already come up in the context of the notorious Irish "excesses" in accessing ECB funding, and in - for example - the McQuarrie proposal (subsequently dropped) to take paper backed by Australian car loans over for presentation at the Irish central bank.

And in the "bailing out the builders" case, the position is even more scandalous, since what we really need on the table at this point is a plan to downsize the sector, and close down at least half the industry (compensating on the way the banks for some of their losses, since if not...), not a lease of life to what are already effectively the living dead. Spanish construction currently represent 11% of GDP. On any rational criteria, the most that can be hoped for 3 years from now is 5.5 % - 6%, and it is not unlikely given the excess of building we have had recently that we may be down to 3.5% to 4% (which is the level to be found, for example, in Germany).

So let us be clear, this whole package is a "lesser evil" situation. The greater evil would be a banking sector which went bust, with all the attendant consequences. But even though it is a lesser evil, there clearly are limits to what is acceptable, and someone should be policing all this, if for no other reason than to protect the hard earned contributions of the average Spanish taxpayer.

But, we also need to be clear, that this is just a first move. The banks are now "as safe as houses", and the bloodletting has stopped. But it is now essential that we use the breathing space which this provides to address the structural problems in the real economy, which are going to be large. Spain is about to go into the most serious recession in living memory, and there are two important groups of people who are not protected at this point: the builders and the private mortgage holders.

Both groups are now going to find themselves flooded with unsupportable demands on their finances. The former since there is now less than half the market there was for their product, and the latter because the value of what they own is going to fall, while their debt isn't. Simply issuing government debt to pay builders for housing which no one is going to be able to buy at cost price is no solution, one day or another the government will run out of the ability to issue debt. If the government issues debt it should be to save those construction companies which are "systemic", and viable over a longer term horizon, and to close down the rest. But to do this we need a realistic study of the future of the industry, and of what will, and what will not be viable. But where is this study?

And meantime the taxpayers money keeps flowing.

On the other front, the private household one, we need to think of all those young two-earner families who are already finding themselves in considerable difficulty paying their mortgages, and who may soon find that one or other of the wage-earners is out of work as the recession starts to really bite, and while the INEM unemployment payments may help for a year or so, what happens after that? I mean, we need to be clear, we are digging in for a long winter here.

So the next steps need to be a plan for downsizing permanently the construction industry, and some provision for "distressed" mortgage holders, just like we have been seeing in the US really.

And the big question is that all of this will cost money, and money is going to be in short supply in Spain over the next few years - especially if we are thinking of paying down the external debt, which we have to be really - and so we wend our way back upstream to the banks, and to the European support.

"I am not sure as you are that the plan is global. In the sense that if for
example a big spanish bank would default, that the german will use their
taxpayer money to refloat it." - from comments.



Well look, I agree with the comment above to the extent that nothing has been clearly spelt out, and what I think we may well see is a game of playing "chicken" here. I mean by this that, in the event that talking turns out to have been easier than acting, Spain no doubt will end up threatening that a systemic bank is about to go, and do this all the way up to the brink, and up to the point that the others feel they have no alternative but to provide support. Actually, Spanish politicians may be quite useless when it comes to some things (like being proactive rather than reactive) but this is a game they seem to excell at, so I suspect that they will find themselves in their element here, and I think they will get a result. Any going back on the committment not to let a systemic bank fail would have important consequences for the whole eurozone, and I will not say more than that at this point.

"Spain is making available euro 50bn. So Spanish cedulas are more of a problem!!
Now what is interesting is that the spanish plan makes euro 100bn "aval"
available until the end of 2008. So we will probably need more for 2009." - from comments

Well, yes, this is about the size of the problem. What they are hoping is that they can "restart" the economy in 2009, but I think this is a pipedream. We may well need this sort of funding every year as the securities are rolled over all the way through to 2012 and beyond. I doubt there is going to be any important wholesale market in Spanish RMBS-type paper before the correction is over, and this has all the hallmarks now of being a very long drawn out affair.

One of the main advantages of a Schumpeter-style "creative destruction" process, is that it is nasty, brutish, but short, and after everything has crashed you can briskly get on with the rebound. Spain's process is likely to be much longer than in either the US or Ireland, since property prices have been much slower to fall, and builders are not being allowed to go bust in any sizeable numbers, yet. But until house prices fall the market will not "bottom", people will not start buying again and the whole process cannot restart.

So we won't "bottom" here until much later than the UK and Ireland, and there will be no significant RMBS market till we do bottom. I mean, I think people have missed the very important point that the German Pfandebriefe, on which the cedulas were modelled, were introduced as part of the POST 1995 rescue package and bank bailout, AFTER property prices had already dropped, thus, since prices had already fallen (and in Germany property prices have been stuck more or less at this level since) these securities were "safe as houses" since the underlying asset was essentially stable.

"The major diference in point of views: some thougth the Spanish banks had only
a liquidity problem, others insisted on a solvency problem." - from comments


This point is very interesting, since this debate is obviously raging inside Spain at this moment. Personally I would say that the two points of view are valid, in the sense that what we have now (and have had since Sept 2007) is a liquidity problem in the banking sector. But what we will have when property prices drop and builders go bust is a solvency problem. So both views are correct, and the only thing we need to get straight to understand the difference between them is the timing involved.

As I keep stressing one of the points we should never lose sight of here are the implications of all this for the real economy. In only the latest example of such impacts Japanese automaker Nissan yesterday announced it was going to cut 1,680 jobs here in Barcelona, as the economic downturn across Europe has weakened demand for its larger 4X4 vehicles and trucks.




Update Wednesday 15 October

As I keep stressing one of the clear implications of last weekends decision is that fiscal policy will come under pressure, since the various respective governments are going to have to assume more debt, and it isn't obvious where the money is going to come from.

Ireland Takes The Lead


Ireland has been one of the first countries to actually come clean, and has announced that it intends to abandon European Union fiscal rules next year. The Dublin government is projecting Ireland's largest budget deficit in 20 years, as the economy slows under the weight of a housing slump and the international credit crunch. Announcing the budget for 2009, Brian Lenihan, finance minister, said the general government deficit would be "just above €12bn" next year, or 6.5 per cent of gross domestic product.

Under the current stability and growth pact rules, countries have to keep borrowing to less than 3 per cent of GDP through the economic cycle. Brian Lenihan said the "the international credit crisis has compounded and deepened the downturn in our construction sector and led to a fall off in consumer ­confidence".

Irish public finances, which had been in surplus for nine of the past 10 years, have now deteriorated by 7 percentage points. Ireland's finance minister projected that economic output would contract by a further 1 per cent next year, after a 1.5 per cent decine this year. Public debt is now set to rise from 25 per cent of GDP - one of the lowest rates in the European Union - to 44 per cent next year.

The worsening state of the public finances comes amid growing expectations that Dublin will also need to follow other EU governments and inject capital into its banking sector, adding further to public debt. Two weeks ago Ireland offered to guarantee the liabilities of its banks, but it is notable how Irish bank shares have generally failed to benefit from the price lift across Europe this week, so it now looks as if some form of recapitalisation or other will be unavoidable.

In the first official hint that equity injections by the government might be on
the cards, Pat Neary, the Irish regulator, told a parliamentary committee on
Tuesday that "the rules of the game are changing internationally". He
said: "Market expectations could push other banks to seek equity injections,
irrespective of whether or not they continue to meet their regulatory
requirements".


With the Irish construction boom over, Christopher Wheeler of NCB stockbrokers calculates the collective bad debt charge of the three main Irish banks could reach 350 basis points of average loans in 2009 and 2010. He calculates the banks would need €14bn ($19bn, £11bn) of new equity to achieve a core tier one capital ratio of 9 per cent. This would put them broadly in line with UK banks under London's recapitalisation scheme.


And Greece Follows Close Behind

The Greek govenment has decided to issue additional treasury bonds, and is prepared to buy shares in banks to help support lenders and contain the impact of the credit crunch on the real economy, according to an announcement from Greece's finance minister earlier today (Wednesday).

"We will issue up to 8 billion euros ($10.93 billion) in bonds to support banks
... and are prepared to strengthen banks via share purchases up to 5 billion
euros,"


And Greece's central bank governor also warned today that the capital adequacy of the country's banks would likely decline due to the current world-wide credit crisis.

"According to rough calculations, this year, towards the end of the year and early next year, Greek bank capital adequacy is likely to drop somewhat due to the crisis," George Provopoulos told reporters.



The sum of 28 billion euros ($38 billion) pledged in support measures amounts to 11.4% of Greek GDP according to the finance minister.

"With a combination of state guarantees, state participation and increased liquidity that can reach 28 billion euros we will help the banking system to overcome the credit crunch," Finance Minister George Alogoskoufis told reporters after a cabinet meeting.


Under the plan, the government is prepared to boost the capital of Greek banks by up to 5.0 billion euros by buying preferred shares with voting rights. The government also vowed to guarantee up to 15 billion euros of capital market loans by banks and stands ready to issue 8.0 billion euros (about 3.5% of GDP) of special bonds to be able to inject liquidity into banks.

So the Greek govenment is also to issue new debt to support its banks, in addition to any fiscal deficit it may already be running to offset the economic downturn. Of course the Greek government (debt to GDP ratio just over 100%) can issue the bonds, but it is far from clear how enthusiastic the financial markets are actualy going to be to buy them from a country which is also running a current account deficit of 13% of GDP.

Portugal Also Announces Revisions To Growth And Deficit Plans

Portugal’s government also announced today that it expects a sharp drop in economic growth and has put plans to continue bringing its budget deficit into line with EU rules on hold in its budget proposals for 2009. Fernando Teixeira Santos, finance minister, said today that economic growth was expected to drop to to a 0.8 percent annual rate this year and 0.6 percent in 2009. This is down from previous government forecasts of 1.5 and 2 per cent respectively.

The 2009 budget deficit target is being set at 2.2 per cent of gross domestic product, unchanged from 2008. The government had previously agreed with the European Commission to cut the deficit to 1.5 per cent of GDP next year as part of the ongoing adjustment. The new target marks the postponement of what have been largely successful efforts to cut an earlier substantial budget deficit, which had spiralled to 6.8 per cent of GDP in 2004. This breach of the rules is really quite minor at this point, and, although Portugal suffers from congenitally weak growth, and has a 9% of GDP current account deficit, a major recessionary slump in output (Spanish style) is not expected.


Zapatero Forsees Bank Restructuring On The Horizon

Bank mergers are likely in Spain and other European countries due to the international financial crisis, Spanish Prime Minister Jose Luis Rodriguez Zapatero said earlier today.

"During a serious crisis like this, it's likely that not only in Spain but also
in other European countries, you will see mergers or restructurings," Zapatero
said during a session of Congress.


Car Sales Down

European new vehicle registrations fell 8.2 percent year-on-year in September despite two extra working days, as the fall-out from the financial crisis "hits auto manufacturers hard," vehicle manufacturers' association ACEA said.

The credit crunch is evidently hurting the automotive sector's ability to finance its daily operations. Demand for new cars is weakening, and customers are increasingly reluctant to make large purchases, or unable to find lenders willing to finance them, according to ACEA.

Registrations for the 27 European Union member states (EU27) and EFTA countries, which ACEA said include Bulgaria and Romania and exclude Malta and Cyprus, totalled 1,304,583 units, the lowest September level since 1998, ACEA said.

"Usually, September is a strong month for car sales that tend to pick up after
the calmer summer months," ACEA said, noting that over the first nine months of
the year, sales for the region were down 4.4 percent.


Western European markets saw new registrations fall 9.3 percent compared with September 2007, to 1,211,308 units. Among these, the French and German markets resisted best, with France growing 8.4 percent after a 7.1 percent drop in August, while Germany's September sales edged down just 1.5 percent after falling 10.4 percent in August.

The steepest declines were in the UK market, where sales fell 21.2 percent, and in Spain, down 32.2 percent. Italy was down 5.5 percent.

The new European member states saw growth of 7.8 percent in September, with 93,275 vehicles registered.

Monday, October 13, 2008

Europe's Leaders Agree To A Common Front In Fighting The Banking Crisis

Well, Europe's leaders have finally bitten the bullet. Faced with what IMF head Dominique Strauss Kahn warned could turn into a global financial meltdown, our leaders have risen to the challenge, at least to a certain extent. The details of what has been agreed continue to remain vague, but obviously I think it is a good FIRST move. More will now almost inevitably follow, but our reluctant leaders have finally got their feet wet, and the bathing costume is on. Now it is only left for them to dive into the ocean which lies in front.

And, of course, the situation was not without its theatricals. Initially billed as a "eurozone only" meet-up, Gordon Brown was ultimately summoned, a move which was not totally essential, but since he was the only one with a real "going plan" on the table, the invitation made sense. Of course Brown himself has been relishing it all, proudly proclaining that Britain will "lead the way" out of the credit crunch, and adding in true Churchilian style that "I've seen in the cities and towns I've visited a calm, determined British spirit; that, while this is a world financial crisis that has started from America, Britain will lead the way in pulling through."

Well, we will see.

While the details at present remain vague the important point would seem to be that Europe's leaders have made a commitment not to allow any systemic bank - in Western Europe (the guarantee does not extent to Hungary which today had to turn to the IMF for support) - to go bust, and it will now be hard for them to go back on this without losing all credibility. The deposit guarantees - which may be useful in terms of reassuring the general public - would now seem to be largely redundant, since if the large banks, and their debts, are to be guaranteed, then logically the deposits themselves are safe. And while Europe itself will underwrite the systemic banks, the national governments will be able to handle the smaller ones (Spain's regional cajas etc) at local level.

So government finances will guarantee the banks, but who will guarantee the government finances? This, at this stage may seem to be an idle question, since none are under direct threat, but I think we need to be clear here, the money which will now need to be spent - and it is way too early to start trying to put precise numbers - will have to come from somewhere, and by and large this will mean the national governments issuing debt, but if we come to individual national governments like Greece or Italy - where debt to GDP ratios are already over 100% - it is not clear how much paper they can actually issue without seeing what is know as the "spread" on their bonds increasing significantly. So while it is certainly time to breath a sigh of relief, we we far from being able to whistle the all clear. And of course the real economy consequences of what has just happened are pretty serious, and the funds which will be spent propping up the banks will not be available for fiscal stimulas packages, so the bottom line is that we, in the OECD world, may well be in for one of the longest and deepest recessions since WWII.


The Package Itself

Now, as I say, the details we have to date of what has been agreed are far from clear. What is clear is that the EU collectively has agreed to guarantee new bank debt in the eurozone (and possibly elsewhere, but this point still awaits clarification, since as I say the guarantee evidently doesn't apply to Hungary, and that should give us some sort of idea about just how strained everything is at the moment). They are also committed to the use of taxpayers money to keep any systemic banks which get into distress afloat, and by implication they are prepared to pool resources to do this (maybe by injecting funds into the ECB as the UK has pledged to do for the Bank of England). This is also a very important precedent: since the European institutional structure is something of a patchwork quilt at this point, it is clearly make, mend and improvise time.

Wolfgang Munchau clearly seems to catch the spirit of the times in a long and thoughtful article in the Financial Times this morning:

"I had a better feeling about Sunday’s eurozone summit. It produced a detailed and co-ordinated national response to recapitalise the banking system, and to provide insurance to revive the inter-banking market. But as far as I could ascertain, this was still agreement on ground rules for national plans, and it is not clear how well this agreement would cover the numerous cross-border issues that have arisen. There is no doubt that, in the eurozone at least, we have come a long way since Friday. It is an okay policy response, but I wonder whether this is going far enough at a time when global investors are pondering whether to pull the big plug."


Well look Wolfgang, my favourite phrase these days is "sufficient unto the day", we have come as far as we are able to come in one weekend. There will still be next weekend, and the one after. Clearly we have not come far enough yet, but as Paul Newman discovered in a once famous film, there are only so many hard boiled eggs you can eat in one sitting.


The key measures announced at the weekend were: a pledge to guarantee until the end of 2009 bank debt issues with maturities up to five years; permission for governments to buy bank stakes; and a commitment to recapitalize what the statement called `"systemically'' critical banks in distress. The statement gave no indication of how much governments were willing to spend or the size of bank assets deemed to be at risk, and European officials refused to estimate the price tag of the measures. Some indication of the numbers involved will start to emerge today, when France, Germany, Italy and others begin to announce their national measures.

"What has been done over the last three days should provide elements of reassurance,'' Dominique Strauss-Kahn, chief of the International Monetary Fund said on French radio Europe 1 today. The worst of the financial crisis ``may be behind us.''


Often criticized for its preoccupation with inflation, the European Central Bank abruptly reversed course last week, cutting interest rates for the first time since 2003 in a move coordinated with the U.S. Federal Reserve and four other central banks. The ECB doesn't have the legal power at the moment to follow the Federal Reserve and buy commercial paper to unblock a financing tool that drives everyday commerce for many businesses, according President Jean-Claude Trichet, who also participated in yesterday's Paris meeting.


``We are looking at our entire system of guarantees and we can imagine new measures to enlarge access to our system of guarantees,'' Trichet said.


As Wolfgang Munchau points out, there is now an almost unanimous consensus among economists about the need for a recapitalisation of the banking system, and for the provision of some form of public-sector insurance for the money markets, even if there is no consensus about how exactly to do this. We should not forget, of course, that it was precisely the practice of offering guarantees - via instruments like credit default swaps - for what appeared at the outset to be investment grade lending but which later turned out to be extremely risky that has produced the current "near meltdown", and we therefore need to be extremely careful about the kind of guarantees we are offering, since what we do not want to happen is to see public finances meltdown in the future in just the way bank finances have.


What Wolfgang doesn't draw too much attention to - perhaps he is too modest - is how few of us there actually are who have been who have been arguing systematically and repeatedly for just this kind of package of measures since the very start. Wolfgang is one of a very select company here, and I, if I may be so presumptious, am another. Back on July the 18th - in a post for RGE Europe EconMonitor - I said the following (the numbers were pretty rule of thumb, but in the light of what is now coming out they don't look that far off):


So what does all this add up to? Well, to do some simple rule of thumb arithmetic, just to soak up the builders debts and handle the cedulas mess, we are talking of quantities in the region of 500 to 600 billion euros, or more than half of one years Spanish GDP. Of course, not every builder is going to go bust, and not every cedula cannot be refinanced, but the weight of all this on the Spanish banking system is going to be enormous...............So it is either inject a lot of money now - more than Spain itslelf can afford alone - or have several percentage points of GDP contraction over several years and very large price deflation - ie a rather big slump - in my very humble opinion. And it is just at this point that we hit a major structural, and hitherto I think, unforeseen problem in the eurosystem (although Marty Feldstein was scratching around in the right area from the start). The question really we need an answer to is this one: if there is to be a massive cash injection into Spain's economy, who is going to do the injecting? Spain alone will surely simply crumble under the weight, and it is evident that the problem has arisen not as the result of bad decisions on the part of the Spanish government, but as a result of institutional policies administered in Brussels and monetary policy formulated over at the ECB. And yet, the Commission and the ECB are not the United States Treasury and the Federal Reserve, no amount of talk about European countries being similar to Florida and Nebraska is going to get us out of this one: and it is going to be step up to the plate and put your money where your mouth is time soon enough.


Well, getting through to the put your money where your mouth is stage didn't take that long, now did it? Twelve weeks and two days to be exact.

My central point at this stage would be that all of this is going to have, among other things, important implications for the real economy, since it is the degree of all that leveraging which we have been busy doing which is now going to have to be reduced, and while we are all busy "deleveraging", our real economies will notice a significant drop in demand. I wouldn't like to dwell too much on the point at this stage, but this was, of course, precisely what happened in the 1930s.

Basically, one economy after another in the developed world is now going to become export dependent. If I take Spain as an example, perhaps things will be clearer. Spanish households are now in debt to the tune of around 90% of GDP. Spanish companies owe something like 120% of GDP, and the government, which is just about to start accumulating more debt, owes about 50% of GDP. Adding that up, Spain incorporated owes about 260% of GDP at the present time. But the situation is worse than that, since debts continue to mount.

Back in the good old days of Q2 2007, when Spain's economy was busy growing at a rate of about 4% per annum, corporate and household debts were increasing at a rate of about 20% per annum. 4% growth for a 20% rise in indebtedness (or an increase of about 30% in debts to GDP) doesn't seem like that good value for money when you come to think about it - and in the meantime Spain Incorporated's indebtedness to the rest of the world (via the current account deficit) was growing at a rate of 10% per annum. Fast forward to Q2 2008, and household and corporate debts were rising at a mere 10% per annum (and government debt had also started to rise, at this point at a rate of around 2% of GDP per annum, or 4% of accumulated debt), but Spain's economy had reached a virtual standstill (true it was still growing at 1% rate year on year, but quarter on quarter it was virtually stationary). So not only is this a horrible "bang for the buck" ratio, it is also totally unsustainable. Indebtedness has to be reduced, not increased, and this can be done in one of two ways, either by ramping up GDP growth (which in the present environment is out of the question in the short term) or by burning down the debt by paying (or writing) it off.

This harsh but unavoidable reality has two important implications. The first of these is that Spain is going to need external help, and the second is that while the level of indebtedness is being reduced, Spain will not get GDP growth from internal demand, and any headline GDP growth there is will need to come from exports.

And of course Spain is just one (extreme) case. There will be a whole company of others who need to make this transition (the UK, Greece, Denmark, Ireland at least, and probably virtually all of Eastern Europe - now what was that football song I used to sing back then in the old days, over there on the Spion Kop... "when you walk through a storm...").

So the question is, while a host of new countries are suddenly struggling to export, who is going to do all the importing? No mean topic this one. The only person who seems to have even the inkling of a proposal here is World Bank head Robert Zoellick, who came right out with it on Sunday: we need a new multilateral structure. The global financial crisis underscores the need for a coordinated action to build a better system, he said on Sunday. "We need to modernize multilateralism for a new global economy....We need concerted action now to ... build a better system for the future." Never better said, and never was the fact that we live in an interconnected world placed under such a stern spotlight.

And just what will this system look like? Well, the details will all need working out, but in broad brushstroke terms, my strong feeling is that we need to bring-in the large developing economies like India, Brazil, Egypt, the Philippines etc en-bloc, and create a Marshall-Plan-type structure were all those newly created developed world savings can be put to good (and safe) use in facilitating the emergence of those long suffering emerging and frontier markets, and in so doing these countries will play their part by helping provide the customers which our own "export dependent" economies will all now so badly need. But, as I say above, sufficient unto the day......

Friday, October 10, 2008

The Deflation Threat Looms As Consumer and Investment Demand Falls While Oil Turns Year on Year Negative

Oil prices plunged below $85 a barrel on Thursday, the lowest level in a year, as Opec, the oil exporting countries’ cartel, called an emergency meeting to discuss reducing its crude production to halt the collapse in prices.

This morning it is more of the same, and prices plummeted to a one-year low below $83a barrel in Asia as investor fears of a severe global economic downturn sparked a panicked sell-off of equities and crude. Light, sweet crude for November delivery was down $4.00 to $82.59 a barrel in electronic trading on the New York Mercantile Exchange by midafternoon in Singapore, the lowest since October 2007. The contract overnight fell $1.81 to settle at $86.62.

The US Department of Energy reported this week that the country’s oil demand averaged 18.66m barrels a day last week, down 8.6 per cent against the same period a year ago as the economic downturn takes its toll on oil consumption. High prices during the summer have forced US motorists to cut their mileage, and now the looming recession will mean that they don't simply increase it again as oil prices drop.

Basically this is the point I was raising only one month ago on my personal blog, as to how long we would have to wait for oil prices to turn year on year negative. So now we have the answer, they just did.



Since I am - like everyone else I imagine - basically reeling under the volume of work which all that is happening is generating, I will restrict myself here to reproducing an excellent recent piece from my colleague Claus Vistesen on the issue of global deflation risk.

The Global Economy – Is Deflation the Next Macro Story?


by Claus Vistesen: Lausanne

As the horror story of financial markets continues at full speed it may seem a rather futile endeavor to try to make sense of what is increasingly becoming senseless by the day. Yet, you hardly need to be a financial literate to see that the world of finance and banking has been changed for good. I don’t think this was neither unwarranted nor unexpected. At some point, US authorities had to let someone on the Street fail and it turned out to be Lehman (with Merril Lynch of course coming close in behind as it was snapped up by Bank of America). AIG on the other hand was saved as their role as insurer was deemed too important and systemic to merit a collapse. Then we have Wachovia, the Washington Mutual Trust etc etc …I can understand if many will have a hard time gauging the playbook through which regulatory authorities decide who lives and who dies. As we learned this week that Paulson’s plan was not passed by congress the downside now resembles something of an abyss. It will be interesting to see what happens as the bail-out plan makes its second tour to congress.


Since rumors began of the peril of sub prime mortgages and credit crunch became the new buzz word in the financial vocabulary we have seen some quite eventful weeks not to mention days in which volatility has gone far beyond what any respectable VAR model would be able to foresee. Still the past two weeks must clearly take pole position so far. The numbers flying around and the movement in key market parameters have been extraordinary. That equities were down should not surprise us as we have seen it before this year when Wall Street’s office buildings have been re-shuffled. However, this time it was perhaps a bit different as yield on treasuries fell to almost 0% at one point as investors quit anything with but a faint smell of risky assets. Another specific and most unwelcome side effect of this was the corresponding seizure in credit and liquidity markets which followed. At some point, the cost of borrowing money in the interbank market almost doubled taking the LIBOR rate close to 650 basis points (now running at about 550 bps on the back of the échec of the Paulson plan) as well as the three month spread of LIBOR over the treasury climbed to over 300 basis points. These swings tell an important cautionary tale of the seriousness of this crisis. Especially, the lack of confidence and subsequent seizure of the short term financing market is one of the most tangible and severe effect from this crisis.


Meanwhile and beyond the immediate eye of the storm on Wall Street, Europe is entering its own house of pain as cracks in the banking sector begin to steadily emerge. Add to this that the macro environment is pointing towards a steep Eurozone wide recession and you have the ingredients for a very serious downturn on the European continent. I still hold that the lack of real response on the rate front will not only hurt the ECB’s credibility, but also worsen the inevitable slump.


In emerging market land, things are not looking brighter with the anticipated safe haven flows drastically eroding valuations of asset markets in these economies. Russia seems to be suffering more than most from the recent retrenchment of risk aversion. Now, before people let their thoughts wander back to 1998 and LCTM’s spectacular collapse betting on the wrong side of the Russian debt binge I don’t think that Russia stands before an imminent default. Around $700 billion worth of reserves in the form of foreign exchange and national investment vehicles will keep Russia from any kind of immediate default. However, with trading in the USD denominated RTS index halted twice during the last two weeks due the continuation of outflows from foreign investors, it is difficult to ask the subtle question of whether this time, it might not be a little bit more serious than mere tremors [1] .


On the back of yesterday’s news that congress rejected the bailout plan knitted together by Paulson and Bernanke, the MSCI World Index of 23 developed markets dived 6.8 percent, which was the sharpest decline in the measure's 38-year history according to Bloomberg. In Brazil trading was suspended after the Bovespa fell more than 10% and in India and aforementioned Russia equities were equally pummeled. Stephen Jen and his colleagues from Morgan Stanley (who itself is fighting for survival) have some interesting points on capital flows to emerging markets in the latest edition of the GEF.


What happens next is of course anybody’s guess, but below I would like to point to one plausible and tangible outcome of the wheels that were set in motion back in august 2007 when BNP Paribas announced subprime related losses and thus took the credit crisis to global levels.

Deflation as the Next Macro Story?


The macro themes which have characterized the past year’s eventful period have been fickle. As the Fed decided to let interest rates fall in the end of 2007 decoupling was the name of the game as gold and crude oil reached new highs at one and the same time as the USD was pummeled. However, as it became clear that the US was merely the proverbial canary in the coal mine for a much wider global slowdown the sentiment changed. One main question in this regard was always whether the obvious bout of stagflation, at some point, would turn into deflation; a question I also mused on a couple of months back. As per usual with these things there are arguments for and against. The strongest impediment to a worldwide deflationary slump is the continuing pressure from growth in emerging economies. To be sure, these economies are also going to be run down a notch, but the underlying momentum and the lack of global supply slack in terms of energy resources seem certain to keep headline inflation high as we move forward. [2] However, the crucial point here is exactly that the double barril of imported cost-push inflation at the same time as the economy is contracting may lead to a negative feedback loop that can provoke deflation. Consequently, when I look at the current deterioration in real economic activity across OECD as well as the ongoing tensions in credit markets I believe that deflation is now a fair and probable call in the context of key regions and countries.


Essentially, it is difficult not to notice that something has changed with the recent stream of incoming macro data for Q2 and Q3. In Europe, the Eurozone and key parts of Eastern Europe are likely to be in a recession and also Japan seems to have hit a brick wall. Meanwhile emerging economies also seem to be slowing sharply although recessions in that part of the economic edifice are very unlikely.


All this almost looks like de-coupling in reverse, but the US is unlikely have to have seen the worst yet. Re-coupling does not only work one way and just as the US has enjoyed a windfall from exports in H01 2008 so will the rapid deterioration of the rest of the world feed into US growth rates. It is important to note here that the US’ capacity for domestically induced growth is next to none with a consumer saddled with debt and a financial system in shambles. The US has not yet posted growth rates akin to a recession [3] but that will most likely happen as we come closer to 2009 (Q4 08 and Q1 09 would be my guess, but do go have a look at MS’s Berner and Weiseman for a one stop look at the US economy). In the briefest of versions this small view across the global economic edifice indicates that activity is coming down sharply across the board. In many ways, the effects on the real economy are only about to emerge as we move forward from here and this will be accelerated by the ongoing tensions in financial markets.


However, a sharp de-accelerations in activity need not lead to deflation and even if it does it may, according to some, be the only meaningful end result as well as means for correction for some countries. This begs the question of why am I invoking the deflation ghost and, more pertinently, what kind of deflation I am talking about?


In many ways, the current decline in real activity makes perfect sense as it comes on the back of an extraordinary run in terms of the economic cycle. Some are even talking about the end of one big mega-cycle with some debate on when this cycle is supposed to have started. I will leave this question neatly aside for now and merely conclude that with the added flavor of credit market turmoil and the velocity of the cycle that was (and is now gone), this present slowdown and crisis seem, in many ways, to be quite different than in previous global downturns.


To state that things are different however is scarcely enough to determine whether some parts of the global economy are headed for a sustained deflationary spiral (save perhaps for Japan, but I will touch on that below). However, I would still submit the claim this is actually a real risk at this point. In the following I will argue why.


Stating the Obvious


One key element in my call is a statement of the blatantly obvious. The credit crunch is consequently not just a figment of imagination but a real phenomenon with subsequent real and measurable effects, and what we really ought to be asking ourselves is what it actually means? An almost endless amount of commentary has been devoted to the answer of this question, but I still think that we should try to have a closer look for the sake of argument.


If we begin from the point of view of asset prices, I believe most people can agree that the world as a whole has now entered a prolonged period of asset deflation in key sectors. If we look at an asset such as real estate and housing it seems clear that a substantial amount of deflation lies ahead for many economies before previous imbalances can be corrected. Given the strong and accentuated wealth effect from real estate appreciation due to the possibility for equity withdrawal this is one of the main ingredients in the current crisis. In fact, if we peer across most economies who are now facing serious corrections real estate bubbles was an integrable part of past exuberance.


As regards financial assets we also seem to be in for a period of deflation even though the volatility of such movements makes this an entirely different beast. However, it is interesting in this respect to observe that whole classes of financial assets that were hitherto used to prop up many a financial institution’s balance sheet have now been completely evaporated. This is true not least for many credit products as well as it seem that many debt products backed by mortgages are heading for oblivion (the fascinating tale of the Spanish Cedulas here is a good place to start). [4] In this way, it is perhaps not so much a question of deflation in financial assets but more so about a process by which the asset base is narrowed. I do think this is a critical point to take aboard. This is not just about wealth destruction because risky assets fall in value; it is also about the destruction of entire asset classes and financial business models. If we add to this the general tightening of credit and liquidity provisions we end up with a massive and abrupt shrinkage of the global credit base.


Many would see this as a good and indeed quite necessary byproduct of the incoming slowdown. The past economic cycle was one of easy money and an unprecedented expansion of the credit and liquidity base through, not only through leverage, but also through simple product innovation in the context of financial products. I agree with this narrative, but there is more to this story than meets the eye.


What Does it Mean in a Macroeconomic Context Then?


Two things are important here I think.


One the one hand, economies that have been living well on foreign credit will now have to revert to a different or less extreme version of their previous growth path. Countries such as Spain, the USA, Australia, New Zealand, and many emerging economies in Eastern Europe are amongst the major candidates here. In general, it is clear that across the entire global economic edifice external deficit economies will need to tighten their belts due to the widespread global slowdown.
On the other hand, we also need to look at the credit side since this is not only a story about excessive exuberance on the part of debtor nations. It is also very much about the creditor economies and how they have been living high on foreign economies’ willingness and capacity to absorb the inflows. Now that the capacity for credit absorption is declining, so will creditor nations loose momentum as they are no longer able to tap foreign debtors to the same degree as before.


It is especially within this context that I see the potential for deflation. In particular, I would cut a lateral line through those creditor and debtor nations with distinct demographic profiles in the form of low fertility rates and subsequent high and rapidly rising median ages.


On the credit side Japan and Germany stand out as obvious candidates [5] . We can already see from the data how, absent support from external demand and asset income, headline GDP figures are tanking. Given the persistently depressed situation with respect to domestic demand and the deteriorating global credit conditions, there is a real chance that whatever endogenously generated trend growth path these economies can muster, the ensuing price trend could very well be one of deflation in core as well as key asset prices.


Turning to the deficit nations many commentators have noted how the US may be entering a Japan type of lost decade. I still think this is very unlikely; the amount of liquidity being pumped into the system as well as the much more stable demographic profile will prevent the US from falling under the yoke Japan did in the 1990s. However, I need to concede that the continuation of negative real interest rates at one at the same time as the public debt is being used to funnel corporate’s and household’s liabilities are not helping the US debt position. Without a shred of doubt, the US economy is hit much harder than was initially anticipated and at this point in time it remains to be seen whether the aggressive regulatory arrangements will have the wanted effect. In a more fundamental light I think it is quite obvious that the role of the US economy will change for good which need not be a bad thing but will take some adjustment of mindsets.
Meanwhile, I do see considerable potential for deflationary corrections in Spain, Italy and key parts of Eastern Europe. My rationale is that these economies perhaps stand before the most severe adjustment of all. In Spain the structural break is obvious. 6 years worth of housing booms, deficit spending and high growth driven by massive immigration and negative real interest rates will now need to be corrected. The rub here is however that membership of the Eurozone and a fixed exchange rate make wage deflation almost a certainty if a correction is to be achieved. Coupled with the unraveling of the housing market the downward momentum is extreme, and it should never escape our attention that before 2000 Spain was set to become to oldest society on earth. If she is not able to keep those immigrants the ensuing negative shock to the labour market will be quite severe.


In principal the same argument can be applied to Eastern Europe where the recent period of violent inflation may very well be the initial stages to a slump where wage deflation is the only possible way to correct in light of fixed exchange rate regimes. The greatest threat is that the slowdown becomes so severe that emigration intensifies further. This would have quite important consequences for these economies’ already distorted demographic profiles. One obvious question is the extent to which a prolonged period of wage and asset price deflation would be politically palatable. I would seriously doubt this and then we are back in the viper’s nest where the potential for an abrupt rupture of the Euro peg as well as a severe funding crisis à la Asia 1997.


As for Italy, it has long been my standing position that Italy, at some point, could tumble into a Japan like deflation trap. Whether it will happen during the turn of the current cycle is debatable, but the severity of the slowdown certainly suggests that the possibility is a real one. In passing, I would like to note that the issue of Spain and Italy (and quite possibly other economies in the Eurozone too) will not make life any easier at the ECB and in Bruxelles. The point here is simply that the ECB would not, under the current regime, be able to administer some local version of the Japan ZIRP in Italy and/or Spain. The consequences of this inability may unfortunately now become clear for everybody.


The main manifestation of the potential deflationary correction will be through wage deflation (especially in real terms) as well as a persistent gap between strong headline inflation and core prices. This is an undercurrent in the data I have been highlighting persistently in my analyses. The key point to latch on to is the inability of some economies to muster domestic demand which in turn will tend to have a deflationary effect; especially in the context of an incoming slowdown as we are seeing now.


Much Ado about Nothing?


If you have made it this far, you might ask with some legitimacy whether in fact I am not making much ado about nothing. After all, the means for correction here are pretty standard econ 1-0-1 type processes and deflation need not be an unwelcome thing as long as there is light at the end of the tunnel.


My main thesis however is that many of the economies which now face potential deflationary corrections do so principally because of their demographic profiles. If past experience is anything to go by this should raise more than a few eyebrows since we know how difficult it is to escape from deflation once you are caught in the web. This is the ultimate lesson to draw from Japan’s so-called lost decade. It was never exclusively about incompetent Japanese policy makers. Rather, the crucial question to ask is why Japan did not manage to muster sufficient domestic demand to recover and why Japan is now completely dependent on foreign demand and asset income to attain respectable [6] growth rates.


I believe that the answer to this question resides within the sphere of demographics and it is in this light I am worried that the global economy will see a number of economies join Japan (Germany already has I would argue) on the back of the current crisis.


If this turns out to be true it also highlights a number of crucial questions. The first is simply that if many hitherto net credit absorbers are now to become to net credit suppliers where is the extra global capacity going to come from? From my chair, it is as if everybody is talking about the need for the US to export its way out of trouble, but who the heck are going to take up the slack? Moreover, if I am right in the sense that many former deficit nations have suffered a structural break the re-shuffling of the global economy will not lead to a more balanced flow of funds, but rather the opposite. This would especially be the case if key emerging economies persist on maintaining an open life support to whatever is left of the Bretton Woods II system.
Another way to narrate this predicament would be to ask who will do the saving and, equally as important, who will provide yield for the accumulated stock of capital?


As for the first part of the question one is tempted to say everybody. External deficit nations will now have to work towards grinding down the debt and external surplus economies cannot, for the most part, do much but to cling on to the increasingly smaller batch of growing markets. I am still skeptical here that the unwinding of the Bretton Woods II à la traditionelle with China and Petroexporter et al. holds much promise to bring rebalancing. As for the part of the world actually able to act as buffers (e.g. India, Brazil, Turkey etc), they are clinging on with their nails, not only to prevent a rout on their capital markets as money pours out, but equally so in the context of actually absorbing the flows once the money start coming in again, because trust me, it will. The key point in terms of global capital flows is that the margins are simply getting smaller in terms of living off of one’s accumulated savings (assuming of course that you do not dissave) and that this will hurt economies in the old end of the demographic spectrum in particular.


In conclusion, one of the main forward looking macro themes I am watching at the moment is the potential for deflation. I would especially ascribe this risk to be high in economies in need of serious competitive and debt reducing corrections as well as in economies unable to muster sufficient domestic demand to stay above water when external demand falters. In my rudimentary analysis I use demographics as a yardstick and as such my claim is quite easily falsifiable. The only thing we need to do then is to watch and see what happens.


[1] My colleague Edward Hugh does just that, and I recommend you to go have a look.
[2] Even if it may turn negative y-o-y in 2008 on the back of the accelerated slowdown.
[3] Although most would agree that the US is now firmly in a recession based on the commotion in financial markets and the deterioration of the job market.
[4] The very aggressive expansion of central banks’ balance sheet and the de-facto ability of financial institutions to offload assets on to ”public” books will be an interesting case to gauge for economic policy makers and historians alike.
[5] Japan has obviously never actually escaped deflation.
[6] Respectable here can mean many things, but one simple derivative is the extent to which Japan need a certain degree of headline growth in order to keep on servicing its liabilities.