Friday, September 30, 2011

Weekend links

1--Randy Wray: Euro Toast, Anyone? The Meltdown Picks Up Speed, Naked Capitalism

Excerpt: While the story of fiscal excess is a stretch even in the case of the Greeks, it certainly cannot apply to Ireland and Iceland—or even to Spain. In the former cases, these nations adopted the neoliberal attitude toward banks that was pushed by policymakers in Europe and America, with disastrous results. The banks blew up in a speculative fever and then expected their governments to absorb all the losses. Further, as Ambrose Evans-Pritchard argues, even Greece’s total outstanding debt (private plus sovereign) is not high: 250% of GDP (versus nearly 500% in the US); Spain’s government debt ratio is just 65% of GDP. And while it is true that Italy’s government debt ratio is high, its household debt ratio is very low by global standards.

But it is not at all clear that the nuclear option—dissolution–will be avoided. Even Very Serious People are providing analyses of a Euroland divorce—with resolution ranging from a complete break-up to a split between a Teutonic Union embracing fiscal rectitude with an overvalued currency and a Latin Union with a greatly devalued currency.

A recent report from Credit Suisse dares to ask “What if?” there is a disorderly break-up of the EMU, with the narrowly defined PIGS (Portugal, Ireland, Greece and Spain) abandoning the euro and each adopting its own currency. The report paints a bleak picture because the currencies on the periphery would depreciate, raising the cost of servicing euro debt and leading to a snowball of sovereign defaults across highly indebted euro nations.

The report assumes Italy does not default—if it did, losses on sovereign debt would be very much higher. With the assumption that Italy remains on the euro and manages to avoid default, total losses to the core European banks would be 300 billion euros and 630 billion euros for the periphery nations’ banks (excluding Italy), while the ECB’s losses would be 150 billion. (Note that gets very close to the rumored bailout costs of 1.75 trillion euros—without including any knock-on costs.)

2--Bank Funding, Not Capital, Must Be Priority, Wall Street Journal

Excerpt: European bank funding markets are in the deep freeze, with no public senior euro issuance since early July. That is becoming a major problem: Three-quarters of financing for Europe's economy comes from banks, according to the European Central Bank. Restoring access to long-term funding must be a priority for Europe's policymakers.

Bank bond issuance has collapsed as the sovereign crisis has deepened. Euro senior-unsecured bank bonds yield 3.5 percentage points more than safe-haven government debt, according to Barclays Capital, more than the 3.2 point peak after Lehman Brothers' collapse. Fear of sovereign defaults risks a vicious circle where banks unable to borrow then cut back on lending. That crimps growth prospects and increases the risk of sovereign solvency problems.

The International Monetary Fund estimates that spillover costs from the turmoil in government bond markets could amount to EUR300 billion and calls have mounted for banks to raise fresh capital. But this alone is unlikely to reduce funding costs and boost issuance: If the fear is one of widespread sovereign defaults, including heavyweights such as Spain or Italy, it is difficult to imagine enough capital could be raised to withstand the subsequent havoc.

Rather, efforts must be made to deal with the root of the problem: sovereign solvency. Euro-zone governments heightened the fear of default when they sanctioned a Greek haircut. Now they must prove that no other euro-zone state will default. But this will take time. Structural reforms will take years to feed through to stronger growth, and debt burdens may only start to fall in 2013.

In the meantime, policymakers need to ease the funding pressure on banks. The ECB has already reactivated a six-month lending facility and could offer longer-term finance. Guarantees could also be useful in kickstarting long-term issuance, although they could no longer simply come from individual governments; a euro-zone guarantee would be needed. And the ECB could restart its purchases of covered bonds, although it is unlikely to be as successful as 2009, when issuance surged even before it spent a single euro.

The longer the euro area dithers, the worse the downturn is likely to be.

3--Bernanke: Unemployment Poses ‘National Crisis’, Bloomberg

Excerpt: Federal Reserve Chairman Ben S. Bernanke said the U.S. is facing a crisis with a jobless rate at or above 9 percent since April 2009, and that fiscal discipline would help spur the economic recovery.

“This unemployment situation we have, the jobs situation, is really a national crisis,” Bernanke said in response to questions after a speech yesterday in Cleveland. “We’ve had close to 10 percent unemployment now for a number of years and, of the people who are unemployed, about 45 percent have been unemployed for six months or more. This is unheard of.”

The chairman is contending with the most opposition on the Federal Open Market Committee in almost 19 years, with three policy makers opposing the central bank’s decision last week to push down longer-term interest rates. Fed regional bank presidents Thomas Hoenig of Kansas City and Richard Fisher of Dallas spoke out against the plan this week, while Eric Rosengren of Boston backed it and Dennis Lockhart of Atlanta said the move will probably have a “modest” effect....

“Monetary policy is not a panacea,” Bernanke said. “There are certainly some areas where other policy makers could contribute,” and “strong housing policies to help the housing markets recover would certainly be useful.” ...

The U.S. should learn from the success of many emerging market economies and support strong economic growth through “disciplined fiscal policies,” Bernanke said in his speech yesterday. He didn’t address the outlook for the U.S. economy or monetary policy in his remarks on “Lessons from Emerging Market Economies on the Sources of Sustained Growth.”...

“This is unheard of,” he said in a question-and-answer session after a speech in Cleveland. “This has never happened in the post-war period in the United States. They are losing the skills they had, they are losing their connections, their attachment to the labor force.” He added: “The unemployment situation we have, the job situation, is really a national crisis.”

Bernanke said the government needs to provide support to help the long-term unemployed retrain for jobs and find work. And he suggested that Congress should take more responsibility.

4--Bundestag Approves, Agenda Shifts, Credit Writedowns

Excerpt: ...The dollar largely reversed most of its overnight gains witnessed late in the North American session and into Asia in anticipation of EFSF ratification vote by Germany, which was passed by 438 votes....

...many observers expect the EFSF to increase its firepower by allowing it to use bonds purchased with initial funds as collateral to borrow more from the private sector and buy yet more bonds. But this is not a panacea either given that the use of leverage is not risk free and most likely would drive up the EFSF’s financing costs. In turn higher funding rates would imply higher borrowing costs for indebted governments than if the EFSF’s guarantees were increased outright, which of course may limits the facilities effectiveness. Looking ahead, we see three factors that are likely to limit any EUR/USD bounce over the coming weeks, which include: the potential for more accommodative policy from the ECB, uncertainty over the EFSF and political discord over the Greek 2.0 bailout package, given there is talk that as many as 7 countries want a large haircuts and more private sector participation. Elsewhere, in the US we have initial jobless claims (which continue to show a gradual improvement in the employment picture, at odds with most other employment figures) and we are also expected to see Q2 GDP revised higher.

5--Buiter: Euro area recession likely to begin in Q4, FT.Alphaville

Excerpt: Citigroup’s chief economist goes on a 2012 forecast-cutting binge in his latest note (bolding ours in all cases):
Over the last three months, we have cut our global growth forecasts for the current and following year by 0.65% (from 3.4% to 3.0% for this year, More…

In this note he rehashes some of his earlier points but emphasises the deep uncertainty about the contagion threat to Spain and Italy and, especially, the accelerated timeline on which Europe now finds itself:
The most likely date for [Greek] restructuring is after the ratification of the EFSF enlargement is complete, which probably will be in late October or early November. At that stage, the existing official facilities could handle the direct implications of an orderly deep sovereign debt restructuring of Greece, Ireland and Portugal, a recapitalisation of the banks of these three countries, and of the banks in the core EA exposed to the outer periphery.

We expect Ireland and Portugal to follow Greece into sovereign debt restructuring soon afterwards, mainly because of ‘political contagion’. A Greek default would further raise the market assessment of the likelihood of default by these sovereigns, and undermine the political commitment to austerity in Ireland and Portugal. If Greece gets a deal that offers debt relief and further funding in return for efforts of questionable determination to tighten their belts, then Irish and Portuguese voters and politicians are likely to demand the same lenient treatment, especially given that they have so far stuck to the conditions of their programmes.
Early restructuring is likely to be far more disruptive to economies and financial markets, and we expect the Euro Area to fall into a fresh recession in coming quarters.

Nevertheless, there is a huge range of uncertainty, and it is unclear how much contagion will spread to other Euro Area countries, notably Italy and Spain. This is likely to depend on a range of factors. In particular, we assume that (1) Greece will not leave EMU, and nor will any other country; (2) there will be a large backstop facility, via the EFSF and/or ECB, for Euro Area countries other than Greece, Ireland and Portugal, notably Italy and Spain; (3) there will be more widespread recapitalization of European banks.

We’ve reached a stage where none of these can be taken for granted, obviously — and in the meantime Buiter adds that even with an leveraged EFSF, the creditor countries of the EU and the ECB are likely to request additional austerity measures in exchange for their support.


Even with a leveraged EFSF, additional fiscal tightening and tighter financial conditions are likely to be sizeable drags for Euro Area growth. Taking this into account, we revise down our Euro Area 2012 GDP growth forecast from +0.6% to -0.2%, now expecting a mild recession to start in 4Q 2011.

6--A free lunch for America, Bradford Delong, Project Syndicate

Excerpt: The US government can currently borrow for 30 years at a real (inflation-adjusted) interest rate of 1% per year. Suppose that the US government were to borrow an extra $500 billion over the next two years and spend it on infrastructure – even unproductively, on projects for which the social rate of return is a measly 25% per year. Suppose that – as seems to be the case – the simple Keynesian government-expenditure multiplier on this spending is only two.

In that case, the $500 billion of extra federal infrastructure spending over the next two years would produce $1 trillion of extra output of goods and services, generate approximately seven million person-years of extra employment, and push down the unemployment rate by two percentage points in each of those years. And, with tighter labor-force attachment on the part of those who have jobs, the unemployment rate thereafter would likely be about 0.1 percentage points lower in the indefinite future.

The impressive gains don’t stop there. Better infrastructure would mean an extra $20 billion a year of income and social welfare. A lower unemployment rate into the future would mean another $20 billion a year in higher production. And half of the extra $1 trillion of goods and services would show up as consumption goods and services for American households.

In sum, on the benefits side of the equation: more jobs now, $500 billion of additional consumption of goods and services over the next two years, and then a $40 billion a year flow of higher incomes and production each year thereafter. So, what are the likely costs of an extra $500 billion in infrastructure spending over the next two years?...

In other words, taxpayers win, because the benefits from the healthier economy would more than compensate for the costs of servicing the higher national debt, enabling the government to provide more services without raising tax rates. Households win, too, because they get to buy more and nicer things with their incomes. Companies win, because goods and workers get to use the improved infrastructure. The unemployed win, because some of them get jobs. And even bond investors win, because they get their money back, with the interest for which they contracted.

7--The Road from Depression, George Soros, Project Syndicate

Excerpt: Financial markets are driving the world towards another Great Depression with incalculable political consequences. The authorities, particularly in Europe, have lost control of the situation. They need to regain control, and they need to do so now.

Three bold steps are needed. First, the governments of the eurozone must agree in principle on a new treaty creating a common treasury for the eurozone. In the meantime, the major banks must be put under the direction of the European Central Bank in exchange for a temporary guarantee and permanent recapitalization. Third, the ECB would enable countries such as Italy and Spain temporarily to refinance their debt at a very low cost.

These steps would calm the markets and give Europe time to develop a growth strategy without which the debt problem cannot be solved. Indeed, the importance of developing a growth strategy cannot be overstated, because the debt burden – the ratio of debt to annual GDP – rises and falls in part as a function of the rate of economic growth.

Since a eurozone treaty establishing a common treasury will take a long time to conclude, in the interim the member states must appeal to the financial authority that already exists, the ECB, to fill the vacuum. In its current form, the embryo of a common treasury – the European Financial Stabilization Facility – is only a source of funds; how they are spent is left to the member states. Enabling the EFSF to cooperate with the ECB will require a newly created intergovernmental agency, which will have to be authorized by Germany’s Bundestag and perhaps by other eurozone members’ parliaments as well.

The immediate task is to erect the necessary safeguards against contagion from a possible Greek default. Two vulnerable groups – the banks and the government bonds of countries like Italy and Spain – need to be protected.

To accomplish these related tasks, the EFSF would be used primarily to guarantee and recapitalize the banks. Systemically important banks would have to agree with the EFSF to abide by the ECB’s instructions as long as the guarantees are in force.

8--The Moral Question, Robert Reich, via Economist's View

Excerpt: We dodged another shut-down bullet, but only until November 18. That’s when the next temporary bill to keep the government going runs out. House Republicans want more budget cuts as their price for another stopgap spending bill.

Among other items, Republicans are demanding major cuts in a nutrition program for low-income women and children. The appropriation bill the House passed June 16 would deny benefits to more than 700,000 eligible low-income women and young children next year.

What kind of country are we living in? ... We’re in the worst economy since the Great Depression – with lower-income families and kids are bearing the worst of it – and what are Republicans doing? Cutting programs Americans desperately need to get through it.

Medicaid is also under assault. Congressional Republicans want to reduce the federal contribution to Medicaid by $771 billion over next decade and shift more costs to states and low-income Americans.

It gets worse. Most federal programs to help children and lower-income families are in the so-called “non-defense discretionary” category of the federal budget. The congressional super-committee charged with coming up with $1.5 trillion of cuts ... will almost certainly take a big whack at this category because it’s the easiest to cut. Unlike entitlements, these programs depend on yearly appropriations. ...

It gets even worse. Drastic cuts are already underway at the state and local levels. ... So far this year, 23 states have reduced education spending. ... Local family services are being cut or terminated. Tens of thousands of social workers have been laid off. Cities and counties are reducing or eliminating their contributions to Head Start...

All this would be bad enough if the economy were functioning normally. For these cuts to happen now is morally indefensible.

Yet Republicans won’t consider increasing taxes on the rich to pay for what’s needed – even though the wealthiest members of our society are richer than ever, taking home a bigger slice of total income and wealth than in seventy-five years, and paying the lowest tax rates in three decades. ...

When Republicans recently charged the President with promoting “class warfare,” he answered it was “just math.” But it’s more than math. It’s a matter of morality. Republicans have posed the deepest moral question of any society: whether we’re all in it together. Their answer is we’re not.
President Obama should proclaim, loudly and clearly, we are.

9--Plosser: Recent Stimulus Will Hurt the Fed's Credibility, Economist's View

Excerpt: Federal Reserve Bank of Philadelphia President Charles Plosser voted against Operation Twist -- the recent attempt for the Fed to help the economy -- because:

“The actions taken in August and September tend to undermine the Fed’s credibility by giving the impression that we think such policies can have a major impact on the speed of the recovery. It is my assessment that they will not,” ... “We should not take certain actions simply because we can.”
“If we act as if the Fed has the ability to solve all our economic problems, the credibility of the institution is undermined,” Plosser said. “The loss of that credibility and confidence could be costly to the economy because it will make it much harder for the Fed to implement effective monetary policy in the future,” he said....

But from Plosser's point of view, the Fed can't do much at all at this point, and the fear of inflation down the road trumps concerns about unemployment now. Plus, the Fed can't do anything about unemployment anyway:

“I am skeptical that this will do much to spur businesses to hire or consumers to spend, given the ongoing structural adjustments occurring in the economy and the uncertainties posed by the fiscal challenges both here and abroad,” Plosser said. Meanwhile, “we should be cautious and vigilant that our previous accommodative policies do not translate into a steady rise in inflation over the medium term even while the unemployment rate remains elevated.”

10--Richard Koo (video) explains Balance Sheet Recession-- from the archives

11--This ‘Competitiveness’ Thing Is a Scam, Rebecca Wilder, Economonitor

Excerpt: The World Economic Forum measures competitiveness as a composite of various factors that describe institutions, infrastructure, macroeconomic environment, health and primary education, higher education and training, goods market efficiency, labor market efficiency, financial market development, technological readiness, market size, business sophistication, and innovation....

In 2011-2012, Germany ranks #6 out of 142 countries, where 95.8% of the 142 countries are less competitive than Germany. Also ranked below Germany is every euro area economy except Finland. So when a German finance minister says that he wants economies to increase competitiveness, he’s effectively saying that he wants economies to be more German. From the bottom up, countries should reform their education, financial markets, business sophistication, innovation, etc., all the while emulating those institutions in Germany.

Better put: being asked to increase competitiveness is really a scam to get these economies to become more ‘German’. If I were Italy or Spain or even Ireland (who by the way is very open but less ‘competitive’ according to this measure), I’d have a problem with that.

12--It’s 1987 Without Bubble in Japan as Job Losses Spur Hollowing-Out Concern, Bloomberg

Excerpt: Japan’s labor force shrank last month to its smallest size since October 1987, when the nation’s stock-market benchmark was 185 percent higher and land prices were 85 percent greater than today.

Employers cut payrolls by 160,000 and a further 200,000 workers retired or abandoned efforts to find a job, leaving the seasonally adjusted number of employed at 59.4 million, the statistics bureau said today in Tokyo. Separate figures showed industrial production rose 0.8 percent from the previous month, less than all but three of 28 forecasts in a Bloomberg survey.

The data deepen concern that Japan’s recovery from the March earthquake will be stunted by manufacturers shifting operations abroad because of gains in the yen, a deterioration in consumer confidence and prospects for higher taxes at home. The challenges add to the burden of an economy already beset by a shrinking and aging population.

“We’ve seen an acceleration in the hollowing out of industry this year with the yen’s surge and the earthquake,” said Hiroshi Miyazaki, chief economist at Shinkin Asset Management Co. in Tokyo. “The government doesn’t have a sense of crisis about the yen and emerging economies are luring Japanese companies away.”

13--The No-Evictions Sheriff, YES Magazine

Excerpt: Cheri Honkala promises to be a sheriff who will stand up for families, not banks.

There’s a new sheriff in town—or there could be soon. Cheri Honkala, a single mom, sometimes homeless, who launched one of the country’s biggest multi-racial movements led by the poor and homeless, is running for sheriff of Philadelphia.

Her platform? No evictions. No throwing people out on the street because of a financial crisis that they didn’t create. Her slogan: “Keeping families in their homes and protecting the 'hood.”...

Cheri Honkala: For 25 years I’ve been trying to change things in the halls of Congress—trying to find a politician with a backbone to say that we have to have a moratorium on foreclosures. The banks are continuing to do whatever they want with the bailout money; they’re not modifying loans or finding ways to help people stay in their houses.

As Sheriff, I will use what's known as "selective enforcement"—I will refuse to rip down families’ doors and refuse to have my deputies throw them out. Instead, the Sheriff’s office will work with families that are in trouble: help them access resources; help them figure out how they can pay their mortgages.

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