EUCOM Economic Analysis - Part I

[Surferbeetle]

David,

Politicians are always trouble, but math is math....

Some unpleasant eurozone arithmetic, June 22, 2012 11:50 am by Gavyn Davies, Financial Times, www.ft.com

The next summit on June 28 and 29 will unveil a long term road map towards fiscal and banking union, which in better economic circumstances could appear highly impressive. But the market is currently focused on the shorter term. Unless there is some form of debt mutualisation at the summit, resulting in a decline in government bond yields in Spain and Italy, the crisis could rapidly worsen.

Debt mutualisation can come in many forms. The European Redemption Fund, proposed by the Council of Economic Experts in Germany (and discussed here) seems to have receded into the background this week but could still have an eventual role. More immediately, the main option on the table seems to be the use of the eurozone firewall (ie a combination of the EFSF and ESM) to buy secondary government debt, or inject capital directly to the banks. But the problem here is simple: a lack of money.

Perhaps I am outta line (no insult intended, just genuine curiosity), but I wonder why all of the media the pressure is on the Germans? There are 27 members of the EU (~16 trillion USD combined GDP) who can make structural changes and pitch in to pay the bills? The cost of the EU seems to be much cheaper than the summed cost of the wars we have seen on the continent?

[davidbfpo]

Surferbeetle asks:

I wonder why all of the media the pressure is on the Germans? There are 27 members of the EU...

Yes there can be coverage of other EU members, it is rare true. I've heard on BBC radio mention of Finland, Slovenia and the Czech Republic. Plus the recent converts to the Euro, IIRC a Baltic republic.

It also shows how little we, in the UK and maybe the USA, understand the European economy, but we both are happier to look at Germany.

Back to UKIP's Farage his speech highlights the "bad boys" have to contribute to rescues by borrowing more money and lend it at less than they have to pay.

[Surferbeetle]

TOWARDS A GENUINE ECONOMIC AND MONETARY UNION Report by President of the European Council Herman Van Rompuy, Brussels, 26 June 2012 EUCO 120/12 PRESSE 296 PR PCE 102, http://www.consilium.europa.eu/uedoc.../ec/131201.pdf

The report proposes a vision for a stable and prosperous EMU based on four essential building blocks:

§ An integrated financial framework to ensure financial stability in particular in the euro area and minimise the cost of bank failures to European citizens. Such a framework elevates responsibility for supervision to the European level, and provides for common mechanisms to resolve banks and guarantee customer deposits.

§ An integrated budgetary framework to ensure sound fiscal policy making at the national and European levels, encompassing coordination, joint decision-making, greater enforcement and commensurate steps towards common debt issuance. This framework could include also different forms of fiscal solidarity.

§ An integrated economic policy framework which has sufficient mechanisms to ensure that national and European policies are in place that promote sustainable growth, employment and competitiveness, and are compatible with the smooth functioning of EMU.

§ Ensuring the necessary democratic legitimacy and accountability of decision-making within the EMU, based on the joint exercise of sovereignty for common policies and solidarity.

Cour des comptes, http://www.ccomptes.fr/Nos-activites/Cour-des-comptes

La Cour des comptes a pour mission de s'assurer du bon emploi de l'argent public et d'en informer les citoyens (selon l'article 47-2 de la Constitution).

2012 Article IV Consultation with Italy- Concluding Statement of the IMF Mission1 May 16, 2012, AN AGENDA FOR REVIVING GROWTH IN ITALY, http://www.imf.org/external/np/ms/2012/051612.htm

I. Structural Reforms to Jumpstart Growth
5. The potential gains to growth from deeper structural reforms are substantial.
6. The labor market reform bill should be passed quickly to reduce uncertainty and encourage new hires.
7. More is needed to bridge the gap between permanent and temporary workers and address the high unemployment of youth and women.
8. In product markets, priority should be given to accelerating reforms in the energy, public and professional services sectors with the broadest impact on growth.
9. Helping small and medium-size enterprises (SMEs) grow would facilitate the shift of resources to new growth areas.

Everything flows? The future role of monetary policy, Speech at the 2012 ZEW Economic Forum in Mannheim, Dr Jens Weidmann
President of the Deutsche Bundesbank and Member of the Governing Council of the ECB, http://www.bundesbank.de/Redaktion/E...ry_policy.html

There is no doubt that the crisis has delivered important findings for monetary policy and for monetary union. However, my key message today is to make clear that the paradigms that have been valid to date have by no means suddenly lost their validity. On the contrary, given the challenges that we are facing today, we should not recklessly throw long-held principles overboard and turn our backs on the lessons from the past.

Ultimately, monetary union in its current institutional form was created as a result of lessons learned from past errors. And by that, I do not so much mean German hyperinflation at the beginning of the 1920s, as is all too often assumed by foreign observers. Instead I mean the monetary policy experience gained in the 1970s and 1980s with the extremely heterogeneous development of inflation in Europe. Countries with politically independent central banks and a clear primary objective of price stability, such as Germany, had much lower inflation rates than countries in which central banks were obliged to follow politicians’ instructions and were additionally called upon to pursue fiscal and economic policy goals. This is one of the reasons why the Bundesbank, with its culture of stability, was chosen as a founding model for the Eurosystem.

An independent central bank is necessary for stable prices, but more than that is needed. Price stability is also jeopardised by unsound public finances. If public finances get out of hand, the central bank can come under overwhelming pressure to jump to fiscal policy’s rescue and, in so doing, can undermine its primary objective of price stability.

This lesson is not just derived from theoretical models, it has been evidenced time and time again in the past. A particularly good example from history is the Latin monetary union comprising Italy, France, Belgium, Switzerland and Greece. Even before the treaty of union came into force, Italy’s debt exploded owing to the war with Austria. On 1 May 1866, the government took out a loan with the Banca Nazionale to finance this debt for which Italy departed from the bimetallic standard and imposed an enforced rate of exchange for its banknotes. This enforced monetary financing of war debts triggered the first severe crisis of the Latin monetary union and fuelled a permanent mistrust between the member states.

[Uboat509]

Perhaps I am outta line (no insult intended, just genuine curiosity), but I wonder why all of the media the pressure is on the Germans? There are 27 members of the EU (~16 trillion USD combined GDP) who can make structural changes and pitch in to pay the bills? The cost of the EU seems to be much cheaper than the summed cost of the wars we have seen on the continent?

Germany is the economic powerhouse in the Eurozone. It has maintained low unemployment, low inflation, low debt to revenue ratio and it will have to provide the lion's share of any bailout or rescue funds that are paid out.

[Surferbeetle]

Germany is the economic powerhouse in the Eurozone. It has maintained low unemployment, low inflation, low debt to revenue ratio and it will have to provide the lion's share of any bailout or rescue funds that are paid out.

Uboat,

Perhaps all 27 nations on a leaking (accumulation of debt) boat should bail out (generation of income) the boat if they want to stay afloat?

The combined GDP of the EU-27 is approximately 16 trillion USD per year while their current combined public debt is estimated at around 10.3 trillion USD. Germany's GDP is ~3.3 trillion USD/year, France's GDP is ~2.7 trillion USD/year, UK's GDP is ~2 trillion USD/year, Italy's GDP is ~1.6 trillion USD/year, Spain's GDP is ~ 1 trillion USD/year, etc.. The EU has previously offered 30 year bonds at 3.75%. Even if the total existing EU-27 debt were to be mutualized there appears to be no way to control future debt accumulation rates nor to balance or offset them with income generation rates for the entire EU-27. There are also a number of significant differences between the responsibilities and obligations of the Eurozone-17 and those of various EU-27 members which serve to further complicate things...

In contrast to the EU-27 both Switzerland and the US levy taxes across all of their cantons (26) and states (50 plus territories), and have mechanisms available to maintain some sort of fiscal and monetary balance for the whole construct. Neither Switzerland nor the US rely upon a single canton (such as Zurich) or single state (such as Texas) to primarily or exclusively fund the remaining cantons or states needs/wants/desires without any (engineering-style) controls. Neither does the international media fixate on Zurich or Texas as descriptor/proxy for the whole. Comparing the EU-27 to Switzerland or the US is probably a step too far given the way things seem to be going...

Nonetheless I am currently wondering about what the possible effects of EU-27 wide/harmonized structural changes such as retirement ages, employment policies, retirement benefits, unemployment benefits, etc. would provide in terms of stabilizing this crisis and how the associated timelines would run when compared to market timelines.

Here are some links that I looked at when thinking about this:

• Eurozone, From Wikipedia, the free encyclopedia, http://en.wikipedia.org/wiki/Eurozone
  
• European Union, From Wikipedia, the free encyclopedia, http://en.wikipedia.org/wiki/European_Union
  
• Multi-speed Europe, From Wikipedia, the free encyclopedia, http://en.wikipedia.org/wiki/Multi-speed_Europe
  
• Greenspan Says Europe Like A ‘Leaking Boat’ With Holes, By Caroline Fairchild - Jun 29, 2012 4:54 PM MT, Bloomberg News, http://www.bloomberg.com/news/2012-0...ith-holes.html
  
• Some unpleasant eurozone arithmetic, June 22, 2012 11:50 am by Gavyn Davies, FT, www.ft.com
  
• More questions than answers after the summit, June 29, 2012 4:55 pm by Gavyn Davies, FT, www.ft.com
  
• Understanding the European Crisis Now, Published: June 14, 2012, NYT, http://www.nytimes.com/interactive/2...html?ref=world
  
• Polarised prospects, May 10th 2012, 17:21 by The Economist online, http://www.economist.com/blogs/graph...-economy-guide
  
• Europe government's debts: how much do they owe?, 30.06.12 Updated 06.30, The Guardian, http://m.guardian.co.uk/news/datablo...s&type=article
  
• EU successfully issued long-term bond with 30y maturity, funding loans of € 3 billion for Ireland and Portugal, Brussels, 9 January 2012, http://europa.eu/rapid/pressReleases...ence=MEMO/12/4
  
• How to calculate accrued interest, THURSDAY, DECEMBER 21, 2006, http://accruedint.blogspot.com/2006/...erest.html?m=1
  
• Europe’s Counterproductive Economic Policies Proceeding as Expected, FRIDAY, MARCH 23, 2012, Naked Capitalism, http://www.nakedcapitalism.com/2012/...-expected.html
  
• ECB May Need To Buttress Bond-Market Respite Leaders Made, By Simon Kennedy and Rebecca Christie - Jun 29, 2012 5:01 PM MT, Bloomberg News, http://www.bloomberg.com/news/2012-0...-buttress.html

[Surferbeetle]

Der Teufel steckt im Kleingedruckten, Eine Kolumne von Wolfgang Mnchau, 04.07.2012, Der Spiegel, http://www.spiegel.de/wirtschaft/wol...-a-842488.html

Montis Triumph, Merkels Demtigung? Von wegen! Auf dem EU-Gipfel am Freitag hat die Kanzlerin in Wahrheit keine entscheidenden Positionen preisgegeben. Was auch bedeutet: Die Wahrscheinlichkeit, dass die Whrungsunion zerbricht, ist weiter gestiegen.

France Raises Taxes On Rich, Companies To Narrow Budget Gap, By Gregory Viscusi, Helene Fouquet and Mark Deen - Jul 4, 2012 5:19 AM MT, Bloomberg News, http://www.bloomberg.com/news/2012-0...udget-gap.html

Frances two-week-old Socialist government unveiled 7.2 billion euros ($9 billion) of tax increases to meet deficit-reduction goals and avoid bond-market punishment.

The 2012 measures, approved at a Cabinet meeting today, presage even larger tax increases and spending cuts next year in an economy thats barely expanding.

Situation et perspectives des finances publiques 2012, Cour des Comptes, http://www.ccomptes.fr/Presse/Commun...publiques-2012

La France sest engage sur une trajectoire de retour lquilibre de ses comptes publics dont le respect est essentiel pour assurer sa crdibilit, la matrise de son destin et pour continuer de peser dans le concert europen. Ce redressement indispensable est exigeant mais possible. Les annes 2012 et surtout 2013 sont des annes charnires.

Pour lanne 2012, laudit dtaill men par la Cour la demande du Gouvernement montre que le respect de lobjectif de dficit public fix 4,4 % exige sans tarder des mesures correctrices, afin de compenser le risque de manque gagner sur les recettes que la Cour value ce stade dans une fourchette de 6 10 Md.

Leffort fournir en 2013 sera beaucoup plus important : dans lhypothse dune croissance de 1%, la Cour lvalue 33 Md de mesures nouvelles, qui devront tre partages entre conomies sur les dpenses et recettes nouvelles. Ces conomies ne pourront tre ralises que si toutes les administrations publiques y contribuent, ltat mais aussi la scurit sociale et les collectivits territoriales, dans le cadre dune nouvelle gouvernance densemble. Les dcisions qui devront tre prises appellent une volution en profondeur des modalits de laction publique, afin de clarifier les responsabilits et de remettre en cause les trop nombreuses dpenses publiques inefficaces.

La Cour publie chaque anne un rapport sur la situation et les perspectives des finances publiques en vue du dbat dorientation que doit tenir le Parlement. Cette anne, ce rapport inclut des dveloppements spcifiques pour rpondre la demande du Premier ministre du 18 mai 2012 dvaluer les risques pesant sur le respect des objectifs pour 2012 et de mesurer les enjeux du redressement pour les annes suivantes.

Libor affair shows bankings big conceit, By Dr. Gillian Tett, June 28, 2012 7:25 pm, FT, www.ft.com

Sometimes in life it feels sweet to say “I told you so”. This week is one such moment. Five long years ago, I first started trying to expose the darker underbelly of the Libor market, together with Financial Times colleagues such as Michael Mackenzie.

At the time, this sparked furious criticism from the British Bankers’ Association, as well as big banks such as Barclays; the word “scaremongering” was used. But now we know that, amid the blustering from the BBA, the reality was worse than we thought. As emails released by the UK Financial Services Authority show, some Barclays traders were engaged in a constant and pervasive attempt to rig the Libor market from 2006 on, with the encouragement of more senior managers. And the British bank may not have been alone.

What’s in a Number?, Donald MacKenzie on the Importance of Libor, Vol. 30 No. 18 · 25 September 2008, pages 11-12 | 4012 words, London Review of Books, http://www.lrb.co.uk/v30/n18/donald-...ts-in-a-number

On 23 October, Donald MacKenzie writes: My article on Libor went to press just before Lehman Brothers filed for bankruptcy and governments in the US and Europe had to intervene to avert the collapse of much of the global banking system. As the article explains, Libor anchors contracts totalling about $300 trillion, the equivalent of $45,000 for every human being on the planet. It is calculated from banks’ reports of the rates of interest at which other banks are prepared to lend them money. This interbank lending has come close to drying up at each of the peaks of the credit crunch, and the failure of Lehman Brothers and the subsequent banking crisis caused it to do so almost entirely. Libor has therefore been attempting to capture conditions in what has become nearly a non-existent market.

Promises of massive infusions of government capital, and government guarantees that those who lend to banks will get their money back, seem now to have stabilised the international banking system somewhat, although no one imagines the crisis is over. One of the government’s priorities is to get banks lending to each other again, and if they succeed that will help repair the foundations of Libor. There are indeed signs that lending to banks is resuming, and Libor rates have gradually been edging downwards. On 13 October, for example, three-month US dollar Libor was 4.75 per cent; a week later it was down to 4.06 per cent.

The widespread state intervention in the banking system will, however, pose new questions, such as how to treat, when calculating Libor, those interbank loans that are guaranteed by governments. The interest rate on such loans will be lower (perhaps much lower) than loans without that guarantee, and that could affect the value of Libor considerably. For many years Libor was part of the unnoticed infrastructure of financial markets. Now, I expect, it will remain in the spotlight for some time to come.

Banker to the Bankers Knows the Numbers Are Lying, By Jonathan Weil Jun 28, 2012 4:30 PM MT, Bloomberg News, http://www.bloomberg.com/news/2012-0...are-lying.html

he Bank for International Settlements, which acts as a bank for the world’s central banks, should know fudged numbers when it sees them. What may come as a surprise is how openly it has been discussing the problem of bogus balance sheets at large financial companies.

“The financial sector needs to recognize losses and recapitalize,” the Basel, Switzerland-based institution said in its latest annual report, released this week. “As we have urged in previous reports, banks must adjust balance sheets to accurately reflect the value of assets.” The implication is that many banks are showing inaccurate numbers now.

BIS Annual Report 2011/2012, 24 June 2012, http://www.bis.org/publ/arpdf/ar2012e.htm

The global economy has yet to overcome the legacies of the financial crisis to achieve balanced, self-sustaining growth. In different ways, vicious cycles are hindering the transition for both the advanced and emerging market economies. After reviewing the past year's economic developments (Chapter II), the 82nd Annual Report addresses fundamental aspects of these vicious cycles: unfinished structural adjustments (Chapter III), risks in the current stances of monetary (Chapter IV) and fiscal policy (Chapter V), and the ongoing challenges of financial reform (Chapter VI). Chapter I underscores the themes and policy conclusions of the latter four chapters, and in a special section examines them in the context of problems in Europe's currency union.

[Firn]

Uboat,

Perhaps all 27 nations on a leaking (accumulation of debt) boat should bail out (generation of income) the boat if they want to stay afloat?

The combined GDP of the EU-27 is approximately 16 trillion USD per year while their current combined public debt is estimated at around 10.3 trillion USD. Germany's GDP is ~3.3 trillion USD/year, France's GDP is ~2.7 trillion USD/year, UK's GDP is ~2 trillion USD/year, Italy's GDP is ~1.6 trillion USD/year, Spain's GDP is ~ 1 trillion USD/year, etc.. The EU has previously offered 30 year bonds at 3.75%. Even if the total existing EU-27 debt were to be mutualized there appears to be no way to control future debt accumulation rates nor to balance or offset them with income generation rates for the entire EU-27. There are also a number of significant differences between the responsibilities and obligations of the Eurozone-17 and those of various EU-27 members which serve to further complicate things...

The EU is quite a chapter on its own, with its powers very diverse from one area to the other. There is a lot of talk about "more Europe" but the healthier states seem to want quid pro quo, while the nations in crisis want the quid but hate the quo. The German-Greek conflict shows it in stark contrast.

We already discussed the issues of debt and there are some ways to handle it over the long term, from the haircut to inflation. Currently the spread makes it harder for nations like Italy to handle debt with the conventional means which increases the still remote likelyhood on unconventional ones.

To be honest I was rather shocked by the news in this article.

I FINANZIAMENTI - Succede la stessa cosa anche per altri settori come l'arredamento, l'elettronica, gli elettrodomestici, per cui i finanziamenti sono diminuiti sia nel 2011 (-5,8%) che nel primo trimestre 2012 (-11%). «In un contesto caratterizzato dalla perdurante incertezza derivante dalla crisi economica e finanziaria ancora irrisolta e da un clima di fiducia che resta su valori minimi - si legge nel rapporto dell'Osservatorio - le famiglie italiane hanno limitato i consumi e si sono dimostrate molto prudenti nell'accensione di nuovi finanziamenti. In particolare i consumi di beni durevoli, per l'acquisto dei quali più frequentemente si ricorre ad un finanziamento, hanno registrato una netta contrazione, mostrando una flessione in linea con quella rilevata per i flussi di credito al consumo».

It is the old story, the economy is bad and people are cutting back which makes the situation even worse. Keep in mind that Italy has little private but high public debt which makes, or would make, a stimulation of the economy difficult. Spain has also a debt problem but with high private and (formerly) low public debt. With more talk now about crescita/growth but never ending flow of "austerity", with cuts here and there and new taxes planned or confirmed combined with a bad job market it is absolutely no surprise that many people have become careful.

The mutui for houses are most likely hit that hard because it is such a big investment and painful new taxes concerning housing.

[Fuchs]

Debt doesn't mean that much in macro as long as the creditors are domestic. The Euro area as a whole still has an accumulated trade surplus from '99 till today.
http://www.tradingeconomics.com/euro...lance-of-trade

Any look at Europe as if it's sick as a whole is laughable.There's no unusual problem on the whole.


Someday we will probably figure out how to tax correctly to finance the public services. To issue bonds instead of just grabbing the necessary revenue looks like a comfortable way for politicians, but it's clearly an inferior alternative.
The free capital flows to exotic countries and the international competition among labour has supposedly made it difficult to tax rigorously, but the more detailed you look at it, the more this assumption becomes implausible.

[Firn]

Debt doesn't mean that much in macro as long as the creditors are domestic. The Euro area as a whole still has an accumulated trade surplus from '99 till today.
http://www.tradingeconomics.com/euro...lance-of-trade

Any look at Europe as if it's sick as a whole is laughable.There's no unusual problem on the whole.

I think we discussed this already, but it is well worth to repeat it. While things are bad, with so many having their life screwed up it is quite not yet Europadaemmerung...

[ganulv]

From a Spanish friend of mine: