Wednesday, November 30, 2011

Today's links

1--Watchdog leaves EU banks in dark on capital, Reuters

Excerpt: Europe's banking watchdog has delayed telling individual lenders how much capital they must raise to safeguard their survival until EU finance ministers can agree on broader plans to shore up confidence in the financial system.

The delay is a blow to banks and investors keen to get to grips with how much cash is needed as the bank sector faces multiple threats that threaten to spill over to the real economy.

The European Banking Authority (EBA) had planned to finalise by Wednesday how much cash banks need to meet a minimum 9 percent core capital -- a preliminary estimate had put it at 106 billion euros ($141.5 billion) for the 70 lenders under scrutiny.

But European Union finance ministers (Ecofin) meeting to discuss the euro zone debt crisis need to help banks as part of a wider plan. If they agree on the bank measures, the EBA is likely to release details next week, a spokeswoman for the EBA said.

The Ecofin meeting comes as concerns rise about a funding squeeze for banks next year, prompting many to step up plans to sell assets or portfolios of loans....

Banks are under pressure from worries about sovereign health, capital and liquidity, analysts said.

"For the funding markets to reopen, banks need a minimum of 160 billion euros (more capital) in a mild recession and 215 billion in a stress scenario," said Kian Abouhossein, analyst at JPMorgan.

If the credit market doesn't reopen, he said banks could face a "systemic problem" as they need to refinance 680 billion euros of debt next year. "We see funding as one of the key challenges in 2012," he said....

Commerzbank, which may face a capital shortfall of 5 billion euros, is considering transferring its loss-making real estate finance unit Eurohypo to the German state, sources close to the bank told Reuters.

The move could allow it to avoid a potentially punitive fresh state-aid inquiry by the European Commission. It has been ordered by the Commission to sell Eurohypo by the end of 2014 as a condition for approving state aid in 2008/09.

Societe Generale is selling property loans worth more than 600 million euros ($801 million) as it seeks to slash its exposure to the volatile sector and bolster its balance sheet, a person close to the situation said.

Rivals BNP Paribas and Credit Agricole and banks in Italy, Spain, Germany, Britain and Ireland are also deleveraging aggressively to meet tougher capital rules and ease funding strains.

That could put more pressure on sovereign debt or squeeze lending to the economy, according to a report prepared for the Ecofin meeting.

"There are serious concerns about a possible inappropriate deleveraging by banks when implementing the measures that would prejudice an adequate supply of lending to the real economy or put excessive additional pressure on sovereign debt," officials write in the report seen by Reuters.

2--Italy borrowing cost soars as euro pressure mounts, Reuters

Excerpt: Italy's borrowing costs hit a euro lifetime high of nearly 8 percent on Tuesday, taking the debt crisis to a new level of intensity hours before new prime minister Mario Monti was to meet euro zone finance ministers to set out his economic reform plans.

Two years into Europe's sovereign debt crisis, investors are fleeing the euro zone bond market, European banks are dumping government debt, deposits are draining from south European banks and a looming recession is aggravating the pain, fuelling doubts about the survival of the single currency.

Italy had to offer a record 7.89 percent yield to sell 3-year bonds, a stunning leap from the 4.93 percent it paid in late October, and 7.56 percent for 10-year bonds, compared with 6.06 percent at that time.

3--Merkel won't swap euro bonds for stability rules: MPs, Reuters

Excerpt: German Chancellor Angela Merkel will not make a deal at the upcoming European Union summit to stop resisting joint issuance of euro zone bonds in exchange for progress on strengthening fiscal rules, German MPs quoted her as saying on Tuesday.

Members of parliament from Merkel's center-right coalition said she told them in a closed-door meeting Europe was "a long way from euro bonds" as it made no sense to sanction euro states breaking fiscal rules on the one hand and reward them with lower interest rates via the collectivization of debt on the other.

The chancellor also reiterated her opposition to using the European Central Bank to solve the euro zone's debt problems by injecting unlimited liquidity.

4--Iceland wins in the end, Telegraph

Excerpt: The OECD has come very close to predicting a depression for Europe unless EU leaders conjure up a lender-of-last resort very quickly, and somehow manage to make the world believe that the EFSF bail-out fund really exists.

Even if disaster is avoided, the eurozone growth forecast is dreadful. Italy, Portugal, Greece will all contract through 2012, while Spain, France, Netherlands, and Germany will bounce along the bottom.

Unemployment will reach 18.5pc in Greece, 22.9pc in Spain, 14.1pc in Ireland, 13.8pc in Portugal.

Yet Iceland stands out, with 2.4pc growth and unemployment tumbling to 6.1. Well, well....

Had Iceland been in the eurozone, it would have been forced to pursue the same reactionary polices of "internal devaluation" and debt deflation being inflicted today on the mass ranks of unemployed across the arc of depression.

5--OECD calls for urgent EU action, warns of credit crunch, EU Observer

Excerpt: A bleak assessment from the Organisation for Economic Co-operation and Development (OECD) on Monday (28 November) warned that the eurozone crisis threatens the globe with a serious recession if left unresolved.

"The euro area crisis remains the key risk to the world economy," the Paris-based economic think-tank said in its biennial report, adding that the eurozone debt train crash could result in global liquidity seizing up.

"If not addressed, recent contagion to countries thought to have relatively solid public finances could massively escalate economic disruption. Pressures on bank funding and balance sheets increase the risk of a credit crunch."

The body cut its projections for growth across all OECD or developed countries from 2.3 percent in its last report to 1.6 percent in 2012, while EU states dropped in its estimations from two percent to 0.2 percent for next year.

6--Euro Zone on the Brink: A Continent Stares into the Abyss, Der Speigel

Excerpt: Business daily Handelsblatt writes:

"In the short term, Europe is the biggest threat to the global economy. Companies and investors are well advised to make contingency plans for a break-up of the euro zone. The euro can fail, even though no one wants it to. Much now depends on whether the next crisis summit on Dec. 9 will take steps towards a workable fiscal union while at the same time finding short-term funds to end the buyers' strike in bond markets....

It is now clear, however, that a broad retreat from the crisis-stricken countries is underway across almost all investor groups. "It's no longer just the banks. Now insurance companies, pension funds and even sovereign wealth funds are selling off euro-zone bonds," notes Joachim Fels, the Morgan Stanley economist. The fear of losses and of a breakup of the euro zone is driving investors away -- as are the politicians who have fueled this fear through poor decisions....

Offloading Bonds

Secondly, most banks are not trying to raise new money to reach the new equity capital requirement of 9 percent of total assets. This wouldn't even be possible, given the hyper-nervous markets. Instead, the banks are reducing the size of their balance sheets, and thus their capital requirements, by selling off assets -- such as government bonds.

According to a study by the Landesbank Baden-Württemberg (LBBW), a German state-owned bank, the banks in the core euro-zone countries have reduced their holdings of government, bank and company securities from the EU periphery by 25 percent, down to €1 trillion, since the beginning of 2010. "The trend (toward reduction) is likely to continue," the LBBW concludes....

The calendar is also accelerating the flight from government bonds. Banks, investment funds and insurance companies close their books shortly before the end of the year and make hardly any new investments. At the same time, they often sell off those securities that have brought them losses, like European government bonds. Few institutions would want to have to explain to investors why, after a debt crisis that has lasted almost two years, they are still sitting on the sovereign debt of crisis-ridden countries.

For all of these reasons, the debt-stricken nations are now cut off from access to new money, just as banks were after the Lehman Brothers' bankruptcy of 2008. Who will finance them in the future?...

Opening the Floodgates

The ECB's interventions are still somewhat justifiable, because they are limited in scope and in time. However, if the central bank were to open all the floodgates, as some are demanding, its actions would hardly be compatible with the European treaties. They expressly prohibit the ECB from financing the countries of the euro zone with the money presses. The Treaty on the Functioning of the European Union states that the central bank may not "purchase (debt instruments) directly...

Proponents of common bonds consider these calculations to be too pessimistic. In fact, they anticipate the trend moving in the opposite direction. Because the market for euro bonds would be of a similar size to the market for American treasury bonds, euro bonds would become more attractive. Common bonds would thus promote the role of the euro as a reserve currency. Both effects would increase demand for the new bonds, which in turn would bring down yields. It remains unclear whether this effect could offset the increase in interest rates.

7--German Constitutional Court at Risk of Losing Power, Der Speigel

Excerpt: behind the scenes, much more is at stake: the loss of power of the Constitutional Court in itself. The government and the court are locked in one of their biggest power struggles to date. One judge at the court described it as a "latent constitutional crisis." The government, he said, was trying to free itself of the restraints imposed on it by the constitution, and by the court.

The president of the court, Andreas Vosskühle expressed it a little more cautiously. The perception of his court was at present, he said "ambivalent in parts."

On the one hand, the court had been credited for ensuring that European unity remained on a secure legal and democratic footing, he said. But on the other hand, it "is seen by some as an obstacle in overcoming the current crisis."

Court May Lose Power to Rule on EU Matters

As a result, efforts underway in Berlin to change the constitution are being viewed with mixed feelings in Karlsruhe, where the court is located -- because they are aimed at opening up greater room for maneuver in future dealings with the court.

If the constitution were to be replaced with another version through a popular referendum, this would be radical, but couldn't be criticized. But it appears that some among Chancellor Angela Merkel conservatives are considering removing the court's control over the political process through a normal amendment of the constitution. The legislature could simply deprive the judges of their jurisdiction in questions of European integration.

8--SPIEGEL Interview with Romano Prodi: "Germany Must Make a Decision or the Game Is Over", Der Speigel

Excerpt: Prodi: Think about one thing: Why is it that nobody attacks the dollar? Looking at the United States budget, the dollar is in a much worse situation than the euro. The debt state of California is much worse off than the Greek one. But the dollar is defended, also by the Fed. That makes the dollar a big, strong dog. And nobody bites a big dog.

SPIEGEL: Could the euro become a big dog, too?

Prodi: If there is the political will. Look, Germany has a really powerful position right now. Germany is the new China.

SPIEGEL: Surely that is an overstatement.

Prodi: Let's take the German-French summit. By now it is a German-German summit. You cannot say it loudly, but it is true: Chancellor Merkel, in the end, is obliged to dictate the rules.

SPIEGEL: So you are convinced that the German attitude towards euro bonds has to change in order to solve the euro crisis?

Prodi: Germany has to take a decision for Europe, or the game is over. But I don't think there is anyone in Germany who is willing to give up Europe

9--Dollar Funding Costs at ‘08 Levels Flag Sustained Credit Crunch, Businessweek

Excerpt: The cost for European banks to fund in dollars rose to the highest level since October 2008 for a fifth day, indicating a longer-lasting credit crunch than that following the collapse of Lehman Brothers Holdings Inc.

The three-month cross-currency basis swap, the rate banks pay to convert euro payments into dollars, was 154 basis points below the euro interbank offered rate at 1:40 p.m. in London, from minus 149 basis points yesterday. The gap has widened from as little as minus 8 basis points on May 4....

Banks face more sustained funding pressure compared with 2008, because investors “are panicking about the exposure to sovereign debt and any fallout from a potential breakup of the euro,” said Marchel Alexandrovich, an economist at Jefferies International Ltd. in London. “Until the political mess is resolved and there is clarity on the future of the euro, banks are going to be shrinking their balance sheets, hitting economic growth in the process,” he said.

The one-year basis swap was at 103 basis points under Euribor, compared with minus 104 basis points yesterday, data compiled by Bloomberg shows. A basis point is 0.01 percentage point.


The Euribor-OIS spread, a measure of banks’ reluctance to lend to one another, rose one basis point to 94 basis points, data compiled by Bloomberg shows. A basis point is 0.01 percentage point. The spread, which is the difference between the borrowing benchmark and overnight index swaps, was at 98 basis points on Nov. 3, the widest since March 2009.

Lenders increased overnight deposits at the European Central Bank, placing 281 billion euros ($375 billion) with the Frankfurt-based ECB yesterday, up from 256 billion euros on Nov. 25.

10--European Credit Crunch Starting As Crisis Spreads To Private Sector, Forbes

Excerpt: Pressure on bank funding and balance sheets increase the risk of a credit crunch,” noted the OECD in a gloomy note released Monday. Analysts at Barclays concur, and provide further detail. “We [have arrived] at a risky situation for the euro area economy, with clear knock-on effects to corporate funding costs both in terms of higher sovereign yields and in terms of widening corporate credit spreads on top,” explained the analysts.

Rising sovereign bond yields, particularly in core eurozone economies like Germany and France, already puts pressure on corporate bond yields, given the “risk premium” investors pay in the private sector.

A bigger problem European corporates are facing is bank deleveraging, though. According to Barclays, bank deleveraging could total €500 billion to €3 trillion, or up to 10% of eurozone bank assets. Regulators have turned up the heat on European banks to strengthen their balance sheets and improve their core tier 1 capital ratios, having set a deadline of June 2012 to reach 9%.

Banks, therefore, are relying on deleveraging, as opposed to earnings growth. Deleveraging causes economic dislocations, with overall eurozone balance sheets shrinking about 10% or nearly one third of eurozone GDP....

Bank lending standards have tightened, Barclays suggests, and debt funding costs have risen sharply, both for financials and non-financials. “Historically, such a tightening of lending standards has presaged economic weakness and a consequent rise in high yield corporate credit default rates, typically with a 12-month lag,” wrote the analysts.

Tuesday, November 29, 2011

Today's links

1--Another Asian Wake-Up Call, Stephen S. Roach, Project Syndicate

Excerpt: Never before has America, the world’s biggest consumer, been so weak for so long. Until US households make greater progress in reducing excessive debt loads and rebuilding personal savings – a process that could take many more years if it continues at its recent snail-like pace – a balance-sheet-constrained US economy will remain hobbled by exceedingly slow growth.

A comparable outcome is likely in Europe. Even under the now seemingly heroic assumption that the eurozone will survive, the outlook for the European economy is bleak. The crisis-torn peripheral economies – Greece, Ireland, Portugal, Italy, and even Spain – are already in recession. And economic growth is threatened in the once-solid core of Germany and France, with leading indicators – especially sharply declining German orders data – flashing ominous signs of incipient weakness.

Moreover, with fiscal austerity likely to restrain aggregate demand in the years ahead, and with capital-short banks likely to curtail lending – a serious problem for Europe’s bank-centric system of credit intermediation – a pan-European recession seems inevitable. The European Commission recently slashed its 2012 GDP growth forecast to 0.5% – teetering on the brink of outright recession. The risks of further cuts to the official outlook are high and rising.

It is difficult to see how Asia can remain an oasis of prosperity in such a tough global climate. Yet denial is deep, and momentum is seductive. After all, Asia has been on such a roll in recent years that far too many believe that the region can shrug off almost anything that the rest of the world dishes out....

China – long the engine of the all-powerful Asian growth machine – typifies Asia’s potential vulnerability to such shocks from the developed economies. Indeed, Europe and the US, combined, accounted for fully 38% of total Chinese exports in 2010 – easily its two largest foreign markets.

The recent data leave little doubt that Asia is now starting to feel the impact of the latest global shock. As was the case three years ago, China is leading the way, with annual export growth plummeting in October 2011, to 16%, from 31% in October 2010 – and likely to slow further in coming months.

In Hong Kong, exports actually contracted by 3% in September – the first year-on-year decline in 23 months. Similar trends are evident in sharply decelerating exports in Korea and Taiwan. Even in India – long thought to be among Asia’s most shock-resistant economies – annual export growth plunged from 44% in August 2011 to just 11% in October.

2--Europe’s grand bargain, FT Alphaville

Excerpt: Published in September, the authors of this Occasional Paper, who include Jurgen Stark, spell out their ideas for the future of widely abused Stability and Growth Pact.....

1. All planned deficits in excess of 3 per cent of GDP should require unanimous approval across euro area governments. All planned deficits in excess of a country’s medium term objective (but less than 3 per cent of GDP) have to be approved by qualified majority.

2. A commitment to correct past fiscal slippages with essentially no room for discretion: countries to adopt national “debt brake” rules.

3. A country requiring assistance under the ESM is placed in financial receivership if its adjustment programme fails to remain on track, with the planning and execution of budgets requiring the agreement of the appointed financial receiver. This is necessary “where countries have no political consensus in support of reforms” to mitigate risks of countries failing to comply or defaulting.

4. Automatic fines and sanctions upon breach of the 3 per cent deficit limit.

5. All national countries introduce an independent budget office to produce budgetary forecasts, create an independent entity at European level to monitor national policies and administer ESM programmes.

3--European banks' asset sales face disastrous failure, IFR

Excerpt: European banks are being forced to abandon their efforts to sell off trillions of euros worth of loans, mortgages and real estate after a series of talks with potential investors broke down, leaving many already struggling firms with piles of assets they can barely support.

Lenders have instead turned their attention to reducing the burden of carrying such assets over months and years, with many looking at popular pre-crisis “capital alchemy” arrangements to minimise capital requirements and boost their ability to use the assets to tap central banks for cash.

Deadlocked talks with potential buyers – a mix of private equity firms, hedge funds, foreign banks and insurers – show little sign of making breakthroughs, say bankers taking part in those negotiations, with the stalemate threatening to block the industry’s ability to save itself from collapse through a mass deleveraging.

“European banks have spent far too long saying everything is fine, when it really isn’t,” said one banker at a US bank who has been advising European clients on their options. “They are slowly realising that they just won’t be able to do what the market is expecting. We are edging slowly closer to the depths of the crisis.”

Some of Europe’s largest banks, including BNP Paribas and Societe Generale, have in recent weeks pledged to sell assets. Together, firms are expected to shrink their balance sheets by as much as €5trn over the next three years – equivalent to about 20% of the region’s total annual economic output – through a combination of sales, asset run-off and recapitalisations.

Draconian measures

A funding squeeze has prompted the Draconian measures. Since the summer, most banks have been unable to tap traditional sources such as unsecured bond markets. As old debts come due – some €1.7trn will roll over in the next three years alone – banks need to find cash to avoid bankruptcy.

“Banks are feeling pain on both sides of the balance sheet,” said Alberto Gallo, head of European credit strategy at RBS. “On the one side you have a funding squeeze with banks unable to raise cash in the capital markets. At the same time, many of the assets they hold are deteriorating in quality.”

“Banks need to reduce their balance sheets as much as €5trn in assets over the next three years or so,” he added. “The problem is that there just aren’t enough buyers. Most banks will be forced to hold on to much of this stuff to maturity, which will affect their ability to lend and impact on the real economy.”

People involved in asset sale talks say price is the major sticking point. Lenders want only to sell higher-quality assets near to par value so as to avoid huge write-downs, which would erode capital further. By contrast, potential buyers want high-yielding investments and are offering only knock-down prices.

“There is a huge amount of liquidity among investors right now, but they only want to buy at distressed prices,” said Stefano Marsaglia, a chairman within the financial institutions group at Barclays Capital. “Lots of discussions are taking place but there is a gulf in terms of pricing.”...

There is also a vast overhang of unsold assets from the initial part of the crisis. Many banks such as Commerzbank, RBS, WestLB and even the Irish government set up legacy units – or bad banks – that were charged with winding down and selling those assets. That process is still ongoing.

Without the cash that would have been generated through outright asset sales, struggling European banks are now looking at alternative levers. The problem is that traditional options such as issuing equity, increasing deposits or consolidation just aren’t feasible.

That has prompted banks to turn to more creative solutions, with some now looking at what one banker termed as pre-crisis “capital alchemy” arrangements to reduce capital needs. Such methods can also in some cases make assets which banks hold to maturity eligible for ECB repo operations.

Securitisation is at the heart of such arrangements. Assets with low ratings are pooled together into diversified portfolios in order to attain a higher rating. The resulting asset requires less cash and as a result of the higher rating can be more readily pledged to the ECB or to other banks to borrow against...

Still, the practice is not a panacea to banks’ asset and liability problems. Although it can open the door to using ECB repo facilities by making collateral meet strict eligibility criteria, assets pledged are still subject to a haircut, meaning banks cannot borrow enough to fund the asset in question.

Use of the facility is surging, nevertheless. ECB lending to banks spiralled this week, with 178 lenders requesting €247bn in one-week loans, the highest in two years. Bankers warn that if banks are unable to sell assets, the ECB will have to play a much bigger role in funding banks.

“Natural deleveraging through not renewing loans is one of the few options remaining to banks to shrink their balance sheets, but the timetable for implementing this kind of strategy can be very protracted,” said Ryan O’Grady, head of fixed income syndicate for EMEA at JP Morgan.

4--A Minsky moment in the eurozone?, FT Alphaville

Excerpt: Named after the economist Hyman Minsky, the phrase describes a situation where investors who have borrowed too much are forced to sell even good assets to pay back their loans.....

Financial institutions sometimes have to sell their stronger assets rather than their lower-quality assets since these can provide greater liquidity and may enable the booking of a profit. This partly explains why Bunds have encountered recent selling pressure which has limited their value as a safehaven asset. Similarly, the European AAA supras market has seen a notable blow-out in spreads and decline in market liquidity as investors look to exit positions and as banks have limited ability to warehouse risk...

Hence the question is: are Bunds experiencing downwards price pressure because they are now perceived as more risky?... Or, are they experiencing price pressure because some investors are selling them in order to bolster their cash holdings, given the very high price that can be obtained?...

Unable to tackle the numerator of the capital ratio, banks are by necessity taking aim at the denominator and shrinking assets....

And of course, one of the most natural forms of delevaging is to not extend new loans in the first place.

In this febrile environment, beware the looming presence of a potential tipping point in bond auctions, Nomura says:

A few failed bond auctions away from region-wide dual equilibrium?

Given the combination of an asymmetry of risk and bank deleveraging, forthcoming semi-core bond auctions comprise event risks. One can easily build a scenario whereby an adverse series of events results in a marked increase in the risks of a euro break-up: a failed bond auction or sequence of failed bond auctions in a semi-core country could result in banks residing in that country facing a withdrawal of liquidity and deterioration in counterparty relationships. This dynamic is critical to understand, since governments rarely choose to break currency pegs or FX arrangements, but rather they tend to be forced to do so through market pressure and runs on liquidity. Under this scenario, the risk asymmetry would be magnified, and the runs on liquidity would risk broadening to other markets and countries. It would be difficult to predict the nature of any such break-up or the composition of any slimmed-down-euro” since it would be highly unlikely that one country would face these pressures in isolation.

5--Retail sales fall at fastest pace since March - CBI, Telegraph

Excerpt: High street sales have fallen at their fastest rate in almost three years as the household squeeze continued to take its toll on retailers, raising fresh fears about the recovery, according to research by the CBI.

The scale of decline in annual sales growth for November was far more severe than expected, at minus 19, and far worse than the minus 11 recorded in October, the CBI’s Distributive Trades Survey showed. It was the lowest recording since March 2009. ...

The latest survey follows other bleak data. This month, the Nationwide Building Society revealed that consumer confidence had fallen to a record low in October.

6--Should the Fed save Europe from disaster?, Telegraph

Excerpt: The dam is breaking in Europe. Interbank lending has seized up. Much of the financial system is paralysed, setting off a credit crunch just as Euroland slides back into slump

The Euribor/OIS spread or`fear gauge’ is flashing red warning signals. Dollar funding costs in Europe have spiked to Lehman-crisis levels, leaving lenders struggling frantically to cover their $2 trillion (£1.3 trillion) funding gap.

America’s money markets are no longer willing to lend to over-leveraged Euroland banks, or only on drastically short maturities below seven days. Exposure to French banks has been slashed by 69pc since May.

Italy faces a “sudden stop” in funding, forced to pay 6.5pc on Friday for six-month money, despite the technocrat take-over in Rome....

Unless Germany agrees to the full mobilization of the European Central Bank very fast, the eurozone will spiral out of control. As The Economist put it, “The risk that the currency disintegrates within weeks is alarmingly high.”...

If break-up occurs in a disorderly fashion, with Club Med states and Ireland spun into oblivion one by one, the chain reaction will cause an implosion of Europe’s €31 trillion banking nexus (S&P estimate), the world’s biggest and most leveraged. This in turn risks an almighty global crash – first class passengers included.

7--Fed will buy more mortgage securities, Housingwire

Excerpt: A third round of economic stimulus based on the Fed's consumption of mortgage securities could be right around the corner. In its 2012 Securitized Products Outlook report, JPMorgan (JPM: 28.48 0.00%) suggested there is a wild card on the table—namely "QE3 in mortgages."

That prediction was backed up by two bond dealers interviewed by BusinessWeek over the weekend. According to the BusinessWeek article, the dealers expect the Federal Reserve to begin a new round of economic stimulus by buying up mortgage securities instead of Treasuries.

French investment bank Société Générale believes a third round of quantitative easing from the Federal Reserve will be announced in January. The buying, they expect, will begin soon after in March....

When looking at just non-agency residential mortgage-backed securities, the report says "market volatility, lack of liquidity and stagnant fundamentals" will remain drags on the entire segment in 2012. In non-agency residential mortgage-backed securities, the authors also noted slowing activity on the modification front. "We continue to recommend fixed-rates and select seasoned hybrids," the report said.

8--The recovery in the OECD area has now slowed to a crawl, Pragmatic Capitalism

Excerpt: The OECD’s latest economic outlook provides a very nice summary of global events:

“The recovery in the OECD area has now slowed to a crawl, notwithstanding a short-lived rebound from the restoration of global supply chains disrupted by the Japanese earthquake and its aftermath. Emerging market output growth has also continued to soften, reflecting the impact of past domestic monetary policy tightening, sluggish external demand and high inflation. Against this background, the protracted fiscal-policy discussions in the United States and the deepening euro area crisis have highlighted the role of destabilising events and policies as well as the reduced political and economic scope for macroeconomic policies to cushion economies against further adverse shocks. In turn, this has heightened risk awareness and uncertainty, with a corresponding drop in confidence, both in financial markets and in the non-financial private sector. Lower confidence will weigh on the global economy in the coming quarters....

Decisive policies must be urgently put in place to stop the euro area sovereign debt crisis from spreading and to put weakening global activity back on track, says the OECD’s latest Economic Outlook.

The euro area crisis remains the key risk to the world economy, the Outlook says. Concerns about sovereign debt sustainability are becoming increasingly widespread. If not addressed, recent contagion to countries thought to have relatively solid public finances could massively escalate economic disruption. Pressures on bank funding and balance sheets increase the risk of a credit crunch.

Another serious downside risk is that no action would be agreed to offset the large degree of fiscal tightening implied by current law in the United States. This could tip the economy into a recession that monetary policy could do little to counter.

“Prospects only improve if decisive action is taken quickly,” said OECD Chief Economist Pier Carlo Padoan. “In the euro area, the risk of contagion needs to be stemmed through a substantial increase in the capacity of the European Financial Stability Fund, together with a greater ability to call on the European Central Bank’s balance sheet. Much greater firepower must be accompanied by governance reforms to offset the risk of moral hazard,” he said.

9--Dollar Funding Costs Rise to 3-Year High in Euro Money Markets, Bloomberg

Excerpt: The cost for European banks to fund in dollars rose to the highest levels in three years, according to money-market indicators.

The three-month cross-currency basis swap, the rate banks pay to convert euro payments into dollars, was 148 basis points below the euro interbank offered rate at 11:53 a.m. in London, from minus 146 Nov. 25. The measure is the most expensive on a closing basis since October 2008.

The one-year basis swap was little changed at 100 basis points under Euribor, data compiled by Bloomberg show. A basis point is 0.01 percentage point.

A measure of banks’ reluctance to lend to one another in Europe was little changed. The Euribor-OIS spread, the difference between the borrowing benchmark and overnight index swaps, held at 93 basis points. The difference was 98 basis points on Nov. 3, the widest since March 2009.

Lenders increased overnight deposits at the European Central Bank, placing 256 billion euros ($342 billion) with the Frankfurt-based ECB on Nov. 25, up from 237 billion euros the previous day. That compares with a year-to-date average of 78 billion euros.

Three-month Euribor, the rate banks say they pay for three- month loans in euros, rose to 1.477 percent from 1.475 percent on Nov. 25. One-week Euribor fell to 0.909 percent from 0.911 percent on Nov. 25.

The dollar London interbank offered rate, or Libor, for three-month dollar loans rose to 0.523 percent from 0.518 on Nov. 25, data from the British Bankers’ Association showed. That’s the highest level since July 15, 2010.

Monday, November 28, 2011

Today's links

1--Options Dwindle for Euro Crisis, WSJ

Excerpt: The biggest question in Europe isn't what it was a few weeks ago. It is no longer just whether any of the 17 governments in the euro zone will default on its debts; increasingly it is whether the euro zone will survive in its current form at all....

concern over German bonds drove their yields up to near-convergence with the U.K.'s sovereign debt, which has no clear advantage beyond not being in euros. In recent weeks, borrowing costs for financially strong euro-zone governments such as the Netherlands and Finland have increased. Other high-rated European bonds—such as those for the European Financial Stability Facility—have struggled to find buyers.

If the first phase of the crisis saw investors fleeing from the periphery of the currency union to its core, the second has them fleeing the euro area altogether.

"This looks like an issue that is wider than just Germany. We think it is about the market attempting to price a breakup of the euro," wrote analysts Stephane Deo and Matteo Cominetta of UBS Investment Research Thursday. Investors they visited this week in Asia are questioning the willingness of governments to keep the euro zone together, they report: "As a result investors may seek to disinvest from Europe."...

Bond investors bought French government bonds knowing they would face interest-rate risk: Unless they hedged, they would lose money if interest rates rose. But it's only recently that it has dawned that French bonds expose them to another type of risk that conservative investors try to avoid: credit risk, the prospect that they may not be paid back in full and on time....

The reason this emerges with France, and not the equally indebted U.K., is because of uncertainty about the role of the ECB.

The central bank is resisting taking on the explicit role of lender of last resort for euro zone governments. Ms. Merkel, accompanied by the leaders of France and Italy, reiterated her support for its stance Thursday.

The ECB says it isn't a choice—it and many legal experts believe it would go beyond its charter to routinely buy national debt. It justifies its limited bond-buying as necessary for smooth workings of its monetary policy. Its consideration Thursday of longer-term loans to banks comes under a similar heading.

But without the promise of a central bank stepping in as a last resort, a government liquidity crisis is always at risk of turning into a solvency crisis. In the U.K., the Bank of England would step in as a buyer of government bonds.

Most investors have been assuming that the ECB has been, as Mr. Balls says, playing a "chicken strategy," waiting until the last minute to intervene decisively. First, the bank is presumed to want a cast-iron commitment on strict budgetary discipline by governments and the true integration of fiscal policies, including perhaps a common euro bond proposal as put forward by the European Commission this week.

2--Bond market hammers Italy, Spain ponders outside help, Reuters

Excerpt: Italy's borrowing costs soared to their highest levels since Rome joined the euro on Friday, piling pressure on the newly installed government of Mario Monti at the end of a week in which the euro zone crisis tainted even safe haven Germany.

A punishing bond sale, in which Italy was forced to pay a record 6.5 percent for six months paper, came after a disastrous German bond auction earlier in the week and the leaders of France, Germany and Italy failed to make headway in tackling the growing debt crisis.

Amid signs that the euro zone contagion is spreading, indications emerged in Madrid that the People's Party, getting ready to form a government in the coming weeks, may apply for international aid to shore up its finances.

After winning an election this month, the PP under Mariano Rajoy inherits an economy on the verge of recession, a tough 2012 public deficit target, financing costs driven to near unsustainable levels by nervous debt markets and a battered bank sector with billions of euros of troubled assets on its books.

3--Eurocarnage Continues: Things are only going from bad to worse in Europe, naked capitalism

Excerpt: German bond yields were also higher than they were after Wednesday’s terrible bunds auction. Stunningly, Belgian ten year yields have risen more than 1% this week, from 4.79% to 5.85%, with a downgrade of Belgium to AA by Standard & Poors no doubt contributing.

The Financial Times also reports that investors are fleeing Eurobank stocks:

Uninvestable is just about the worst word in a shareholders’ vocabulary.

The term – meaning that the market sees no point at all in investing in a certain asset – is being used increasingly when talking about European banks.

“It is an absolute disaster zone. I wouldn’t touch them. You couldn’t make me buy a bank,” says Paul Casson, director of pan-European equities at Henderson Global Equities.

Even some bank chief executives seem to agree. “I’d be very interested to see the investor who is prepared to put more capital towards UK banks. All of them are thinking that’s a dumb place to put capital,” Stephen Hester, chief executive of RBS, the part-nationalised UK lender, said this week.

The fact that Portugal was downgraded to junk by Fitch was simply yet another bad bit of news, when months ago, it would have been seen as significant in its own right. Ditto the Moody’s downgrade of Hungary.

Perhaps I’m too far from the carnage to have an accurate reading, but the news reports seem more anesthetized than shellshocked. It seems almost as if the European leadership has successfully faked its way through so many past crunches that they are unable to perceive that the same old tricks are no longer working. And it is increasingly looking as if their dulled reaction times are so out of line with market events that even if they were to snap our of their stupor now, it would be too late

4--Dollar Funding Pressure at 3-Year High, WSJ

Excerpt: A closely watched money-market indicator of dollar-funding costs rose Friday to its highest level in more than three years, despite the continued availability of dollars in the global financial system.

The cost of swapping three-month euro funds into U.S. currency rose to its highest level since October 2008, in the wake of Lehman Brothers' bankruptcy, due to a wave of forward-selling of euros against the dollar.

"There's a very definitely a ramping in demand for dollars this morning," said ICAP strategist Chris Clark.

The so-called three-month euro-dollar cross-currency basis swap sank to as low as minus 161 basis points, around five times what it was in July, before settling back to minus 152.5 basis points, interdealer broker ICAP said.

The deepening of the euro-zone sovereign debt crisis and concerns over the creditworthiness of European banks due to their heavy sovereign-bond holdings means European banks are paying a growing premium to access dollars and dealers are being forced to lend euros at ever-lower interest rates in order to get dollars in return.

On Friday, they charged as much as 1.61 percentage points below the prevailing rate banks charge each other to lend euros over a three-month period. That rate, known as Euribor, was fixed at 1.475% Friday for three-month loans, up from 1.474% Thursday.

That means money-market participants are now willing to pay banks to borrow euros in order to receive dollars for the first time since the global financial crisis, ICAP's Mr. Clark said....

Major central banks also have dollar-swap facilities in place which dollar-starved banks can tap, although their punitive cost and worries over the potential loss of reputation has so far held back bank-use of these credit lines.

But the more costly it becomes for banks to borrow from each other, the more lucrative it may become for dollar-starved financial institutions to go to the European Central Bank.

5--ECB Considers Longer Bank Loans, WSJ

Excerpt: The European Central Bank is considering longer-term loans to commercial banks having trouble securing funding, as officials scramble to keep the region's government debt crisis from crippling the Continent's banking system.

Such a move would help banks shut out of the market for medium-term funds. But some analysts questioned whether more loans—even at longer maturities—would provide a lasting solution, given the root problem is the government debt of Greece, Italy and other struggling euro members that banks hold on their balance sheets

6--Poor German auction spells tough times for euro, Reuters

Excerpt: Weak demand at a German debt auction suggests investors are starting to shun even the euro zone's strongest economy, which could trigger more losses in the shared currency as many shift from euro-denominated assets to safe havens outside the region.

As Italian, Spanish and even French yield spreads have blown out to record levels in recent weeks, the trend has been for portfolio flows to switch into German Bunds, resulting in no foreign exchange outflows from the euro zone.

Those flows, combined with talk of repatriation of capital by euro zone banks desperate to shore up their balance sheets as money markets seize up, have been cited as reasons behind the euro's recent resilience around $1.34.

But that appears to be changing and on Thursday the euro slid to a 7-week low at $1.3316 on trading platform EBS.

Germany sold barely half the bonds it put up for auction on Wednesday, when a buyers' strike against the low yields on offer was fuelled by fears that Berlin could not remain immune from the crisis engulfing its heavily indebted euro partners.

In a sign that investors are cutting exposure to the euro zone as a whole, 10-year Bund yields converged with UK gilts for the first time in 2-1/2 years.

7--Another terrible day for Europe, UK Bubble

Excerpt: Can Europe survive another day like yesterday? The financial pages and the news wires carried an unrelenting series of bad news stories.

Portugal, from the BBC....

Portugal has had its debt rating cut by Fitch to so-called "junk" status, and warned it could be cut again.

Fitch made the downgrade because of its "large fiscal imbalances, high indebtedness across all sectors and adverse macroeconomic outlook".

Belgium, from Bloomberg...

Belgium’s credit rating was cut one step to AA by Standard & Poor’s, which said bank guarantees, lack of policy consensus and slowing growth will make it difficult to reduce the euro region’s fifth-highest debt load.

The rating was lowered from AA+, with a negative outlook, London-based S&P said yesterday in a statement. The action by S&P is the first downgrade for Belgium in almost 13 years and puts its credit ranking on a par with the S&P local-currency ratings of the Czech Republic, Kuwait and Chile.


The foreign- and local-currency bond ratings were cut one step to Ba1 from Baa3, the company said in a statement yesterday. Moody’s assigned a negative outlook. The country is rated the lowest investment grade at Standard & Poor’s and Fitch Ratings.

Hungary’s foreign-currency debt maturing next year will soar to 1.37 trillion forint ($5.8 billion), a 48 percent increase from this year. That will rise to 1.48 trillion forint in 2013 and peak at 1.65 trillion forint in 2014 as Hungary repays the 20 billion-euro ($26.5 billion) bailout. Hungary had $51.3 billion in foreign-exchange reserves at the end of September, according to Bloomberg data.

Italy, from the Telegraph...

Italy had to pay record rates in a €10bn bond sale, despite reports that the European Central Bank was buying Italian debt in the secondary market to try to support the auction.

The auction will be a blow to Mario Monti, the new Italian prime minister, who is battling to persuade markets that he can reduce the €1.9 trillion debt burden.

Italy sold six-month debt for a yield of 6.504pc - nearly double the 3.5pc yield demanded by investors at an auction at the end of October.

The auction will be a blow to Mario Monti, the new Italian prime minister, who is battling to persuade markets that he can reduce the €1.9 trillion debt burden of the eurozone's third largest economy.

Greece, from Reuters....

Greece's budget deficit will not fall below a key euro zone ceiling in 2014 as planned, if the debt-laden country fails to decide additional austerity measures in June, a set of updated forecasts revealed on Friday.

Assuming no more measures are taken, the budget gap will narrow to just 4.2 percent of gross domestic product in 2015 instead of the 1.1 percent assumed under a previous set of forecasts made in June, the finance ministry data showed.

8--Europe’s insoluble problems, Felix Salmon, Reuters

Excerpt: El-Erian is very good at explaining the problem which needs solving:

Europe must still stabilize its sovereign debt situation. But this is now far from sufficient. Policymakers must also move quickly to contain banking sector frailties, and do so using a more coherent approach to the trio of capital, asset quality and liquidity.

It seems to me, though, that sequencing matters here. Liquidity is — always — more important than capital/solvency. Give an insolvent bank enough liquidity, and it can live indefinitely. Remove liquidity from a bank, and it dies immediately, no matter how solvent it might be or how high its capital ratios are. And as for asset quality, we’re pretty much talking a zero-sum game here: when the banks’ dubious assets are the sovereign’s liabilities, the real solution is inflation, not nationalization.

And as for banks’ non-sovereign assets, good luck with selling those. The shadow banking sector knows exactly what happens to asset prices when sellers put €5 trillion of those assets on the market at once, and there’s literally no one out there who would dream of buying such things at or near par.

In every crisis there’s a point of no return — if you don’t do XYZ in time, it’s too late, and the crisis is certain to get out of anybody’s control. I’m increasingly convinced we’ve already passed that point of no return in Europe. The banks won’t lend to each other, the Germans won’t do Eurobonds, and the ECB won’t act as a lender of last resort. The confidence fairy has left the continent, and she isn’t about to return. Which means, as we used to say in 2008, that things are going to get worse before they get worse.

9--Fed Watch, Greece Again, economist's view

Excerpt: Greece is now taking a direct role in negotiations. Remember that the previous haircuts were "voluntary" and negotiated by Greece's European overlords to prevent triggering a credit event and CDS payouts. And one has to believe that "following the October agreement" implicitly means the Greeks will not upset the apple cart and trigger a credit event unilaterally. But if Greece is at the table forcing lenders to take massive haircuts, it will be virtually impossible to justify that this is not a technical default.

This is shaping up to be the final test of the credibility of the sovereign CDS market - either exposure is hedged or it is not. Interestingly, either outcome is potentially catastrophic, with the end result being either the unknown outcomes of triggering CDS payouts or a complete flight from European sovereign debt. Maybe both.

I really hope somebody at the ECB is sticking around to work this weekend.

10--Mysterious Europe, Paul Krugman, NY Times

Excerpt: ...the underlying eurozone story is pretty clear and simple. After the creation of the euro, investors developed a false sense of security about lending to peripheral economies; this led to large capital flows from the core to the periphery, and corresponding current account imbalances: (chart)

These capital inflows also caused a boom in the periphery that raised costs and prices dramatically compared with the core: chart

Now all of that has to be unwound. So how is that supposed to happen?

It seems obvious that spending cuts in the periphery have to be offset by spending increases in the core, and also that a way has to be found to make the required real depreciation in the periphery feasible. But eurozone policy is for austerity everywhere, and a low inflation target for the area as a whole, which means crippling deflation in the periphery.

So where is the story about how this is supposed to work?

As far as I can tell, European policy makers aren’t even thinking about scenarios. They’re just repeating the old slogans about stable prices and fiscal responsibility, with no narrative at all about how pursuing those virtues can be consistent with European recovery.

Even a few months ago I regarded a complete euro crackup as highly implausible. Now I’m having trouble finding a plausible story about how the thing survives.

11--More on the Big Lie, The Big Picture

Excerpt: Nonbank mortgage underwriting exploded from 2001 to 2007, along with the private label securitization market, which eclipsed Fannie and Freddie during the boom.

Check the mortgage origination data: The vast majority of subprime mortgages — the loans at the heart of the global crisis — were underwritten by unregulated private firms. These were lenders who sold the bulk of their mortgages to Wall Street, not to Fannie or Freddie. Indeed, these firms had no deposits, so they were not under the jurisdiction of the Federal Deposit Insurance Corp or the Office of Thrift Supervision. The relative market share of Fannie Mae and Freddie Mac dropped from a high of 57 percent of all new mortgage originations in 2003, down to 37 percent as the bubble was developing in 2005-06.

Private lenders not subject to congressional regulations collapsed lending standards. Taking up that extra share were nonbanks selling mortgages elsewhere, not to the GSEs. Conforming mortgages had rules that were less profitable than the newfangled loans. Private securitizers — competitors of Fannie and Freddie — grew from 10 percent of the market in 2002 to nearly 40 percent in 2006. As a percentage of all mortgage-backed securities, private securitization grew from 23 percent in 2003 to 56 percent in 2006.

Only one of the top 25 subprime lenders in 2006 was directly subject to the housing laws overseen by either Fannie Mae, Freddie Mac or the Community Reinvestment Act — Source: McClatchy


These firms had business models that could be called “Lend-in-order-to-sell-to-Wall-Street-securitizers.” They offered all manner of nontraditional mortgages — the 2/28 adjustable rate mortgages, piggy-back loans, negative amortization loans. These defaulted in huge numbers, far more than the regulated mortgage writers did.

Consider a study by McClatchy: It found that more than 84 percent of the subprime mortgages in 2006 were issued by private lending. These private firms made nearly 83 percent of the subprime loans to low- and moderate-income borrowers that year. And McClatchy found that out of the top 25 subprime lenders in 2006, only one was subject to the usual mortgage laws and regulations.

A 2008 analysis found that the nonbank underwriters made more than 12 million subprime mortgages with a value of nearly $2 trillion. The lenders who made these were exempt from federal regulations.

A study by the Federal Reserve shows that more than 84 percent of the subprime mortgages in 2006 were issued by private lending institutions. The study found that the government-sponsored enterprises were concerned with the loss of market share to these private lenders — Fannie and Freddie were chasing profits, not trying to meet low-income lending goals.

12--When Credit Bites Back: Leverage, Business Cycles, and Crises, SF Fed

Excerpt: Abstract:

This paper studies the role of leverage in the business cycle. Based on a study of nearly 200 recession episodes in 14 advanced countries between 1870 and 2008, we document a new stylized fact of the modern business cycle: more credit-intensive booms tend to be followed by deeper recessions and slower recoveries.

We nd a close relationship between the rate of credit growth relative to GDP in the expansion phase and the severity of the subsequent recession. We use local projection methods to study how leverage impacts

the behavior of key macroeconomic variables such as investment, lending, interest rates, and inflation.

The effects of leverage are particularly pronounced in recessions that coincide with nancial crises, but are also distinctly present in normal cycles. The stylized facts we uncover lend support to the idea that

nancial factors play an important role in the modern business cycle.

13--Europe's IMF End-Run, WSJ

Excerpt: German Chancellor Angela Merkel attracted scorn this week for rejecting another idea from the self-appointed committee to save the euro. That would be the proposal for the European Central Bank to lend to the International Monetary Fund, so that the Fund in turn can lend even greater amounts to troubled euro-zone economies.

The IMF has already committed €78.5 billion to the Greek, Irish and Portuguese bailouts, or roughly a third of the total. (The EU put in the rest.) An Italian or Spanish collapse would need a bigger backstop, though, and the ECB is the only institution in Europe with the power to print the money that an Italy or Spain would need.

The central bank and its printing press might already be doing more in this crisis but for that pesky thing called EU law, which forbids the ECB from directly financing euro-zone governments. That's where the IMF steps in to play the bag man. Since it's perfectly lawful for the central bank to transact with the IMF, that loophole has some officials in Brussels and at the Fund salivating. The word is that EU policy makers are looking to have a lending agreement ready in time for their next summit, on Dec. 9.

For European leaders, laundering ECB lending through the IMF has one big additional advantage, on top of being an end-run around EU law. When the EU lends to periphery economies, only EU taxpayers carry the risk of loss in the event of sovereign default. But when the IMF lends, taxpayers around the world share the risk, with Americans taking the largest helping...

The problem here is as much with the proper role of the central bank as it is about global taxpayer exposure to the euro mess. The ECB is already in dubious legal territory for the €187 billion it's holding in euro-zone sovereign debt. Making it an IMF creditor would thrust it deeper into the political and fiscal arenas, in abnegation of the central bank's monetary independence.

14--Germany, France plan quick new Stability Pact, Reuters

Excerpt: German Chancellor Angela Merkel and French President Nicolas Sarkozy are planning more drastic means - including a quick new Stability Pact - to fight the euro zone sovereign debt crisis, Welt am Sonntag reported on Sunday.

The Sunday newspaper reported in an advance before publication that if necessary Germany and France were ready to join a number of countries in agreeing to tough budget discipline.

The report, which echoed a Reuters report on Friday from Brussels, quoted German government sources as saying that the crisis fighting plan could possibly be announced by Merkel and Sarkozy in the coming week.

The report said that because it would take too long to change existing European Union treaties, euro zone countries should avoid such delays be agreeing to a new Stability Pact among themselves - possibly implemented at the start of 2012.

Based upon these measures, there should be a majority within the ECB for a stronger intervention in capital markets," Welt am Sonntag said. It quotes a central banker as saying: "If the politicians can agree to a comprehensive step, the ECB will jump in and help."

In Brussels on Friday, euro zone officials said a push by euro zone countries towards very close fiscal integration could give the ECB the necessary room for manoeuvre to scale up euro zone bond purchases and stabilise markets.

The ECB, which cannot directly finance governments, has been buying Italian and Spanish bonds on the secondary market since August to try to keep down borrowing costs for the euro zone's third and fourth largest economies and contain the spreading of Europe's sovereign debt problem.

Such tight fiscal integration is being considered by France and Germany, the officials said, with Berlin pushing to change the European Union treaty so that a country could be sued for breach of EU budget rules in the European Court of Justice.

The European Commission, the EU executive arm, put forward proposals on Wednesday to grant it intrusive powers of approval of euro zone budgets before they are submitted to national parliaments, which, if approved, would effectively mean ceding some national sovereignty over budgets.

This could lead to joint debt issuance for the euro zone, where countries would be liable for each others' debts.

Friday, November 25, 2011

Weekend links

1--U.S. Workers’ Pay Slide Poses Consumer Risk, Bloomberg

Excerpt: Income gains in the U.S. are slowing and workers’ slice of the earnings pie is shrinking, raising the risk that consumer spending slackens next year.

Gross domestic income, or the money earned by the people, businesses and government agencies whose purchases go into calculating growth, rose at an average 2.8 percent annual rate from April through September after climbing 4.3 percent in the previous six months, Commerce Department data on Nov. 22 showed. Employee compensation last quarter accounted for its smallest share since 1955.

In contrast, the portion accruing to corporate profits was the biggest since 1950, showing companies are hoarding cash as concern grows that a European country will default on its debt and that deficit-reduction gridlock in Washington will continue. Without more pay and a pickup in hiring, households may ring in 2012 by making their own budget cuts.

“Businesses are very cautious so they’re not hiring and they’re not distributing their profits to consumers as they had in past expansions,” said Michelle Meyer, a senior U.S. economist at Bank of America Corp. in New York. “With slow wage and salary growth, consumer spending will be on a sluggish trajectory.”

2--Fed Watch: Europe Can't Move Fast Enough to Halt Crisis, Tim Duy, economist's view

Excerpt: Europe Can't Move Fast Enough to Halt Crisis, by Tim Duy: Today the leaders of Germany, France, and Italy came together, offering a commitment to work toward new fiscal rules in Europe while keeping a leash on the European Central Bank. From the Wall Street Journal:

The leaders of the euro zone's three largest economies pledged Thursday to propose modifications to European Union treaties to further integrate economic policy and crack down on profligate spenders, but they played down suggestions that the European Central Bank have a greater crisis-busting role.

It should be painfully evident at this point that any process toward greater fiscal integration will be a years-long process. Financial markets, however, move at something much closer to the speed of light - as fast as traders can hit the "sell" button. As such, the European political process is grossly incapable of addressing the fiscal crisis.

3--Death By Accounting Identity, Paul Krugman, NY Times

Excerpt: Martin Wolf has a somewhat despairing-sounding column this morning, in effect pleading with the Cameron government to admit that the laws of arithmetic must apply. Good luck with that.

Martin writes,

If the private sector is seeking to run down its debts, it is hard for the government to do so, too, because everybody cannot spend less than their income. That is the “paradox of thrift”. No, it is not a novel idea.

Ah, but for the past two years leaders in the Eurozone, Britain, and the US Republican party have subscribed to the following plan:

1. Slash government spending

2. ??????

3. Prosperity!
For a while ???? was framed in terms of the doctrine of expansionary austerity: slash spending and the confidence fairy would make private-sector spending rise. At this point, however, few still believe in this doctrine. Also, in the euro area it was hard to see how things would work even if the confidence fairy made an appearance; how was that supposed to resolve the large payments imbalances between the core and the periphery?

But even as the intellectual foundations, such as they were, for the austerity plan have been demolished, the plan itself remains unchanged.

4--European banks: Gone ECBing, FT Alphaville

Excerpt: Morgan Stanley is not making recommendations about which European banks to invest in. They are just telling you which ones are even worse than other ones, as they go through the exercise of banks deleveraging assets to the tune of somewhere between €1,500bn and €2,500bn. More…

Morgan Stanley is not making recommendations about which European banks to invest in. They are just telling you which ones are even worse than other ones, as they go through the exercise of banks deleveraging assets to the tune of somewhere between €1,500bn and €2,500bn. From the introduction of their report published this Friday:

We make no changes to our most/least preferred today, although we are very conscious the call here is more relative than absolute until we see a “regime change” in the way Europe is handing sovereign crisis, given our concerns of bank deleveraging, stress in bank funding, stress in bank capital and fiscal consolidation being very negative for economies and thereby bank earnings.

That is to say that the analysts are concerned that the banks can’t fund themselves, they are dumping assets as a result, the debt they have issued is being battered in secondary markets, and fiscal consolidation in Europe isn’t going to improve the outlook either. And by “regime change” we think they mean that policy-makers opting to take a more pro-active, hands-on approach rather than relying on announcements that ultimately amount to nothing.

One of the key symptoms of the turmoil in the banking sector is its increasing reliance on the ECB for funding. A trend which has picked up rather notably for French and Italian banks lately, as the graph below shows: see chart

However, our 2011 funding survey shows that European banks are now 100% funded on average, having frontloaded their issuance in H1. Notably, the Nordics and BNP have prefunded some of 2012.

That’s good news that they’re already funded, but the analysts also note that European banks have €700bn of debt to roll next year. Compare and contrast to the forecast by SocGen that FT Alphaville shared with you earlier this Friday (that covered euro-denominated debt). By way of reminder — SocGen is anticipating less than half of the senior unsecured issuance that was done in 2011 will be done in 2012. Hence it’s hardly any wonder that the ECB is said to be considering offering longer-term financing.

5--The crisis of the euro, WSWS

Excerpt: Many experts no longer believe that the euro can survive in its current form. A poll by Reuters of 20 prominent academics, policymakers and business leaders found that only six believe that the currency union will survive. An additional ten saw a new “core” eurozone with fewer members as a possible alternative.

The collapse of the eurozone would have disastrous economic and social consequences—on this point experts agree. It would plunge the continent into social upheavals and national conflicts similar to those in the first half of last century.

In this context, national tensions in Europe are increasing. France and Italy, supported by Britain and the US, are calling for joint European bonds (euro bonds) and unlimited ECB funds for indebted countries to satisfy the insatiable appetite of the financial markets. Germany has rejected this categorically, insisting that every country must restructure its own budget through hard austerity measures, even if this means—as in the case of Greece—recession and ruin....

There are indications that Merkel might ultimately agree to euro bonds, as she agreed to the EFSF and other measures after initial opposition. But she will ask for a high price. In return, the German government is asking for a tightening of the Stability Pact, enabling Brussels to install a veritable dictatorship over the budgets of individual member states. This would allow the EU to drop the burden of the crisis on the people without bothering about public opinion and democratic procedures.

Euro bonds aim to save the assets of the banks and the funds of the super rich with public money, while the burden of the crisis is shifted on the working class. Nonetheless, the Social Democrats, the Greens and the German Left Party are enthusiastically calling for euro bonds.

Euro bonds would just as little resolve the crisis, as the EFSF and other measures have done....

The European Union has not “unified” Europe, it has only subordinated it to the most powerful financial and industrial corporations; nor has it overcome national antagonisms, which resurge whenever the crisis intensifies. The capitalist class is organically incapable of unifying the continent in the interest of its people, because capitalist private property is insolubly tied to the nation state.

A progressive resolution of the crisis is possible only on the basis of transforming existing property relations. The banks, large corporations and major private fortunes must be expropriated, subjected to democratic control and devoted to serving society as a whole. Social needs must take precedence over the drive for profit.

Such a socialist perspective can be realized in the economically and socially closely-knit continent of Europe only through the close international collaboration of the working class. The aim must be to build the United Socialist States of Europe. The alternative, as in the 1930s, is the balkanization of the continent and a slide into dictatorship and war.

6--Banks Pressing for Foreclosure Settlement Before Investigation, The Big Picture

Excerpt: If ever you need as an illustration why bank bailouts are such a misguided idea, one need look no further than Fraudclosure and RoboSigning. The sunk cost of the bailouts have completely skewed government officials priorities. Hence, enforcement of laws and imposing criminal penalties has become verbotten, as it undercuts the prior monies.

Why do I suspect that the hand of former NY Fed president and current Treasury Secretary Timothy Geithner is behind this?

So far, only Attorneys General in six five states have questioned the rush to settlement before full investigations have been completed. In addition to California, the AGs in Delaware, Massachusetts, Nevada and New York are raising questions about any settlement prior to a full and thorough accounting of exactly how such massive illegality took place at the nations’ largest banking institutions and law firms. Florida’s prior AG was actively investigating fraudclosure, but the new AG, Pam Bondi, has apparently sold her soul to the notorious Lender Processing Service. She fired the Fraudclosure investigators, and I continue to search for evidence she is not corrupt public official, more or less in vain.

Regardless, the banks are hoping to head off further investigations by writing a check in amounts between $18-25 billion dollars.

“Bank representatives and government officials are working on a broad settlement of most state and federal foreclosure-practices investigations that could move forward without the participation of California, long considered a key to any deal, people familiar with the negotiations said.

The terms of the deal remain fluid. Banks have proposed a deal excluding California that would carry a value of $18.5 billion, though the final outcome remains uncertain, people familiar with the discussion said.

Negotiators are continuing to make a push to persuade California to join a settlement valued at $25 billion among federal officials, state attorneys general and the nation’s five largest mortgage servicers: Ally Financial Inc., Bank of America Corp., Citigroup Inc., J.P. Morgan Chase & Co. and Wells Fargo & Co. The talks center on the banks’ use of “robo-signing,” in which employees approved legal documents without proper review, and other questionable foreclosure practices.

The dollar value would include the value of principal write-downs, interest-rate reductions and other benefits to homeowners as well as cash penalties.

7--New York police beat and arrest students protesting tuition increase, WSWS

Excerpt: Police from the Public Safety Department of the City University of New York (CUNY), assisted by the New York City Police Department (NYPD), arrested 15 students at a public hearing of the CUNY Board of Trustees at Baruch College in Manhattan Monday evening. The students had gathered to oppose a $300 tuition hike and demand that earlier tuition increases be rescinded.

Students who had entered the lobby of Baruch’s Vertical Campus were barred entry to the hearing by police. Some students sat down in protest. With drawn batons, CUNY cops advanced in an attempt to clear students from the lobby.

Police struck male and female students in the face, head and stomach, according to witnesses. Others were pushed to the ground and manhandled by as many as five officers at a time. Video footage of the incident shows police dragging students on the ground.

A Baruch undergraduate told the Daily News, “They started pushing us and beating us. We didn’t want this to be violent. We just wanted our voices to be heard.” One student who was arrested said, “The officers were attacking us, unprovoked.”

In a statement, the university said that the students posed a “public safety hazard.”

8--The threat of dictatorship in Greece, WSWS

Excerpt: The installation by the banks and major imperialist powers of a “national unity” government in Greece that includes members of the fascistic LAOS party, as well as the designation of the right-wing New Democracy party to head the defense ministry, must be taken as a serious warning to the Greek and international working class.

Thirty-eight years after student protests at the Polytechnic in Athens on November 17, 1973, whose bloody suppression ultimately brought down the US-backed junta of the colonels, finance capital is again considering the imposition of military rule or fascist dictatorship to suppress the workers.

Ousted PASOK Prime Minister George Papandreou had mobilized the army to suppress strikes against the austerity measures he was carrying out at the behest of the banks and European institutions. In August 2010, soldiers broke the strike by truckers against the deregulation of their profession. In October of this year, the government placed striking refuse workers under military discipline and forced them back to work....

The inclusion of LAOS in the government is particularly ominous. The move was not strictly required to gain a majority and form a new government. But the new regime’s backers among the international financial elite and the Greek bourgeoisie decided to include LAOS in order to send a political signal.

Fascistic sentiment is being cultivated and made “respectable” again, because xenophobia, nationalism and anti-Semitism are a basis for mobilizing the most reactionary and diseased layers of society against the working class.

Founded in 2000, LAOS became a focal point of the Greek far right, unabashedly appealing to the traditional themes of European fascism. At the founding congress, LAOS leader George Karatzaferis stated: “They say that to get ahead you have to be one of three things: a Jew, a homosexual or a communist. We are none of these.” He called for a LAOS vote to obtain “a parliament without Masons, without homosexuals, without those dependent on Zionism.”

LAOS has repeatedly called for military dictatorship. Its founding statement proposes that political decisions be made by a council including military officers and Church officials. It is an enthusiastic supporter of social cuts and opposed the partial write-down of Greek debt agreed to by the European Union in October.

One of LAOS’s ideologists is the anti-Semite and Holocaust denier Kostas Pleveris, who was their leading candidate in the 2004 elections. His son, Athanasios, became a member of parliament in 2007. In 2006, Kostas Pleveris published the book Jews—The Whole Truth, in which he praises Adolf Hitler and calls for the extermination of the Jews. He depicts Jews as sub-humans who defame the Nazis. He describes himself as a “Nazi, fascist, racist, anti-democrat, anti-Semite.”

Adonis Georgiadis, the new state secretary in the economy ministry, promoted the book on television, highlighting its “wealth of arguments.”

The promotion of such forces is the financial aristocracy’s response to the initial stages of the political reemergence of the working class and the growth of popular protest—starting with the Egyptian revolution, through to the mass demonstrations and strikes in Europe and the Occupy Wall Street movement in the United States. As in Egypt, where the military junta jails, tortures and murders oppositionists, and the US, where the police brutally attack Occupy protesters, the ruling class in Europe is preparing violent repression and police-state rule.

These threats have a great political resonance, given the tragic experiences of the Greek people. In 1967, the CIA and NATO backed the military coup led by George Papadopoulos in a bid to preempt a movement by the working class against capitalist rule throughout Europe. The colonels brutally suppressed every expression of working class opposition. They arrested and tortured tens of thousands of people and built concentration camps on the islands of Gyaros and Leros.

By bringing to power the successors of the Greek junta, the financial aristocracy is threatening the working class not only in Greece, but throughout Europe and the world. “European leaders fear that the same protests and strikes will take place in their own countries,” Dimitris Dimitriadis, a leading European Union consultant, told the Turkish newspaper Hürriyet. This prospect and how to prevent it, he said, was the subject of a November 16 meeting of the European Economic and Social Committee. “This problem is not just related to Greece,” he added.

The reemergence of the threat of dictatorship deals a shattering blow to the claims—made after the fall of the Greek junta and the fascist regimes in Portugal and Spain, and especially after the Stalinist liquidation of the Soviet Union in 1991—that the institutions of the European Union, in alliance with Washington, would oversee the triumph of democratic capitalism.

Instead, global capitalism is mired in crisis, the political system in every Western country is threatened with collapse, and bourgeois democracy is putrefying before the eyes of the world. The decision of international finance capital to respond by promoting LAOS in Greece testifies to the collapse of democratic sentiment in the international bourgeoisie.

In the fight against this threat, Greek workers face not only the ruling class, but also the political treachery of the social democratic parties and their satellites in the Stalinist, Pabloite and other pseudo-left organizations. Inextricably tied to the state and the trade union bureaucracies, which reveal themselves ever more nakedly to be agencies of the ruling class, these forces have mounted no serious struggle against the new government.

The fight against the social attacks of the financial elite comes together with the struggle against the growing assault on democratic rights. The only social force that retains a commitment to democratic rights and is capable of defending them is the working class. What is required is the forging of the unity of the working class across Europe and its independent struggle for political power on the basis of a socialist program.

9--Gigantic Scam, Paul Krugman, NY Times

Excerpt: That’s pretty much what Andrew Haldane, the executive director for financial stability at the Bank of England, is calling a large part of modern finance:

In fact, high pre-crisis returns to banking had a much more mundane explanation. They reflected simply increased risk-taking across the sector. This was not an outward shift in the portfolio possibility set of finance. Instead, it was a traverse up the high-wire of risk and return. This hire-wire act involved, on the asset side, rapid credit expansion, often through the development of poorly understood financial instruments. On the liability side, this ballooning balance sheet was financed using risky leverage, often at short maturities.

In what sense is increased risk-taking by banks a value-added service for the economy at large? In short, it is not.

Basically, Haldane argues that finance fooled investors into believing that it had found a way to earn higher returns, whereas all it was really doing was piling on hidden risk. And he suggests that much if not all of the rise in the share of finance in GDP reflected this deception; in effect, Wall Street and the City were con artists extracting huge rents from an unwary public (and eventually dumping much of the cost, when things went bad, on taxpayers).

10--Galbraith Says U.S. Debt-Deal Flop ‘Best Thing’ to Cut Budget: Tom Keene, Bloomberg

Excerpt: Business ExchangeBuzz up!DiggPrint Email ..Audio Download: James Galbraith Interview .The probable failure of a U.S. congressional committee to reach agreement on at least $1.2 trillion in deficit reductions by this week’s deadline is the “best thing” that could have happened, said economist James K. Galbraith.

Failure for the committee to reach agreement will lead to across-the-board cuts to domestic and defense programs, starting in January 2013. The lack of a deal would deprive President Barack Obama of a vehicle extending a payroll tax cut and insurance benefits for unemployed Americans, which expire at the end of the year. Lack of agreement also means tax cuts for top earners enacted under President George W. Bush may also be allowed to expire at the end of 2012, Galbraith said.

“As things stand, there will be an examination of the defense budget, and a lot of wailing and gnashing of teeth over that,” Galbraith, an economics professor at the University of Texas in Austin, said in a radio interview on “Bloomberg Surveillance” with Ken Prewitt and Tom Keene. “And the Bush tax cuts expire,” he said. “If you are doing honest budget accounting, that gives you all of the deficit reduction you could possibly want.”

Today is the deadline for the Congressional Budget Office to receive information for analyzing how a proposal would affect the U.S. budget deficit, in advance of the so-called supercommittee’s Nov. 23 target date for reaching a deal. Yesterday, members of both parties took to the airwaves on the Sunday talk shows to blame the other side for the lack of an agreement, though they stopped short of saying the talks had failed....

To spur the economy and hiring, he said the U.S. government should increase the minimum wage. “That would have a very strong stabilizing effect across all of the population of this country that has been hard hit by the financial crisis. It would be a form of reparations for the 99 percent” of the population that “has received nothing but abuse for the past three years.”

11--NATO's Great Victory; Destroying Libya’s Welfare State, DAN KOVALIK, counterpunch

Excerpt: The other day, I was listening to the voice of “liberal” radio, NPR, and was surprised to hear its bizarre, and yet quite candid, report on what it apparently views to be one of the more hideous aspects of the Gadhafi years – a modern welfare state which looked after working people.

Thus, without tongue in cheek, or any note of irony, NPR, in its November 14 report, entitled, “Libya’s Economy Faces New Tests After Gadhafi Era,” explained that the biggest impediment to the new economic era is the Libyan worker who was simply too coddled by Gaddafi.

NPR thus cited a 2007 book on the Libyan economy by authors Otman and Karlberg who called “the Libyan worker under Gadhafi ‘one of the most protected in the world,’” receiving job tenure, government subsidies of around $800 a month for the average Libyan household, and gasoline at a mere 60 cents a gallon. NPR, citing the same book, explained that workers now freed from such a tyrannical world by NATO bombs, have been left with a “’subsidy mentality’” and a “’job-for-life outlook which has ill-prepared Libyans for the more aggressive and cutthroat world of competition.’”

However, lucky for them, Libya’s new acting finance and oil chief, Ali Tarhouni, is resolved to turn this situation around by disciplining Libya’s workers through “smaller government and a larger and freer private sector.” NPR describes that, Tarhouni, being the realist that he is, “has no illusions that it will be an easy transition.” The report thus quotes Tarhouni who states that, “[t]he challenge here is that this is a welfare state,” with Libyan workers expecting too much from their government. I’m sure Tarhouni, with Western support, will show these workers a thing a two.

Of course, had NPR gone further, they could have also explained that, according to the statistics of the United Nations Development Programme, Libya, at the time of the NATO invasion, had the highest human development indicators (which measure levels of health, education and income) in all of Africa, with a life expectancy of 74.5; undernourishment of the population at under 5%; and adult literacy at over 88%. Libya was in fact ranked 53 in the world out of 169 comparable countries, ranking, for example, above Turkey, (post-Soviet) Russia, Brazil and Costa Rica in terms of the human development indicators.

For NATO, its corporate allies, and its media mouthpieces, such prosperity for workers simply will not do. We live in a world where austerity for the workers is the order of the day – for those in Libya, Greece, Italy, Spain, Great Britain and the U.S. as well. And those who stand in the way of such austerity measures, whether they be a nationalist government in Libya, Communists in Greece or Occupiers in the U.S., must be dealt with accordingly – by violent reaction.

Thankfully, once in a while, we have news sources such as NPR which will, albeit quite unwittingly and clumsily, tell us that this is indeed what our military and police actions are all about. You just have to be reading and listening between the lines to find out.

Thursday, November 24, 2011

Today's links

1--"We are in very big trouble", Fed Watch, economist's view

Excerpt: There has been no forward progress in the past week. To be sure, ECB bond buying has helped keep a lid on Italian bond yields. Yet, while ECB monetary policymakers focus on Italy, Spain and Belgium are slipping away. And France is clearly the next domino to fall. The "accidental" downgrade last week simply reveals that S&P has already prepared the report, clearly anticipating a deterioration in France's budget position as the Eurozone recession deepens. And to make matters worse, Zero Hedge points us to signs the Dexia bank rescue is faltering, and the Belgians realize they need to shift more of that burden of that rescue onto France. Meanwhile, the situation in Eastern Europe is rapidly deteriorating - Yves Smith directs us to the Telegraph for that story. And in Greece, the opposition party still insists they will not sign any pledge to commit to the October deal. Was any deal really reached last month?

Conventional wisdom is that the European Central Bank eventually acts as a lender of last resort to alleviate the sovereign debt crisis. This was clearly not on the mind of ECB President Mario Draghi in his recent speech. I certainly hope something was lost in translation, as the speech has some memorable moments. Notably:

Activity is expected to weaken in most of the advanced economies. This is the result of a weakening of various components of aggregate demand, both domestic and foreign.

Economic activity is weakening because the underlying components of economic demand are weakening. I am not sure this is particularly insightful. Is this the best analysis he can muster from the intellectual firepower of ECB economists? If so, we are in very big trouble.

2--What the German bond auction disaster means, credit writedowns

Excerpt: This morning the German government held an auction for 10-year money at just under 2 percent. The auction failed disastrously with a bid-to-cover ratio of just 1.1. The Germans wanted to issue 6 billion euros of 10-year bunds but managed to sell only 3.64 billion, with the central bank picking up 39 percent of the issue.

Many media outlets are reporting the disastrous bond auction results in Germany as an ominous sign. I am of two minds on this. Yes, this was a terrible auction but it is just one auction. So let’s not blow it out of proportion. There is still some time left.

On the other hand, the economic data this morning made clear that Europe is in a recession and that Germany and France are being dragged in tow. The euro zone PMI Composite came in at 47.2 (higher than expected) but below the 50 boom/bust divide. Germany’s Manufacturing PMI too was lower than 50 at 47.9. And it was lower than expected. I told you 1 1/2 years ago that Spain’s debt woes and Germany’s intransigence lead to double dip and now we are seeing this. Even India and China are slowing, with Chinese manufacturing data at 32-month lows

Chinese manufacturing output dips China's manufacturing activity fell to its lowest level in 32 months in November, according to the HSBC bank purchasing managers' index. The news renewed fears that the economic powerhouse is losing steam, and contributed to 2% falls on the Hong Kong and Sydney stock markets.

via Bbc .

. So we have a synchronised global slowdown.

Finally, I have to beat this into everyone’s heads because I have said it over and over again. It’s the currency sovereignty, folks! No lender of last resort means:

This is a rolling crisis wave through the eurozone infecting more countries, closer and closer to the core. As Marshall wrote recently, this is a structural problem. All of the euro zone countries face liquidity constraints and all of them will eventually succumb to the rolling wave of yield spikes one by one until we get a systemic solution: full monetisation and union or break up.

Germany is no different than the rest.

3--Euro Weakens as Reports Signal Region’s Debt Crisis Is Weighing on Growth, Bloomberg

Excerpt: The euro fell to a six-week low against the dollar as reports added to signs that Europe’s failure to resolve its debt crisis is weighing on economic growth and Germany received insufficient bids at a debt auction.

The 17-nation euro slid versus 13 of its 16 major peers as London-based Markit Economics said a gauge of European services and manufacturing output shrank for a third month. The pound fell for a third day against the dollar after the Bank of England’s minutes showed some policy makers said more stimulus “might well become warranted.” Sweden’s krona declined as central bank Deputy Governor Barbro Wickman-Parak said policy makers may cut interest rates if Europe’s debt crisis persists.

“There are a lot of reasons to be negative about the euro,” said Ankita Dudani, a currency strategist at Royal Bank of Scotland Group Plc in London. “The whole of the euro zone is getting entrapped in the lack of growth, and the cost of financing is so high. They are being hit from both sides.”

4--"Phase Shift" - JP Morgan Downgrades All Commodities To "Sell", zero hedge

Excerpt: If the ECB will not take the hint, JPM will bring the mountain to Mohammed. Or something. In a note just released by JPM's Colun Fenton, the firm has downgraded the entire commodity complex to "underweight" (yes, that includes gold). The reasoning? It is all the Supercommittee's fault. It also likely has nothing to do with the fact that JPM was selling commodities to clients all through this run up, and is now in finally buying, in anticipation of ECB printing and Fed's LSAP. Full report attached....

Change in view: Policy failures in the US and Europe have darkened the 6M outlook, forcing us to downgrade commodities to underweight. We expect outright TR losses near-term and see greater value in bonds.

5--The Fed Stress Tests While Europe Starts to Burn, naked capitalism

Excerpt...the biggest difference between 2008 and now is the lack of a common vision among the central actors in the epicenter of the pending crisis. In the US, the three key players, Paulson, Geithner, and Bernanke, had shared goals: do whatever it takes to keep the system from collapsing and to the extent possible and preserve the status quo. The first goal was arguably necessary, while the second one was the polar opposite of what needed to happen once some measure of stability was restored.

By contrast, in Europe, you have banks in Greece, Spain, Italy, Portugal, Belgium, much of Eastern Europe, France and Germany at risk. Any serious problems, ex an ECB deus ex machina, must be dealt with at a national level. How is that going to happen when the Eurozone banking system is 325% of GDP, far bigger relative to the size of the economy than in the US?

The risk here is not a Lehman like disaster. It’s a modern version of Credit Anstalt: a major bank failure precipitating cascading collapses. And this is entirely plausible. There are a ton more moving parts than in the US in 2008: more institutions at risk, multiple domestic banking regulators and national legislatures, Maastrict treaty rules. Anyone who has worked with networks knows that more nodes and more communication lines between those nodes means more points of failure. The odds of things ending up badly if the markets go critical are far greater than the last time around, and that’s before we factor in the caliber of Eurozone emergency responses thus far.

I cannot fathom how people in senior regulatory positions who lived through the crisis cannot see the trajectory. It’s obvious to anyone who reads the financial press. This willful blindness, born out of a reluctance to firmly enough with a reckless, predatory industry will cost the citizens of the world dearly. I can only hope history deals with these corrupt officials as harshly as they deserve.

6--European Bond Risk Climbs to Record, Bloomberg

Excerpt: French and Belgian bonds slumped as the cost of insuring European government debt against default rose to a record on concern the region’s credit crisis is crimping global growth. U.S. index futures declined, while European stocks were little changed.

The yield on France’s 10-year bond climbed 11 basis points to 3.64 percent at 7:25 a.m. in New York. The Markit iTraxx SovX Western Europe Index of credit-default swaps on 15 governments rose eight basis points to an all-time high of 373, and the euro weakened 1 percent after Germany failed to find buyers for 35 percent of the bonds it offered at an auction. Standard & Poor’s 500 futures slipped 0.9 percent, while the Stoxx 600 Europe Index lost 0.3 percent. Oil retreated 1.9 percent.

European services and manufacturing output contracted for a third month in November, while a preliminary gauge indicated China’s manufacturing shrank by the most since March 2009, reports by Markit Economics and HSBC Holdings Plc showed. Luxembourg Finance Minister Luc Frieden said talks on the rescue plan for Dexia SA are “continuing intensively.”

“The costs of Dexia’s guarantee are putting Belgium’s finances under such pressure that France may have to take a larger slice of the losses, which some analysts feel could be the straw that may break the back of France’s credit rating,” Bill Blain, a strategist at Newedge Group in London, wrote in a research note. “Concerns on U.S. debt, economic performance and rising China fears contribute to the miserable background.”

Bond Risk

The yield gap between Belgian 10-year notes and benchmark German bunds widened to a euro-era record. The yield on Spain’s 10-year bonds increased five basis points to 6.65 percent. Credit-default swaps insuring French government bonds rose seven basis points to 247, Belgium was 11 basis points higher at 362 and contracts tied to Spanish debt climbed four basis points to 489, all records, CMA prices show.

“The credit picture in Europe will continue to be negative for quite some time since policy makers at the core are trying to reconcile conflicting objectives,” Bart Oosterveld, a managing director at Moody’s Investors Service, said at a conference in Paris today.

7--EU Banks Struggle to Lure Deposits, WSJ

Excerpt: An intensifying battle for deposits among European banks is putting pressure on the Continent's banking system, threatening to deprive lenders of a key source of funding as the cost of attracting customers rises.

Individuals and businesses have pulled billions of euros of deposits out of banks in financially shaky countries such as Spain and Italy in recent months, according to bank disclosures and analyst research.

Several large Italian and Spanish banks recently reported double-digit percentage declines in deposits from corporate and other institutional clients, although their overall deposit levels fell more modestly, as lenders hold a greater share of retail ...

8--Europe’s Banks Relying on Money From E.C.B., NY Times

Excerpt: Banks clamored for emergency funds from the European Central Bank on Tuesday, borrowing the most since early 2009 in a clear sign that the euro region’s financial institutions are having trouble obtaining credit at reasonable rates on the open market.

Indebted governments among the 17 members of the European Union that use the euro are also finding it harder to borrow at affordable rates as investors lose confidence in their creditworthiness.

In a Tuesday auction, the Spanish treasury, for example, was forced to sell three-month bills at a price to yield 5.11 percent, more than double the 2.29 percent interest rate investors demanded at a sale of similar Spanish securities on Oct. 25. Spain also sold six-month debt at 5.23 percent Tuesday, up from 3.30 percent in October.

Italy’s 10-year bond yield, meanwhile, edged up once again — to nearly 6.8 percent Tuesday — as foreign investors withdrew their money from that debt-staggered country.

Together, the commercial banks’ heavy reliance on the central bank to finance their everyday business needs, along with the growing borrowing burden for Spain and Italy, raise the risk of failure for some banks within the countries that use the euro and the danger that nations much larger than Greece could eventually seek a bailout or be forced to leave the euro currency union....

The central bank said Tuesday that commercial banks had taken out 247 billion euros, ($333 billion), in one-week loans, the largest amount since April 2009. And the 178 banks borrowing from the central bank on Tuesday compared with the 161 banks that borrowed 230 billion euros ($310 billion) last week.

9--Tightening money and widening Eurozone spreads, Worthwhile Canadian Initiative

Excerpt: If you accept the Monetarist premise that tighter money means a fall in expected NGDP, then it is very easy to understand a widening of yield spreads as yet one more symptom of tight money.

Tight money may reduce interest rates on safe assets. At least, it reduces interest rates on safe assets that remain safe assets when monetary policy is tightened. But many previously safe assets will become risky assets when monetary policy is tightened, precisely because tight money means a fall in expected NGDP, and a fall in expected NGDP means less nominal income to pay fixed nominal liabilities.

For a given total quantity of assets, a tightening of monetary policy reduces the supply of safe assets, and increases the supply of risky assets. Because some previously safe assets now become risky. Since safe and risky assets are imperfect substitutes on the demand-side, this change in relative supply of safe and risky assets changes their relative price. The price of safe assets rises relative to the price of risky assets. So the yield on safe assets falls relative to the yield on risky assets. Tight money causes an increase in the yield spread.

Looked at in this way, the widening yield spreads between Eurozone government bonds is simply one more symptom of a tightening monetary policy.

Yes, this is an oversimplified picture. The rollover risk from short term bonds means there can be a run on government bonds not dissimilar to a run on a bank without an effective lender of last resort. And there can be multiple equilibria, because a high/low interest rate makes it harder/easier for a government to finance its debt, which increases/reduces the riskiness of that debt, and so increases/reduces the rate of interest at which people are willing to hold that debt.

But let's start with the simple stuff first. Widening yield spreads are a symptom of tightening monetary policy. Depressingly simple, really.

I'm not sure how much longer this particular yield spread will remain a useful indicator. So far, people seem to be assuming that German government bonds will remain safe. I wouldn't count on them remaining safe, if monetary policy continues to tighten.

10--Sliding into Depression--Why Credit Anstalt matters, Bradford Delong, UC Berkeley

Excerpt: Austria's major bank, the Credit Anstalt, was revealed to be bankrupt in May 1931. Its deposits were so large that freezing them while bankruptcy was carried through would have destroyed the Austrian economy, hence the governmetn stepped in to guarantee deposits. The resulting expansion of the currency was inconsistent with gold-standard discipline. Savers liquidated their deposits and began to transfer funds out of the country in order to avoid the capital losses that would have been associated with a devaluation.

In order to keep its banking system from collapsing and in order to defend the gold standard, the Austrian central bank needed more gold to serve as an internal reserve to keep payments flowing and an external reserve to meet the demand triggered by incipient capital flight. The Bank for International Settlements began to host negotiations to coordinate international financial cooperation.

It is possible that rapid and successful conclusion of these negotiations might have stopped the spread of the Great Depression in mid-1931. Austria was a small country with a population well under ten million. There was not that much capital to flee. A sizable international loan to Austria's central bank would have allowed it to prop up its internal banking system and maintain convertibility. A month later those whose capital had fled would realize that the crisis was over, and that they had lost a percent of two of their wealth in fees and exchange costs in the capital flight. Other speculators would observe that the world's governments were serious in their commitment to the gold standard, that the potential foreign exchange reserves of any one country were the world's, and thus that the likelihood of a speculative attack succeeding in inducing a devaluation was small.

Perhaps investors would then have begun returning gold to central banks in exchange for interest-bearing assets, would have begun to shrink down their demand for liquidity, and would have begun to boost worldwide investment. The Economist's Berlin correspondent thought that it might well have done the job:

It was clear from the beginning... that such an institution [as the Credit-Anstalt] could not collapse without the most serious consequences, but the fire might have been localized if the fire brigade had arrived quickly enough on the scene. It was hte delay of several weeks in rendering effective international assistance to the Credit Anstalt which allowed the fire to spread so widely.

We don't know because it was not tried. The substantial loan to Austria was not made. Speculators continued to bet on devaluation, investors continued to hoard gold, the preference for liqidity continued to rise, and investment continued to fall.

The substantial loan to Austria was not made because French internal politics entered the picture.