Friday, June 8, 2012

Weekend links

1--China faces stimulus dilemma, CNN

In chess, the term "zugzwang" describes a situation in which a player cannot skip a turn but any move he makes will put him in a worse situation.

That also neatly describes the situation facing the Chinese government as it cut interest rates on Thursday for the first time since the height of the financial crisis in late 2008, lowering benchmark lending and deposit rates by 25 basis points to 6.31 per cent and 3.25 per cent respectively.

With growth slowing much more than expected and an array of indicators pointing south, Beijing has been forced to act to prop up activity in the world's second-largest economy.

But many economists and analysts from inside and outside the government are warning of the dangers involved in a fresh round of stimulus and easy credit that could reinflate a property bubble and exacerbate the stark structural imbalances already present in the Chinese economy.

"This rate cut is a clear indication the government sees further weakness in the May economic data [due to be released on Saturday]," says Stephen Green, an economist with Standard Chartered in Hong Kong. "But there's obviously a risk that the increased focus on the short term undermines the structural reform agenda."

For the last two decades, the Chinese economy has been driven by investment and manufacturing for export, but everyone -- from China's rulers to Western investment bankers -- now agrees the country must shift to a growth model driven more by consumption than investment.

"If China can't become a consumption engine for its own manufacturing base then that will be a real problem for the whole world," says a senior executive at a large private equity firm with investments in numerous sectors in China. "The economy in May feels a lot weaker than April and April was already a shock; when you look at the month-on-month numbers you realise how big a slowdown is occurring and how the trend has turned negative."

Investors in China say most sectors are very weak and almost everyone assumes that a bigger response is on the way that will include large new government investments in infrastructure.

Investing in China just grew murkier

That belief is heightened as this is a "selection" year in China, when the ruling Communist party is scheduled to transfer power to a new generation of unelected leaders and will do whatever it takes to keep growth humming in order to ensure social stability.

"Many harbour doubts about the wisdom of another credit-fuelled stimulus, but the government's overriding objective is to ensure that the economy is not too fragile in the final months before the leadership transition," says Mark Williams, chief China economist at Capital Economics.

Analysts say a fresh round of stimulus is made more likely because the biggest problem is not the price or availability of credit but rather a lack of demand for loans in an environment of falling sales, high inventories, weak profits and overcapacity.

"The weakness in bank lending we've seen recently is not because credit is too expensive but because the outlook is so negative and nobody wants to invest," says Wang Tao, an economist at UBS.

That assessment is backed up by investors in a range of industries who say they have gone from not being able to access bank loans at all last year to being inundated with offers from state banks at a time when they are wary of adding new capacity.

2--Households cut debt again in first quarter, marketwatch

American households cut their overall debt again in the first quarter and saw a $2.8 trillion increase in net wealth owing to stock-market gains — gains that have since evaporated.

The Federal Reserve, in its quarterly “flow of funds” report, said Thursday that household debt fell by a seasonally adjusted 0.4% in the first quarter. That follows a 0.2% decline in the last three months of 2011.

The central bank originally had reported that consumer debt rose in the fourth quarter for the first time since the end of the last recession.

A 3% decrease in mortgage debt more than offset a 5.8% rise in consumer credit. The drop in household debt was the 15th straight decline.

The sharp uptick in consumer credit, combined with a 6.7% rise in the fourth quarter, marked the biggest back-to-back increase since the first half of 2007. Other government data suggest the surge in consumer credit has been fueled by auto loans and student debt.

Net household worth, meanwhile, climbed by $2.8 trillion in the first quarter to $62.9 trillion, mainly because of a stock market rally earlier in the year.

Almost all of those gains have been lost over the past month, however.

The Fed also slashed the amount of cash companies have on hand after revising several years of data based on updated information from the IRS.

U.S. nonfinancial corporations had a stockpile of $1.74 trillion in cash or liquid assets at the end of the first quarter, up slightly from $1.72 trillion in the fourth quarter.

The revised figures indicates companies are not as financially well off as prior data appeared to indicate. That could mean they have less money to invest once the economy begins to accelerate.

On the other hand, businesses have increased debt for three straight quarters, which is usually a sign that they plan to increase production in the expectation of rising demand.

Federal government’s debt climbed 12.4% — the third straight double-digit increase

3--Banks' Use of ECB's Overnight Deposit Facilities Rise Friday, Nasdaq

Banks' use of the European Central Bank's overnight deposit facilities rose Friday, data released Monday by the central bank showed.

Banks deposited EUR784.973 billion with the ECB Friday, up slightly from Thursday's EUR769.306 billion. Banks borrowed EUR710 million from the ECB Friday, down from the already low EUR753 million Thursday.

The amount of overnight deposits jumped after the ECB pumped more than EUR1 trillion into the euro zone's banking system through its three-year loans in December and February.

4--Interbank lending falls sharply in EZ, macronomy blogspot

The capital markets have not paid enough attention to various pieces of the global puzzle falling into places, and the true picture is a cause of concern. The overall capital structure of the current financial system is at risk. Financial institutions are in dire need of capital and bailing them out will drag sovereigns (issue of circularity) with them unless policy makers decide to follow a path they have refused so far (following Lehman Brothers bankruptcy). The no-no policy (no loss for bondholders – no loss for shareholders) advocated by Paulson when he was in charge of the Treasury is not valid anymore. Investors will have to take losses if leaders want to save their populations from disaster (Greece is the canary in the coal mine). So shareholders and subordinated debt holders should be wiped out, and senior bonds holders could become the new shareholders if there is not enough capital. How long can leaders still expose their countries to such big risks is unknown, but debt to equity swaps should make the headlines again at some point."...

As the BIS put it in their Quarterly June 2012 report:

"Three features characterise the sharp decline in cross-border claims on banks in the fourth quarter. First and foremost, internationally active banks reduced their cross-border lending to banks in the euro area. Second, they also reduced cross-border interbank lending in several other developed countries, albeit by a lesser amount. Third, they cut interbank loans much more than other instruments.

Cross-border claims on banks located in the euro area fell by $364 billion (5.9%), which is equivalent to 57% of the decline in global cross-border interbank lending during the quarter. It was the largest contraction in crossborder claims on euro area banks, in both absolute and relative terms, since the fourth quarter of 2008. Cross-border lending to banks located on the euro area periphery continued to fall significantly. Lending to banks in Italy and Spain shrank, by $57 billion (9.8%) and $46 billion (8.7%), respectively, while claims on banks in Greece, Ireland and Portugal also contracted sharply.

Nonetheless, exposures to these five countries accounted for only 39% of the reduction in cross-border interbank lending to the euro area. BIS reporters also reduced their cross-border claims on banks in Germany ($104 billion or 8.7%) and France ($55 billion or 4.2%)."

5--Will Canada's housing bubble burst? , BBC

(video) While the effects of the economic crisis are still evident throughout much of the US, property prices in most Canadian cities are soaring.

The high costs are driven by a perfect mix of record low interest rates, lack of inventory and a stable economy.

Home prices in Toronto have increased by about 85% over the past decade. The market took a short, moderate dip in 2008, but has marched steadily northward since then.

The city is also home to more high-rise building projects than any other city in North America.
But is buying real estate in Toronto a sound investment or a bubble about to burst?

6--Steepest Global Slide Since Recession Pushes Rate Cuts, Bloomberg

Monetary-policy makers from around the world are being pressed into action to shore up a global economy that is suffering its steepest slowdown since the recession ended in 2009...

Across the board, we’re seeing the central banks being galvanized into action by weak growth around the world,” said Nariman Behravesh, chief economist in Lexington, Massachusetts, at IHS Inc.

The global economy will grow 1.7 percent this quarter and 2 percent next, after expanding at an annual pace of 2.5 percent in the final quarter of 2011, economists at JPMorgan Chase & Co. in New York said in a June 1 report. The result is “an extended soft patch as weak as anything experienced in the past two decades outside the Great Recession,” they wrote

7--Hard pounding--Recession, bank crises and fiscal woes all feed on each other, The Economist

THE deluge of bad news from Spain continues. Borrowing costs hit new highs, shares sink—and Mariano Rajoy’s reformist government is dumbfounded. Why are the markets so cruel? One reason is that Spain’s problems always turn out bigger than they seem. The cost of rescuing the country’s fourth-biggest lender, Bankia, has spiralled over the past three weeks to some €23.5 billion ($29 billion, see article). A whopping hole has also appeared in Spain’s 2011 accounts, pushing the budget deficit up from 8.5% of GDP to 8.9%. This is raising new doubts about Spain’s finances.

The main fiscal worry is the regional governments. Set the task of cutting their combined deficit last year, they did the opposite, increasing it by some 14% instead. Now the regions are struggling to raise money. Some are frozen out of the markets. Catalonia’s president, Artur Mas, has set off jitters by saying that either the government borrows money on the regions’ behalf, or bills will go unpaid. “And that hurts the real economy,” he notes. The Catalan government has hoovered up a quarter of local savings by issuing patriotic bonds. Madrid is expected to raise special bonds to fund the regions. But that will just add to Spain’s overall debt....

Yet signs of austerity are everywhere. Hospital beds are being cut, school classes are growing, civil-service salaries lowered and working hours increased, research programmes halted and infrastructure-spending shrunk. Spain’s GDP figures also tell a story. The economy shrank by 0.3% in the first quarter. The government sees a 1.7% fall this year. Unemployment is at 24% (and over 50% for the young). Retail sales fell by a shocking 9.8% in the year to April.

8--How to save Spain--The focus should be on fixing the banks, not on cutting the deficit, The Economist

GREEK politics may determine the euro’s short-term future, but it is Spain that poses the single currency’s most difficult problem. The euro zone’s fourth-biggest economy is caught in an increasingly desperate spiral of deepening recession, drowning banks and soaring borrowing costs.

Spanish firms and banks are all but cut off from foreign funds. On May 30th yields on ten-year sovereign bonds rose above 6.6%, close to the level at which Greece, Ireland and Portugal had to seek a bail-out. After the government’s botched nationalisation of Bankia, a troubled savings bank, Spanish depositors are jittery (see article). A bank run is all too plausible—especially if Greece, which is bracing itself for a fresh election on June 17th, is forced out of the euro soon. Even if that calamity is avoided, Spain’s slump will drag the country inexorably towards insolvency.

Time to solve Spain’s debt crisis is running out. Doing so requires a radical rethink in Madrid, but above all in Brussels and Berlin. Spain’s government should be free to focus less on fiscal austerity and more on cleaning up the banks. Its European partners should also help by allowing joint rescue funds to be injected directly into banks.

The problem in Spain is not that its politicians lack the resolve to reform. In recent months Mariano Rajoy’s new conservative government has pushed through a labour-market overhaul. Over the past year or so Spain has pared pensions and written debt limits into the constitution.

Spain’s problem is one of misdiagnosis. Its government and European officials reckon the main challenge is fiscal. They argue that the budget deficit, which reached 8.9% of GDP last year, must be brought down as fast as possible to boost confidence and cut borrowing costs. Spanish politicians have dithered about cleaning up the country’s banks, for fear that doing so would demand an injection of public funds which, in turn, would worsen the government’s finances.

Private debt, public pain

This fiscal focus gets things exactly backwards. Spain’s poor public finances, unlike those of Greece, are a symptom rather than the cause of the country’s economic woes. Before the crisis Spain was well within the euro zone’s fiscal rules. Even now its government debt, at around 70% of GDP, is lower than Germany’s. As in Ireland, the origins of Spain’s debt problems are private, not public. A debt binge by Spanish households and firms fuelled a property bubble and left the country enormously in hock to foreigners. After adjusting for all the foreign assets they own, Spain’s households, firms and government collectively owe foreigners almost €1 trillion ($1.25 trillion), or more than 90% of GDP. That is on a par with crisis-hit Greece, Ireland and Portugal, and far higher than in any other big rich economy. Spain’s banks were the conduit for this private borrowing binge, and are being hit hardest by the bust.

Fortunately, the long history of bank crises shows what needs to be done. Rather than doing too little too late, as it has so far, Spain’s government should quickly admit the scale of the problem, clean up the banks, preferably by removing bad assets, and shut down, or recapitalise, what is left. All this inevitably costs public money: an average of 10% of GDP in previous episodes, though much more in some countries, notably Ireland. In rich countries governments typically borrow the money from the markets. In emerging economies that cash has usually come from international rescue funds.

Spain’s government might be able to cover the costs itself. It could inject as much as €100 billion, or 10% of GDP, into its banks and still keep sovereign debt below 100% of GDP. But if the problem turned out to be Irish in scale, it would need help; and anyway, putting money from European funds into Spain’s banks would boost confidence more convincingly. If euro-zone countries collectively injected funds directly into Spain’s banks, the rescue would do less harm to Spain’s public finances, and the vicious link between the country’s weakening banks and its worsening sovereign debt would be broken.

The idea of European-funded rescues for struggling banks has support from the IMF and the European Commission. But there are political hurdles. Allowing the European rescue funds to put money into banks requires approval from national parliaments. Germany objects, on the ground that putting money directly into banks leaves less room for extracting policy reforms in return. That need not be the case. European rescuers could demand reforms as a condition of putting cash into banks, much as if they were lending to the Spanish government. The difference is that a jointly funded plan to deal with the banks might actually work.

9--Bravo, Ms. Merkel, Bloomberg

“The Merkel government is really getting sick of all the complaining and lecturing from the Obama administration,” Fredrik Erixon, head of the European Centre for International Political Economy in Brussels, said by phone. “It’s really infuriating for them to hear someone like Geithner lecturing Europe on what it has to do given all the U.S. problems like the debt and the deficit.”

10--Too Much Faith in Markets Denies Us the Good Life, Robert Skidelsky, Bloomberg
Margaret Thatcher (elected prime minister of the U.K. in 1979) and Ronald Reagan (elected president of the U.S. in 1980) added an essential ingredient to the philosophy of growth: an ideological faith in the market system. Faster growth would come from markets freed of red tape, lighter taxes and weaker trade unions. The Thatcher-Reagan philosophy also viewed increasing income inequality as acceptable insofar as it improved the incentives of the “wealth creators”: There would be a “trickle down” from rich to poor.

It was the shift to a market-based philosophy of growth that inflamed the insatiability of wants -- by abandoning any interest in the social outcome of growth. The market was bound by the rule of law, but there was no longer any moral, political or cultural restraint on the individual pursuit of wealth. Keynes’s notion of satiety had no place.

Such a system cannot work according to plan. It is both economically and morally inefficient. The Anglo-American system of the past 30 years, dominated by the financial-services industry, has been retained for the benefit of a predatory plutocracy that creams off the riches in the name of freedom and globalization.....

The simplest approach would be a progressive reduction in work hours by limiting weekly hours and/or increasing vacation times. Such a framework would allow employers and employees to negotiate flexible retirement and work-sharing arrangements. There is no reason why a general reduction in working hours should bring about a drop in wages. The Dutch, for example, work shorter hours than the British but enjoy a higher average income per head ($48,000 as against $35,000) with a more equal distribution of wealth and income.

Productivity may even go up as workers pack more punch into shorter hours. This seems to have happened in places where the experiment has been tried. Hardly any production was lost in the two months that Edward Heath put the U.K. on a three-day week in 1974, for instance. Moreover, there is plenty of evidence that people are willing to trade income for leisure if they are allowed to and if the fall in income is not too great....

An unconditional basic income, in the form of a single capital endowment or a guaranteed annual income, would start to give all workers the same choice as to how much work to do, and under what conditions -- a privilege now possessed only by the wealthy.

In the future, education would be informed by the understanding that one’s job would represent a decreasing fraction of one’s waking hours. It would prepare people for a life of fulfillment outside the job market.

Consumption Tax

The state can also help reduce the pressure to consume. The economist Robert Frank has suggested doing this via a consumption tax, patterned after a 1955 proposal by Nicholas Kaldor. All spending above $7,500 per person would be subjected to an escalating rate of tax.

Such a tax would be redistributive, striking a blow at inequality; it would reduce the pressure to consume; and it would induce saving for retirement. It would also divert resources from conspicuous consumption to spending on behalf of society as a whole -- for such benefits as freedom from traffic congestion, time with family and friends, vacation time, better air quality, more urban parkland, cleaner drinking water, less violent crime and more medical research.

11--Spain awaits bank audit; no immediate bailout, Reuters

An external audit of Spain's banking system expected before the end of June is likely to reveal additional capital needs of 30 billion to 70 billion euros, economists say. Prior to that, an IMF report into the banking sector is due on June 11.

The government is sure the results from both reports will tally, de Guindos told reporters in Brussels, where he will meet EU Competition Commission Joaquin Almunia later.

"From there, the Spanish government will take the decisions it has to in terms of recapitalising the institutions," he said...


Three different assessments of Spanish banks are due in the coming days and months. The IMF report will include how much capital the financial system needs to weather a severe economic downturn.

The government has also hired consultancies Oliver Wyman and Roland Berger to carry out audits before the end of June which will assess the capital needs for the system as a whole.

Each consultancy will use Bank of Spain data to run a stress test using the methodology of similar tests carried out in Europe last year by the European Banking Authority, said one banking source.

Five different sources said that in a bid to increase confidence in the result, the two auditors will run their data independently, without consulting each other, and could come up with different final numbers....

EU sources said that even if direct aid for the banks can be negotiated, conditions could still be attached and Spain's government would have to ask for it and sign a memorandum of understanding that carries the stigma of a state rescue
12--7 states that ban atheists from holding public office

13--Germany Tells Spain EU Aid Is Available Under Conditions, deutsche-boerse

The German government on Friday reaffirmed that the European bailout funds were ready to support Spain, if Madrid applies for aid and accepts the conditions tied to it.

"The decision is up to Spain. If it makes it, then the European instruments for it are ready," government spokesman Steffen Seibert said at a regular press conference here. "Then everything will run under the usual procedure: a state makes a request, it will be liable and it accepts the conditions tied to it."

14--Possible Deal Takes Shape on Aid for Spain's Banks, Der Speigel

According to the center-left daily Süddeutsche Zeitung on Wednesday, European leaders are currently considering a plan which foresees euro bailout money being provided to Spain's "Fund for Orderly Bank Restructuring", or FROB, a bank bailout fund set up in 2009. In return, Spain would pledge to restructure its financial sector, but would not be forced into extensive economic reforms and austerity measures of the kind that have been imposed on Greece.

Plummeting Industrial Production

The possible deal comes at a time of mounting concern over Spain and doubts about its ability to solve the banking crisis on its own. In recent weeks, the country has seen its borrowing costs skyrocket, coming dangerously close to the 7 percent interest rates on 10-year bonds which sent both Portugal and Ireland scurrying for European bailout aid in recent years.

Furthermore, the country's industrial production continues to plummet, as evidenced by new numbers released on Wednesday. According to the Madrid statistical office, Spanish companies produced 8.3 percent less in April this year than they did in April 2011, much more than the 6.5 percent reduction expected by analysts. It is the steepest drop since September 2009. The country is also struggling with extremely high unemployment.

15--World from Berlin --Spain's Bailout Refusal Is 'Kamikaze Politics', Der Speigel

Pressure is growing for Spain to tap into European Union bailout money to stem its banking crisis, but the country has stubbornly refused. Instead, Madrid hopes to get around bailout conditions with direct aid to its banks. German commentators on Wednesday say that the time for pride has passed....

In total, the Spanish banking sector is thought to need between €75 billion and €100 billion worth of liquidity. Borrowing costs on 10-year bonds, meanwhile, have crept close to the dangerous 7 percent mark, widely considered to be unsustainable.

Spanish Treasury Minister Cristobal Montoro revealed how dire the situation has become on Tuesday. "The risk premium says Spain doesn't have the market door open," he told Onda Cero radio. "The risk premium says that as a state, we have a problem in accessing markets, when we need to refinance our debt."

Spain has asked for euro-zone bailout money to be made available directly to its financial institutions, a strategy to which Germany is strictly opposed...

The Financial Times Deutschland writes:

"For months, the Spanish government has refused to make use of the bailout funds. Meanwhile, it has cried out ever more loudly for help. Apparently, the government believes that in their great distress they will be able to bypass the rules and still be helped out of the crisis. That may have to happen if the entire euro zone falls deeper into the abyss. This is kamikaze politics, pure and simple."...

Center-left daily Süddeutsche Zeitung writes:

"The Spanish government would rather take care of its financial problems at home than put them in the care of European doctors. They want to avoid being sucked into the bailout fund at all costs. The Spaniards don't want to gain the reputation of being as ruined as Greece. But this is endangering the euro as a whole, because a mistrust of the markets rages amid the debt crisis, with small and large investors alike. The danger of contagion is growing. The faster a clear situation can be arranged for Spain, the better. "...
The conservative Frankfurter Allgemeine Zeitung writes:

"Spain can study in Ireland what it means for a country's banks and finances when a price bubble pops on the housing market. First, banks are nationalized. And since then Irish taxpayers have been forced to pay for the losses -- and this will go on for at least a generation. What would the Irish say if the Spaniards were allowed to dump their bad loans onto the collective permanent euro rescue fund, the European Stability Mechanism (ESM), for which they also have to pay for, as decided in their recent referendum?"

Why is Spain rejecting support from the International Monetary Fund (IMF) and the EU? The IMF was made for cases exactly like Spain. Its funds were doubled over the winter and the EU has also topped up its crisis funds for this purpose. Is Madrid hesitating because of the attached requirements? Spain need not fear them, if it truly reformed its labor market as commendably as all sides have praised it for

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