European ‘Project’ Not Irreversible, New Paper Says

[LeveragedBuyout]

European ‘Project’ Not Irreversible, New Paper Says - Real Time Economics - WSJ

• 

• September 11, 2014, 1:00 PM ET

European ‘Project’ Not Irreversible, New Paper Says
ByPedro Nicolaci da Costa
There is still a modest risk that a weak economy and rising political dissatisfaction could unravel Europe’s currency union, despite gradual, halting progress toward further integration there, according to new research.

In what the authors dub the eurozone’s Catch-22, they say widespread support for the euro itself masks a lack of momentum toward further political cohesion among the 18 states that use the currency.

“There is no desire to go backward, no interest in going forward, but it is economically unsustainable to stay still,” write Luigi Guiso, Paola Sapienza and Luigi Zingales in a paper to be presented at this week’s Brookings Institution conference.

“Not only [is] the European project losing support as a result of the crisis, but it is losing even more support among the younger generations,” they say.

While the worst of the eurozone’s financial crisis receded following a string of sovereign debt bailouts, economic growth effectively stalled in the second quarter and inflation remains very low.

This has raised fresh concerns and prompted the European Central Bank to cut interest rates.

What does all this mean for the eurozone’s future? The authors say experience suggests integration has generally overcome political differences, even if in fits and starts. However, this does not completely remove the threat of renewed erosion of the union.

“Europe and the euro are not irreversible, they are simply very costly to revert,” the authors say. “The risk of a dramatic reversal, however, is real.”

 

[LeveragedBuyout]

http://ftalphaville.ft.com/2014/09/17/1970502/the-fatal-flaw-that-could-doom-the-european-project/

The fatal flaw that could doom the European project
Matthew C Klein | Sep 17 14:47 | 4 comments | Share

There have been many failed attempts to unify the European continent by force.

More recently, politicians have tried to do it peacefully, with some limited success. The European Union has an elaborate bureaucracy and an elected parliament that together oversee everything from cheese names to foreign affairs. A majority of the EU shares a currency and monetary policy, as well as a common banking regulator.

But these supranational institutions are becoming increasingly unpopular among actual Europeans. Moreover, new research presented at the semiannual Brookings Papers on Economic Activity by Luigi Guiso, Paola Sapienza, and Luigi Zingales suggests the traditional strategy for promoting integration has reached a dead end. Instead of “more Europe”, the trend in the near future may be the revival of nationalism.

Recall Jean Monnet’s old quip that Europe “will be forged in crises”. He expected individual nation-states to inevitably come closer together as international challenges, economic and otherwise, became increasingly difficult for any single country to handle individually. The emergence of new pan-European institutions were also supposed to encourage further integration:

The functionalist view, advanced by Jean Monnet, assumes that moving some policy functions to the supranational level will create pressure for more integration through both positive feedback loops (as voters realize the benefits of integrating some functions and will want to integrate more) and negative ones (as partial integration leads to inconsistencies that force further integration). In the functionalists’ view integration is the result of a democratic process, but the product of an enlightened elite’s effort.

[...]

At least some European founding fathers seem to have conceived the mechanism knowing that these inconsistencies would lead to crises. These crises were seen as opportunities to force further integration which voters would have not favored otherwise. In the words of Romano Prodi, one of these founding fathers, “I am sure the euro will oblige us to introduce a new set of economic policy instruments. It is politically impossible to propose that now. But some day there will be a crisis and new instruments will be created.”

There are two basic problems with this strategy.

First, it is antidemocratic. If people wanted total integration, there would be no need to prod politicians and voters into accepting ever closer union by creating new crises. Monnet’s strategy therefore depends on deception. Even if the plan “works”, it does so at the cost of long-term legitimacy.

Second, the strategy depends on the assumption that pan-European responses actually make things better rather than worse. If supra-national institutions were perceived to exacerbate the problems they were meant to solve, or if the new “inconsistencies” ended up being more painful than the old ones, support for European unity would erode rather than grow.

The Brookings paper documents that, in fact, support for “Europe” peaked in the early 1990s. After holding steady from the mid-1990s through the early 2000s, support for the EU has been on a sharp downward trajectory since the enlargement to the east in 2004. Nowadays, fewer than half the citizens in EU-15 countries think that EU membership is good for their country:



The silver lining in all this is that Europeans still seem to like the idea of Europe. With the notable exception of Italy, large majorities in every country in the euro area wants to keep the single currency. (By contrast, countries such as Denmark, Sweden, and the UK, which are in the EU-15 but not on the euro, have become notably less interested in joining the bloc since 2008.) Confidence in pan-European institutions relative to national governments has also held up well during the euro crisis.

However, the absolute level of faith in national governments, the European Commission, and the European Central Bank is plummeting, particularly among younger Europeans. That bodes ill for the long-term success of Monnet’s strategy (emphasis ours):

Today a majority of Europeans think that the EU is going in the wrong direction. They do not want it to go further, but overall they do not want it to go backward either, with all the countries (except Italy) having a pro Euro majority…The attempt to jump start the chain reaction has left the Continent stuck in a political impasse: in spite of the unpleasant current conditions, there is no desire to move forward, while there is too much fear to move backward.

In spite of limited support in some countries, European integration has moved forward and has become almost irreversible. On the other hand, the strategy has worked so far at the cost of jeopardizing the future sustainability. The key word is “almost.” Europe and the euro are not irreversible, they are simply very costly to revert.

As long as the political dissension is not large enough, Monnet’s chain reaction theory delivered the desired outcome, albeit in a very non-democratic way. The risk of a dramatic reversal, however, is real. The European project could probably survive a United Kingdom’s exit, but it would not survive the exit of a country from the euro, especially if that exit is not so costly as everybody anticipates.

The risk is that a collapse of the euro might bring also the collapse of many European institutions, like the free movement of capital, people and goods. In other words, as all chain reactions, Monnet’s one has an hidden cost: the risk of a meltdown.

Those interested in the detailed data in the paper should read the whole thing, but we want to focus on the discussion that occurred after this paper was presented at Brookings. Unfortunately, we cannot tell you who said what because of the Chatham House Rule, but we will note that several former European central bankers were active contributors to the discussion.

One line of thinking, which was expressed most forcefully by a retired national central bank chief, was that Monnet’s strategy was fundamentally sound but that it had been short-circuited by an “unforeseen actor” — the ECB. Had the lender of last resort not stepped in at crucial moments to mitigate crises, particularly the summer of 2012, it’s possible that politicians would have felt forced to make needed reforms such as a deeper fiscal transfer union and a pan-European bank resolution scheme.

We have some sympathy with this argument, which is a variant of the point made by the Bank for International Settlements in its 2013 annual report. And as this 2013 interview with former Central Bank of Cyprus boss Athanasios Orphanidesdemonstrates, Europe’s elected leaders have made plenty of mistakes. Even so, we can’t help but be struck by the similarities of this position to an idea invented by Lenin (emphasis ours):

The enlightener believes in the present course of social development, because he fails to observe its inherent contradictions. The Narodnik fears the present course of social development, because he is already aware of these contradictions. The “disciple” believes in the present course of social development, because he sees the only earnest of a better future in the full development of these contradictions.

The first and last trends therefore strive to support, accelerate, facilitate development along the present path, to remove all obstacles which hamper this development and retard it. Narodism, on the contrary, strives to retard and halt this development, is afraid of abolishing certain obstacles to the development of capitalism. The first and last trends are distinguished by what may be called historical optimism: the farther and the quicker things go as they are, the better it will be.

In other words, things won’t get better until they first become much worse. By this logic, the goal of the revolutionary European federalist is to “heighten the contradictions” until the proletariat overthrows the capitalists politicians respond by increasing European integration.

We heard some convincing counterarguments to this line of thinking. One participant said that, far from encouraging European integration and reform, implementing the Leninist strategy would lead to Europe’s takeover by the likes of Marine Le Pen, Beppe Grillo, and Golden Dawn while encouraging separatist movements from Catalunya to Vlaanderen. Rather than further integration, these leaders would tear the single currency and free trade bloc apart.

The Nazi party became a popular movement only after Germans had been forced to endure years of Chancellor Bruening’s deflationary policies. Just what do people think would have happened had Mario Draghi not pledged to do “whatever it takes” to save the euro two years ago?

The discussion ended with a particularly dour thought from another former European central bank chief. According to him, the single currency is doomed to fail.

The meagre efforts of the ECB so far have been barely more than the minimum necessary to prevent a complete catastrophe. The big-picture view is of a continent that, at best, has not grown at all in nearly seven years. Some useful context from Goldman:



Differences in history, language and culture across the individual states have prevented and will continue to prevent politicians from making the necessary compromises on fiscal and regulatory policy to create a workable currency zone.

After all, there is a very real possibility that Scotland will choose to exit the much smaller — and fully integrated — sterling currency zone because of political and cultural differences with the rest of the UK. It would be arrogant to assume that nations as diverse as Italy and Germany and France will further sacrifice their national sovereignty for the sake of completing the European project, rather than throw the whole thing out.

If growth fails to return, citizens of these countries may eventually come to the (reasonable) conclusion that destroying the single currency would be less bad than muddling through forever. Even now, only a minority of Italians support keeping the euro, while polls show Marine Le Pen winning a run-off election against Francois Hollande. It certainly seems as if Monnet’s vision is destined to end in failure.​

 

[Audio]

oh wow, 2012 is back!

Thanks x 1
LeveragedBuyout

It was sarcasm. I think most of this is wishful thinking from the shadow economics ministry at Goldman Sachs. Perhaps their time would be better spent in procuring the gold that supposedly resides in Fed bank in NY. Or maybe we should just discard what they're saying, Goldman is known for preaching one thing but doing the opposite.

While it is true, reforms have ground to a halt, it is also true, we exited recession precisely because of reforms already implemented.
Although, being a realist, there certainly is no shortage of things to improve.

In any case, all the eurosceptics need to see, is what future we are being foretold on forums like these. And that the compromise of sticking together is less painful than the price of going alone.

 

[MarkusS]

There is no alternative to the EU. And i don´t see how this moronoc article change this. The time of small nations is over.

 

[LeveragedBuyout]

oh wow, 2012 is back!



It was sarcasm. I think most of this is wishful thinking from the shadow economics ministry at Goldman Sachs. Perhaps their time would be better spent in procuring the gold that supposedly resides in Fed bank in NY. Or maybe we should just discard what they're saying, Goldman is known for preaching one thing but doing the opposite.

While it is true, reforms have ground to a halt, it is also true, we exited recession precisely because of reforms already implemented.
Although, being a realist, there certainly is no shortage of things to improve.

In any case, all the eurosceptics need to see, is what future we are being foretold on forums like these. And that the compromise of sticking together is less painful than the price of going alone.

Even those minimal reforms are being reversed in Germany and France, which does not bode well for the future of the EU. I don't doubt that the EU can muddle through for years and years, but the livelihood of its citizens will slowly be ground down as well.

A 35 hour workweek in a global economy is simply laughable. Union control over hiring and firing decisions when capital and contracts can be transferred overnight is laughable. The demographic horizon for the EU is right up there with East Asia.

The EU is facing a stark choice: quick, sharp pain, followed by growth (as in the case of Sweden's reforms in the 1990s), or a slow death. The ECB has bought the EU some more time, but the clock is ticking. I wish you the best of luck, but I am skeptical that anything can be accomplished so long as un-elected technocrats in Brussels control the levers of power.

 

[senheiser]

euro is a mistake and EU is corrupt organisation. We need a smaller Union but that has Russia in it for Hard power and without Britain.

 

[Audio]

Even those minimal reforms are being reversed in Germany and France, which does not bode well for the future of the EU. I don't doubt that the EU can muddle through for years and years, but the livelihood of its citizens will slowly be ground down as well.

A 35 hour workweek in a global economy is simply laughable. Union control over hiring and firing decisions when capital and contracts can be transferred overnight is laughable. The demographic horizon for the EU is right up there with East Asia.

While i somewhat agree with your criticism, there are things to note:

In re to Germany and reversed reforms, i assume you mean pension reforms being reverted, this can perhaps be explained with the fact that senior citizen vote cannot be ignored, especially in Germany and politics that are involved with making a coalition that will govern from several parties. Plus, they already made reforms in early 2000's.

In re to France, i agree with "too much union is bad", but there are some sign things will become different, namely, the recent reshuffle of French government coalition had the effect of keeping all but 3 left wing ministers in government. One of these was iirc financial minister Marbourg, poster boy for strong unions and such. But this might all be just political gambling so that France can buy time to not stick to the EU mandated 3% budget deficit. We will see in a few months i suppose.

35h work week is........ All i know is "we work till it's done".

In re to demographic horizon, there's not really much to do about it in the short term. In the long term, there are charts out there, i've linked them before on this forum, that show modest growth of natality before the crisis in 2008. They were modest indeed, but consistent for a few years and bigger than what you could attribute to asylum seekers/immigrants influx only. So, overall governing policy should be provide stability, financial security and things should improve.
Now if all that fails, the unelected technocrats have decided to invest in R&D (graphene, fusion, electrics ) and education (terciary level at 35% i think) i don't know i suppose the strategy is to build stuff commercially with this pool of knowledge and muddle along with the benefits they provide.
And as for east Asia, true, right up there, but the ones with a giant pool of old people are not nearly as rich as us. Their medical system is already crumbling as is.

The EU is facing a stark choice: quick, sharp pain, followed by growth (as in the case of Sweden's reforms in the 1990s), or a slow death. The ECB has bought the EU some more time, but the clock is ticking. I wish you the best of luck, but I am skeptical that anything can be accomplished so long as un-elected technocrats in Brussels control the levers of power.

If they are smart technocrats, things will be ok. Pure democracy will inevitably lead to mob rule imho.

 

[LeveragedBuyout]

Italy’s Growing Debt Looms Over European, and Global, Economies - Real Time Economics - WSJ

• 

• September 18, 2014, 2:56 PM ET

Italy’s Growing Debt Looms Over European, and Global, Economies
ByIan Talley
Looking at Italy’s ballooning debt, Germany’s reluctance to allow the European Central Bank free rein on the cash lever makes some sense.

The International Monetary Fund on Thursday cut its outlook for the Belpaese again, forecasting a 0.1% contraction instead of 0.3% growth this year. That means a third consecutive year of economic shrinkage.

Absent Teutonic market pressures that ECB action relieves, Rome may keep on its current path. (The failure of the government to move ahead with needed policy adjustments has led to a short term for Carlo Cottarelli, the IMF’s former Fiscal Affairs chief, as Italy’s budget watchdog. He’s announced an October departure.)

Perhaps like others in Europe, the IMF has consistently been optimistic about Rome’s ability to make the tough economic changes necessary to spur growth and cut debt levels. As a result, the fund’s also been consistently wrong. Its median forecast error for the past eight years is 1.6 percentage points above actual gross domestic product growth.

“While growth outcomes in Italy have sometimes tended to be worse than projected, the current growth projections are in line with consensus but below the authorities’ forecasts,” the IMF said in its latest annual economic review of the country.

At least for now. But the fund is honest about the risks. Deep structural changes—such as simplifying labor contracts and a more efficient judicial system—are urgently needed to secure a recovery and spur growth, the fund warns.

“The risks are tilted to the downside,” it adds. “Italy’s high public debt, large public financing needs and elevated [nonperforming loans] leave the economy vulnerable to financial contagion and/or low growth and inflation.”

Three years of Europe’s third-largest economy shrinking has pushed debt levels dangerously ever higher. It’s not a negligible risk for the rest of the continent, or for the global economy.

The IMF has had to repeatedly push its forecasts of peak debt higher and farther into the calendar, a mountain of obligations that risk overwhelming the country’s ability to pay in the years ahead, especially if the government can’t generate the political momentum for a raft of economic policy reforms.

Without structural changes to the economy, the fund projects Italy’s debt will continue to rise:

And so will the country’s need to raise more cash:

Italy has been somewhat insulated. First, by Europe’s bailout facilities and the ECB’s vows to “do whatever it takes.” Secondly, Italy’s debt has a long-term structure, meaning there aren’t immediate financing needs.

But, the IMF warns, the country remains vulnerable to a loss in market confidence given the size of its refinaning needs, which would push up borrowing costs. As the past several years have shown, it’s also exposed to growth shocks such as those that could come from the Ukraine/Russia crisis.

“In addition to being a drag on economic growth for the region and beyond, further unrest could also trigger large spillovers on activity in other parts of the world through a renewed bout of increased risk aversion in global financial markets, higher public spending or revenue losses, or disruptions to commodity markets, trade, and finance,” the IMF told global finance leadersWednesday.

In stress tests, the IMF estimated that Rome’s debt trajectory could hit nearly 150%—up 15 percentage points from current levels—if Italy’s economy were to contract by an average of 1.3% over the next couple of years or if a banking crisis forced the government to bail out the financial industry.

Given that such a scenario would likely send shockwaves around the world, Italy’s sluggish efforts to restructure its economy are likely to be a topic at the Group of 20 meeting this weekend inAustralia.

A senior U.S. Treasury official recently told reporters Europe’s lackluster growth would be a top priority at the meeting. “We’ve emphasized the need to boost domestic demand in Europe, and we’ve underscored that it will require implementation of more accommodative measures across the full range of macroeconomic policies,” the official said.

 

[LeveragedBuyout]

Germany’s Economic Mirage by Philippe Legrain - Project Syndicate


BUSINESS & FINANCE

PHILIPPE LEGRAIN
Philippe Legrain, a visiting senior fellow at the London School of Economics’ European Institute and a former economic adviser to the president of the European Commission, is the author of European Spring: Why Our Economies and Politics are in a Mess – and How to Put Them Right.

SEP 23, 2014
Germany’s Economic Mirage
LONDON – For 60 years, successive German governments sought a more European Germany. But now, Chancellor Angela Merkel’s administration wants to reshape Europe’s economies in Germany’s image. This is politically unwise and economically dangerous. Far from being Europe’s most successful economy – as German Finance Minister Wolfgang Schäuble and others boast – Germany’s economy is dysfunctional.

To be sure, Germany has its strengths: world-renowned companies, low unemployment, and an excellent credit rating. But it also has stagnant wages, busted banks, inadequate investment, weak productivity gains, dismal demographics, and anemic output growth. Its “beggar-thy-neighbor” economic model – suppressing wages to subsidize exports – should not serve as an example for the rest of the eurozone to follow.

Germany’s economy contracted in the second quarter of 2014, and has grown by a mere 3.6% since the 2008 global financial crisis – slightly more than France and the United Kingdom, but less than half the rate in Sweden, Switzerland, and the United States. Since 2000, GDP growth has averaged just 1.1% annually, ranking 13th in the 18-member eurozone.

Written off as the “sick man of Europe” when the euro was launched in 1999, Germany responded not by boosting dynamism, but by cutting costs. Investment has fallen from 22.3% of GDP in 2000 to 17% in 2013. Infrastructure, such as highways, bridges, and even the Kiel Canal, is crumbling after years of neglect. The education system is creaking: the number of new apprentices is at a post-reunification low, the country has fewer young graduates (29%) than Greece (34%), and its best universities barely scrape into the global top 50.

Hobbled by underinvestment, Germany’s arthritic economy struggles to adapt. Despite former Chancellor Gerhard Schröder’s labor-market reforms, it is harder to lay off a permanent employee in Germany than anywhere else in the OECD. Germany languishes in 111th place globally for ease of starting a business, according to the World Bank’s Doing Business rankings. Its largest firms are old and entrenched; it has produced no equivalent of Google or Facebook; and the service sector is particularly hidebound. The government has introduced fewer pro-growth reforms over the past seven years than any other advanced economy, according to the OECD. Average annual productivity growth over the past decade, at a mere 0.9%, has been slower even than Portugal’s.

The brunt of the stagnation has been borne by German workers. Though their productivity has risen by 17.8% over the past 15 years, they now earn less in real terms than in 1999, when a tripartite agreement among the government, companies, and unions effectively capped wages. Business owners might cheer, but suppressing wages harms the economy’s longer-term prospects by discouraging workers from upgrading skills, and companies from investing in higher-value production.

Wage compression saps domestic demand, while subsidizing exports, on which Germany’s growth relies. The euro, which is undoubtedly much weaker than the Deutschmark would have been, has also helped, by reducing the prices of German goods and preventing France and Italy from pursuing currency depreciation. Until recently, the euro also provided booming external demand in southern Europe, while China’s breakneck industrial development raised demand for Germany’s traditional exports.

But, with southern Europe now depressed, and China’s economy decelerating and shifting away from investment spending, the German export machine has slowed. Its share of global exports fell from 9.1% in 2007 to 8% in 2013 – as low as in the “sick man” era, when Germany was struggling with reunification. Because cars and other exports “made in Germany” now contain many parts produced in central and eastern Europe, Germany’s share of global exports is at a record low in value-added terms.

German policymakers pride themselves on the country’s vast current-account surplus – €197 billion ($262 billion) as of June 2014 – viewing it as a sign of Germany’s superior competitiveness. Why, then, are businesses unwilling to invest more in the country?

External surpluses are in fact symptomatic of an ailing economy. Stagnant wages boost corporate surpluses, while subdued spending, a stifled service sector, and stunted start-ups suppress domestic investment, with the resulting surplus savings often squandered overseas. The Berlin-based DIW institute calculates that from 2006 to 2012, the value of Germany’s foreign portfolio holdings fell by €600 billion, or 22% of GDP.

Worse, rather than being an “anchor of stability” for the eurozone, as Schäuble claims, Germany spreads instability. Its banks’ poor approach to lending their surplus savings inflated asset-price bubbles in the run-up to the financial crisis, and have imposed debt deflation since then.

Nor is Germany a “growth engine” for the eurozone. In fact, its weak domestic demand has dampened growth elsewhere. As a result, German banks and taxpayers are less likely to recover their bad loans to southern Europe.

Given how bad wage compression has been for Germany’s economy, foisting wage cuts on the rest of the eurozone would be disastrous. Slashing incomes depresses domestic spending and makes debts even less manageable. With global demand weak, the eurozone as a whole cannot rely on exports to grow out of its debts. For struggling southern European economies whose traditional exports have been undercut by Chinese and Turkish competition, the solution is to invest in moving up the value chain by producing new and better products.

Germany’s economy needs an overhaul. Policymakers should focus on boosting productivity, not “competitiveness,” with workers being paid their due. The government should take advantage of near-zero interest rates to invest, and encourage businesses – especially start-ups – to do likewise. Finally, Germany should welcome more dynamic young immigrants to stem its demographic decline.

This would be a better economic model for Germany. It would also set the right example for the rest of Europe.

Germany’s Economic Mirage by Philippe Legrain - Project Syndicate


Read more at Germany’s Economic Mirage by Philippe Legrain - Project Syndicate

 

[LeveragedBuyout]

Druckversion - German Central Bank Head Weidmann: 'The Euro Crisis Is Not Yet Behind Us' - SPIEGEL ONLINE - News - International

09/24/2014 01:00 PM
German Central Bank Head Weidmann
'The Euro Crisis Is Not Yet Behind Us'
Interview by Armin Mahler and Anne Seith

An extended period of calm on the bond markets has led many to conclude the euro crisis is over. But German central bank head Jens Weidmann says in an interview that the coast still isn't clear and that there is still great need for reforms.

SPIEGEL: Mr. Weidmann, you are notorious for being a tough critic of European Central Bank President Mario Draghi. But the euro crisis seems to be over, largely thanks to ECB intervention. Has he not been proven right?

Weidmann: It's not about being right or a personal confrontation. When it comes to extremely important monetary policy decisions, the ECB Governing Council does its utmost to find the correct path. And the decisions are so difficult because the crisis is not yet behind us, even if the current calm on the financial markets might suggest as much.

SPIEGEL: Yet Spain, once wracked by the euro-zone crisis, can today borrow money more cheaply than ever before in the history of the monetary union. Do you not think that is a consequence of Mario Draghi's 2012 pledge to save the euro "whatever it takes"?

Weidmann: You shouldn't mistake the thermometer for the illness. I have never disputed that the ECB could impress and move the markets with the announcement that it would make massive purchases of sovereign bonds if necessary. But such measures focus on the symptoms and don't cure the causes of the crisis. As such, the current calm is misleading and even dangerous, because it takes pressure off of the governments to implement badly needed reforms. If they are not undertaken, investors could quickly change their risk evaluations.

SPIEGEL: But if the ECB hadn't intervened, the euro zone patient may well have died from its 2012 fever.

Weidmann: I don't believe that is the case. In reaction to the crisis, policymakers established a multibillion euro bailout fund to assist the crisis countries in exchange for their adherence to certain stipulations. That was the correct, democratically legitimate path. Even more so given that the bailout fund can also purchase sovereign bonds. The central bank in the euro zone, by contrast, is forbidden from providing credit to countries and from purchasing sovereign bonds on the primary market. By making targeted bond purchases on the secondary market, the ECB opened itself to accusations of skirting this ban.

SPIEGEL: Since the beginning of the financial crisis, the European Central Bank has injected liquidity into the markets at decreasing intervals. It is a bit reminiscent of a junkie who has to continually up the dosage to have the desired effect.

Weidmann: It is certainly true that after each loosening of monetary policy, the public immediately begins speculating about what might come next.

SPIEGEL: Most recently, in early September, the ECB Governing Council reduced the already low interest rate of 0.15 percent to 0.05 percent. What will that accomplish?

Weidmann: That wasn't the only measure taken. After a controversial discussion, agreement was reached on a purchasing program for covered bonds and asset-backed securities (ABSs) and the effect of the entire package must be evaluated. No matter what one's views on the content of the package, the ECB council has demonstrated that monetary policy is prepared to go far and break new ground.

SPIEGEL: The focus was more on the message sent rather than the real economic effects?

Weidmann: There isn't necessarily a contradiction between the two. Monetary policy signals can be used to influence the expectations of consumers, investors and companies. The focus is no longer just on stimulating the credit markets, but also on pumping money directly into the economy if need be. That is why the most recent decisions made by the ECB council, in my estimation, mark a critical juncture and an incisive change in the ECB's monetary policy.

SPIEGEL: Are there even sufficient securities in circulation for the ECB to spend several hundred billion on their purchase?

Weidmann: If we want to avoid highly risky securities and keep away from buying out an entire market, it is questionable. For the program to have an effect, the purchases would have to completely rejuvenate the market for new securities.

SPIEGEL: Which is why it is likely only a matter of time before the ECB begins buying large quantities of both sovereign and company bonds. Would you agree to such a program?

Weidmann: I don't think much of speculating on what other actions might be added immediately following the introduction of new measures. Those who feed such speculation call into question the effects of those just introduced. My position on sovereign bond purchases is well known and has not changed.

SPIEGEL: Low inflation in the euro zone has also been presented as a justification for such measures. What is so bad about the fact that prices are not increasing?

Weidmann: From the perspective of the public, nothing at first. On the contrary, they are able to buy more for their money than they would if inflation were higher. But there are good reasons why the ECB council strives for an inflation rate of under, but close to, 2 percent, thus maintaining a safety margin from the zero line. An average inflation rate of zero in the euro zone would mean that prices and nominal wages would climb in some countries whereas they would have to fall in other countries. Experience shows that such a situation is difficult to manage. Even under the intense pressure to reform, nominal wages in crisis countries have, at least, not fallen. In addition, without a safety margin monetary policy reaches its limits more quickly, from which it can no longer furnish interest-policy stimulus. The prime rate cannot, after all, be reduced too far below zero.

SPIEGEL: How realistic is the danger of deflation in the euro zone?

Weidmann: The probability of a problematic deflationary development is very low. The decline of the inflation rate is largely due to sinking energy and commodity prices. As a central bank, we don't have any direct influence on that and the effects on the inflation rate are only temporary insofar as, for example, companies and trade unions don't react with their wage agreements. In addition, adjustment processes in the crisis countries are behind the development. During the adjustment period, not only economic growth, but also price pressures will be dulled. Rapidly overcoming this phase is another reason structural reforms must be resolutely implemented.

SPIEGEL: Is not the ECB taking advantage of deflation fears to push through instruments that it shouldn't really be using?

Weidmann: If a central bank is in danger of missing its inflation target in the near future, its credibility demands that it consider unconventional instruments within its mandate. Which doesn't mean that each of these instruments is equally appropriate.

SPIEGEL: But you just said that the low inflation rate is the result of normal factors. Why should it then be combatted?

Weidmann: We can't change the current rate of inflation. Our monetary policy targets future developments. For their future planning, households and corporations have to be able to depend on mid-term prices climbing at an annual rate of almost 2 percent, in accordance with our announcements.

SPIEGEL: Nevertheless, you would have preferred that no action were taken at the last ECB council session.

Weidmann: It was very much possible to have a different assessment regarding the need to take action, particularly given that new ECB forecasts have not changed the inflation rates expected for next year and the year after. As ECB President Draghi said in the press conference, we had divergent views as to whether it was absolutely necessary to introduce far-reaching purchasing programs and regarding the risks and side effects the recent resolutions might have. Especially in light of the fact that the liquidity measures announced in June hadn't even been initiated.

SPIEGEL: Christian Noyer, head of the French central bank, said that the new measures are also aimed at pushing down the euro exchange rate. Is that the task of the ECB?

Weidmann: Absolutely not, and I believe that Christian Noyer was misunderstood. Of course our decisions have an influence on the height of the exchange rate which then has an effect on the development of inflation. But we are not pursuing a monetary policy that targets the exchange rate. Policies aimed at intentionally weakening one's own currency would also not be consistent with G-20 agreements. More than anything, a weak currency is not a good way to ensure lasting growth.

SPIEGEL: Via its ABS purchase program, the ECB balance sheet will soon include bank loans in the form of securities. Would that not threaten to turn it into Europe's bad bank?

Weidmann: That depends on what is purchased and at what price. If at all, the ECB should only buy low risk securities -- and only after careful evaluation. More than anything, the ECB should not pay higher prices than a private investor would. What's clear is that if the ECB does take on risky securities or pays inflated prices in order to reach the targeted purchase volume, it ultimately burdens taxpayers. Which is why it is important to limit the program's risks and ensure complete transparency regarding the purchases.

SPIEGEL: Does the course currently being followed by the ECB mean that the collectivization of debt, a process opposed by Berlin, is being introduced through the back door?

Weidmann: Depending on how the program is designed, there is a danger that banks might be freed from risks on the backs of taxpayers. But that is surely not the function of the ECB. It would also contradict the current regulation efforts aimed at making shareholders and creditors liable. That is why it is decisive that the purchasing program does not take on appreciable risks either from financial institutions or countries.

SPIEGEL: That will be difficult. ABSs are primarily issued in the Netherlands, Italy, Spain and France, countries where banks have many questionable loans on their books. What is the point at which you say you can no longer support the course charted by the ECB?

Weidmann: If I am unable to support a specific measure, I don't vote for it and I energetically throw my support behind a different course of action. Only in that way is it possible to influence decisions, sometimes to a greater degree than others. But I am certain that, without the influence of Germany's central bank, important decisions would be made differently.

SPIEGEL: You wouldn't be the first German to leave the ECB in frustration.

Weidmann: When I took office, we were already in a difficult monetary policy phase. I was aware of the conflicts that might be facing me. I do not wish to, nor will I, run away from them.

SPIEGEL: You are seen as the great doubter while Draghi is celebrated as Europe's savior. Does that bother you?

Weidmann: Such generalizations miss the point and are not helpful. Mario Draghi has also repeatedly pointed out that monetary policy alone isn't enough to save Europe. I am convinced that a central bank that allows itself to be pressured by politics risks its independence. If a central bank compensates for a lack of political action, the pressure to do so over and over again will constantly increase and it runs the risk of losing sight of its price stability targets.

SPIEGEL: Supporters of this course of action say that the ECB has to do something because politicians are abdicating their responsibility for finding a solution. Are they not right?

Weidmann: The view of democracy that informs this question is not one that I share. If elected politicians don't take action for fear of voter dissatisfaction then a small circle of central bankers, who are not elected and who don't have a mandate for economic policy, should not allow themselves to be seduced into taking on the role of policymakers. Such a procedure is not a sound foundation for the collective European house.

SPIEGEL: Just as you are largely isolated in the ECB, German Chancellor Angela Merkel is largely alone when it comes to European policy. Most countries are demanding that austerity be loosened. What is wrong with giving crisis countries more time to solve their problems?

Weidmann: I don't see Germany as being isolated. Precisely those countries that have implemented far-reaching reforms in recent years and consolidated their budgets against political opposition are now calling on larger member states to conform to the rules. Furthermore, we shouldn't forget that the sovereign debt crisis was triggered by doubts about the stability of the public budgets of some euro-zone member states. If we want to address the causes, a credible course toward stable state finances must be charted. Reaching agreements when the pressure is on only to scrap them when pressure drops cannot be part of that course.

SPIEGEL: Still, the goals must be realistic. Is there not a danger of strangling the economy via austerity?

Weidmann: We are far away from that. In some countries, the deficits have been over 3 percent for years and this year too will see six euro-zone countries transgress the deficit limit. The danger I see is that the necessary budget consolidations will be delayed and that the trust that has been lost won't be built up again quickly enough. Solid budgets, furthermore, are a precondition for, not a contradiction to, sustainable economic growth.

SPIEGEL: Draghi, though, wants to stimulate the economy. Among other measures, he is gathering support for an investment program worth more than €300 billion.

Weidmann: Before that can happen, it must be seen how the program, proposed by incoming European Commission President Jean-Claude Juncker, is to be financed. In any case, it cannot lead to the abandonment of consolidation. And each project must be examined to determine if the investment carries benefits for the economy in its entirety. The past has shown that not all public investments were sensible, neither in the crisis countries nor here in Germany.

SPIEGEL: What is your recipe for increased growth?

Weidmann: Growth and jobs are ultimately produced by private companies. That is where investment must take place. To promote that, the public sphere must create the necessary framework. I believe that the improvement of administration structures in many crisis countries, for example, is much more important than reflexively demanding that new streets and bridges be built. If you have to wait months for an operating or construction license, that doesn't promote the willingness to become active as an entrepreneur. In addition, public budgets must be consolidated, labor markets must be made more flexible and banks must be stabilized as promised so that loans can once again be made. And there has been progress on those issues.

SPIEGEL: But not in France and not in Italy.

Weidmann: There too governments have realized that there is a need to act. The examples of Spain and Ireland show that structural reforms are worthwhile. The governments of both those countries were recently able to make significant upward adjustments to their growth forecasts.

SPIEGEL: What if France and Italy continue on as they have?

Weidmann: The longer these two large countries refrain from creating the conditions for growth and stability, the longer the euro zone's weakness will continue -- and with it, the pressure on monetary policy.

SPIEGEL: Would you rather see the euro fail than abandon your principles?

Weidmann: That isn't the question. The ECB contributes to the success of monetary union by keeping monetary value stable. That is our legal mandate. Member states, for their part, have to make their economies fit for the common currency. Those are the rules of the game that all have agreed to.

SPIEGEL: Mr. Weidmann, we thank you for this interview.

URL:

• Interview with Bundesbank Head Jens Weidmann on Euro Crisis and ECB - SPIEGEL ONLINE

 

[LeveragedBuyout]

Stiglitz's attack on the straw man of "austerity" is grotesque. Austerity has never been implemented, unless one considers increasing spending at a slower rate than "splurging" to be "austerity." He also conflates corporate and individual tax cuts--while the former may not stimulate demand, the latter surely will, and it has the added benefit of ethically returning to the people what is already theirs.

---

Europe’s Austerity Zombies by Joseph E. Stiglitz - Project Syndicate


POLITICS
View attachment 7400cdd75ed54bf412a748588b9244ce.jpg
JOSEPH E. STIGLITZ
Joseph E. Stiglitz, a Nobel laureate in economics and University Professor at Columbia University, was Chairman of President Bill Clinton’s Council of Economic Advisers and served as Senior Vice President and Chief Economist of the World Bank. His most recent book, co-authored with Bruce Greenwald, is Creating a Learning Society: A New Approach to Growth, Development, and Social Progress.

SEP 26, 2014
Europe’s Austerity Zombies
NEW YORK – “If the facts don’t fit the theory, change the theory,” goes the old adage. But too often it is easier to keep the theory and change the facts – or so German Chancellor Angela Merkel and other pro-austerity European leaders appear to believe. Though facts keep staring them in the face, they continue to deny reality.

Austerity has failed. But its defenders are willing to claim victory on the basis of the weakest possible evidence: the economy is no longer collapsing, so austerity must be working! But if that is the benchmark, we could say that jumping off a cliff is the best way to get down from a mountain; after all, the descent has been stopped.

But every downturn comes to an end. Success should not be measured by the fact that recovery eventually occurs, but by how quickly it takes hold and how extensive the damage caused by the slump.

Viewed in these terms, austerity has been an utter and unmitigated disaster, which has become increasingly apparent as European Union economies once again face stagnation, if not a triple-dip recession, with unemployment persisting at record highs and per capita real (inflation-adjusted) GDP in many countries remaining below pre-recession levels. In even the best-performing economies, such as Germany, growth since the 2008 crisis has been so slow that, in any other circumstance, it would be rated as dismal.

The most afflicted countries are in a depression. There is no other word to describe an economy like that of Spain or Greece, where nearly one in four people – and more than 50% of young people – cannot find work. To say that the medicine is working because the unemployment rate has decreased by a couple of percentage points, or because one can see a glimmer of meager growth, is akin to a medieval barber saying that a bloodletting is working, because the patient has not died yet.

Extrapolating Europe’s modest growth from 1980 onwards, my calculations show that output in the eurozone today is more than 15% below where it would have been had the 2008 financial crisis not occurred, implying a loss of some $1.6 trillion this year alone, and a cumulative loss of more than $6.5 trillion. Even more disturbing, the gap is widening, not closing (as one would expect following a downturn, when growth is typically faster than normal as the economy makes up lost ground).

Simply put, the long recession is lowering Europe’s potential growth. Young people who should be accumulating skills are not. There is overwhelming evidence that they face the prospect of significantly lower lifetime income than if they had come of age in a period of full employment.

Meanwhile, Germany is forcing other countries to follow policies that are weakening their economies – and their democracies. When citizens repeatedly vote for a change of policy – and few policies matter more to citizens than those that affect their standard of living – but are told that these matters are determined elsewhere or that they have no choice, both democracy and faith in the European project suffer.

France voted to change course three years ago. Instead, voters have been given another dose of pro-business austerity. One of the longest-standing propositions in economics is the balanced-budget multiplier – increasing taxes and expenditures in tandem stimulates the economy. And if taxes target the rich, and spending targets the poor, the multiplier can be especially high. But France’s so-called socialist government is lowering corporate taxes and cutting expenditures – a recipe almost guaranteed to weaken the economy, but one that wins accolades from Germany.

The hope is that lower corporate taxes will stimulate investment. This is sheer nonsense. What is holding back investment (both in the United States and Europe) is lack of demand, not high taxes. Indeed, given that most investment is financed by debt, and that interest payments are tax-deductible, the level of corporate taxation has little effect on investment.

Likewise, Italy is being encouraged to accelerate privatization. But Prime Minister Matteo Renzi has the good sense to recognize that selling national assets at fire-sale prices makes little sense. Long-run considerations, not short-run financial exigencies, should determine which activities occur in the private sector. The decision should be based on where activities are carried out most efficiently, serving the interests of most citizens the best.

Privatization of pensions, for example, has proved costly in those countries that have tried the experiment. America’s mostly private health-care system is the least efficient in the world. These are hard questions, but it is easy to show that selling state-owned assets at low prices is not a good way to improve long-run financial strength.

All of the suffering in Europe – inflicted in the service of a man-made artifice, the euro – is even more tragic for being unnecessary. Though the evidence that austerity is not working continues to mount, Germany and the other hawks have doubled down on it, betting Europe’s future on a long-discredited theory. Why provide economists with more facts to prove the point?

Europe’s Austerity Zombies by Joseph E. Stiglitz - Project Syndicate


Read more at Europe’s Austerity Zombies by Joseph E. Stiglitz - Project Syndicate

 

[LeveragedBuyout]

Matteo Renzi Struggling to Solve Italian Economic Crisis - SPIEGEL ONLINE

Bungle Bungle: Italy's Failed Economic Turnaround
By Hans-Jürgen Schlamp


AP
Ever since Matteo Renzi became Italy's new prime minister, officials in Berlin and Brussels have had newfound belief that Italy's deep-seated economic problems are being tackled. But that won't happen until the country stops deceiving itself.

Mirko Lami, a portly 50-year-old, has demonstrated, gone on strike, and quarreled with people on TV talk shows and in marketplaces. He's even gone on a seven-day hunger strike. Anything to save his job.



He still has a "solidarity contract" -- a fixture in Italy designed to avoid full redundency -- which provides him with €950 in exchange for a few days of work per month. But that will be over soon too, and then he will face unemployment, as do his 2,000 co-workers at La Lucchini in Piombino.
The Tuscan town of 34,500 has a port from which tens of thousands of tourists head to the islands of Elba or Sardinia annually. It also has an ironworks plant with a gray and rusting coking plant, a relic from the industrial Stone Age.

Now an Indian steel baron intends to take over the plant, but only wants to retain 700 of the employees. Another thousand jobs among the companies that supply the plant are also in jeopardy, and there are already "for sale" or "for rent" signs on almost 100 businesses in Piombino. The crisis looms over the city.

And it's not just Piombino. Stores are closing, tradespeople are being let go and manufacturing is collapsing all over Italy, especially in the south. Many young academics are leaving the country. While productivity elsewhere has climbed over the past two decades, it has stagnated in the Italian manufacturing industry. There has been hardly any growth for at least as long. The crisis has struck an economy that was already ailing: Since the summer of 2007, Italy's overall level of industrial production has declined by a quarter.

Italy's managers and company-owning families, meanwhile, have padded their wallets, both legally and illegally. Fired Ferrari head Luca di Montezemolo was given a €27 million farewell. Managers and the "brokers" of an oil deal with Nigeria reportedly stashed away €200 million.

Prominent business figures are facing embezzlement charges everywhere. Many ownership families have preferred to take money out of their companies instead of reinvesting. "Not even Superman," says economic expert Salvatore Bragantini about Telecom Italia, could ever save that company from the "hole in which Telecom stakeholders have thrown it."

Deep Systemic Problems

After Berlusconi was sidelined and the boring Enrico Letta was replaced by the sympathetic and purposeful 39-year-old Matteo Renzi as the head of government, many thought that Italy was finally on the right track. But it's not.

On the contrary: The land is stuck in a recession. Its levels of sovereign debt, the number of bankruptcies and the rate of unemployment are perpetually setting new records. As a result, some Italian political leaders have long sought a multi-billion euro growth stimulus program -- a call that new European Commission President Jean-Claude Juncker is likely to heed. The magnitude and form of such a program, however, still needs to be determined so that it at least maintains the illusion of conforming with the Stability and Growth Pact.

But without many other changes in Italy, including its grasp on reality, simply injecting money isn't likely to change much. "For 20 years," economic expert Daniel Gros told La Repubblica newspaper recently, Italy has been claiming that others need to "give it another year, then you will see our wonderful reforms."

And even Mario Draghi -- the Italian president of the European Central Bank, which has been flooding the continent with cheap money, especially in crisis flashpoints like Italy -- bluntly admonished the country in August for failing to implement substantive structural reforms

But it's not that Italy is even lacking in money. The assets of Italian banks and insurance companies have risen by over €1.2 trillion since 2008. But manufacturing asset bases have, by contrast, fallen by €200 million. It's a grim distribution: the one sector doesn't seem to want to invest, while the other is unable.

Italians themselves face a similar situation. On average, every Italian has about €4,000 more in net assets than the average German, but wealth is even less evenly distributed in Italy than it is in Germany, weakening domestic demand: The rich have everything, the poor can't afford anything.

Overly High Taxes

Many of Italy's current problems stem from pre-crisis times: Taxation on business income, for example. The World Bank ("Paying Taxes 2014") estimates Italian companies' tax burden at 65.8 percent. Only France (64.7) and Spain (58.6) approach those drastic levels, and they face similar problems. The European average is dramatically lower, at 41.1 percent, while Italy's neighbors, Switzerland and Croatia, have extremely low rates of 29.1 and 19.8 percent respectably. Given that, who would want to invest in Italy?

"Having Europe's highest business taxes is ruining us," Massimo Giuliani, 55, the mayor of Piombino, agrees. Ha also argues that energy costs are much too high and that infrastructure is shoddy.

But the mayor is convinced that now everything is going to be much better. The port is currently being dredged, and soon giant freighters with six or seven-times the current permissable capacity will be able enter and exit while carrying, for example, steel from La Lucchini. The government wants to spend €50 million to modernize the steelmaking plant, and a new power plant is supposed to provide cheap electricity. In short, Giuliano says, there is "no better place in Italy for steel production."

But he may occasionally want to look at the large, colorful map that hangs on the wall of his office. It stems from his predecessor and portrays the "City of the Future 2015," as carefully conceived by architects.

In it, the highly modern-looking Lucchini site is surrounded by a technology park, an iron and steel museum, music and dance stages, energy-saving houses, parking spots and green areas. Everything is wonderfully designed, a communal dream on 2,500 acres.

The dream stems from the year 2008 -- its fulfillment was to cost €50 million. Over the course of three years, the project was advised, conceived, discussed, but then it became clear: There is not and will not be any money for it. Basta. And that too is typical of Italy.

Wasted Money

In Italy, projects are endlessly planned, designed and then cancelled -- sometimes before, sometimes after construction. Several billion euros have been invested in half-finished hospitals, sports facilities, theaters, bridges and highway sections that are now slowly falling apart.

EU money -- with which things could be built, researched, taught -- is not accessed because the national, provincial, communal, environmental, economic and social authorities often cannot agree who is to do what where and how with the money. As a result, Pompeii, a designated World Heritage Site, is crumbling even though Brussels had declared itself willing to provide about €80 million for its upkeep.

And when EU money does flow, things often take a strange course. Take for example the €7 billion training project, half financed by Brussels' social fund, that was meant to help young Italians find jobs. A study found that, although several thousand courses were taught, only 233 people ultimately found a job as a result. This means that every job cost about €30 million.

In the Mezzogiorno, the country's impoverished south -- which has seen an influx of €4,000 from Brussels per person over the past seven years -- EU money is trickling away almost without a trace. Adriano Giannola, the president of an organization for economic development, sees the "prettying up of a square here, a restauration there, usually of poor quality." People are using the money only to provide a bit of work to their voters, their friends, their business partners. He says he has not seen any projects that truly foster growth.

The state in Italy is not the solution, but part of the problem. Because the state doesn't work very well, work is becoming an increasingly rare commodity.

Why does a civil or business lawsuit take an average of 2,992 days in Italy, while 900 days suffice in Germany? Why do private citizens and entrepreneurs need to deal with about one hundred new tax laws every year -- the statistical equivalent of two new laws per week? Why is the state refusing to pay the over €75 billion in outstanding bills from deliverers and contractors, thus pushing many people into ruin? Why are 16,000 administrators and 12,000 inspectors receiving regal salaries to lead thousands of publically-owned companies, most of which have nothing to do with public services and only create deficits?

Italy's manufacturers' association has calculated that €13 billion could be saved in the public sector alone. One egregious example stems from the national tourism agency, which commissioned a project to globally showcase Italy's beauty by displaying seven photos around the world. After one and a half years, the seven photos were complete but because there wasn't enough money left for the planned TV and online ads or posters, no potential tourist ever saw them: The budget of €5 million had been entirely used to pay the salaries of the people involved.

Renzi Faces Obstacles

To end, abolish, change all that -- that's what Prime Minister Renzi said he intended to do when he took power. He intended to "scrap" the old guard that controlled the state, remove the old cliques and fundamentally change the country from the ground up.



He started off forcefully, sending to the parliament a new election law and a constitutional amendment that would abolish the provinces and the second chambers of parliament. And a tax cut on top of that. He has charged his ministers with elaborating reforms in the education and health sectors, a modernization of labor law, the dismantling of bureaucracy and much more. Every month a reform, the slogan went. A few months ago.
But of this, little has been implemented. Most of it is stuck in parliament, in the cabinet or in party disputes. The Italians are used to it: About 250 bylaws of the Mario Monti government (November 2011 to April 2013) still haven't come into effect. But Renzi wanted to do everything differently, quickly and immediately. That's why he replaced his lame predecessor and fellow party member, Letta.

But he has begun talking about needing "one thousand days" for his work. The majority of Italians still support him, but his approval rating is rapidly crumbling from 69 percent in June to 54 in September. The philosopher and former mayor of Venice, Massimo Cacciari, is already talking about a disease that has afflicted Renzi: "Proclamationitis."

 

[LeveragedBuyout]

News In Charts: Volatility Is Back! | Alpha Now | Thomson Reuters

NEWS IN CHARTS: VOLATILITY IS BACK!
October 17th, 2014 by Fathom Consulting

Three months ago we argued that, with most risk metrics close to all-time lows, markets had become complacent. Back then, yields in the euro area periphery were at record lows, stock markets were breaking new ground and risk metrics were back at mid-2000 levels. The crisis was over – or so it seemed. We took a different view. The main thrust of our advice then was to buy volatility. Among other things, that involved selling stocks and buying government bonds, with a focus on US Treasuries.



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Three months later, things look rather different. Volatility measures have surged across the board. Stock markets are falling everywhere, with European equities suffering their longest losing streak in 11 years. Sub-investment grade corporate spreads are on the rise, though curiously interbank spreads remain largely unaffected – for now.

On Thursday 16 October, Greek sovereign debt became the latest victim of this growing risk aversion, with yields approaching 9.0% ─ an increase of almost 250 basis points on last week’s close, and a record high for this year. The assumption by many was that repeated threats by the New Democracy government to push the destruct button and refuse a third bailout provided the trigger. Investors are all too aware that, without a third bailout, a further Greek default is inevitable. As we demonstrate in our fifth chart, even though Greece is now running a primary surplus, its debt-to-GDP ratio will rise without bound unless its financing costs remain no higher than 2.5% – the rate it currently pays on official loans from the IMF, and its European partners. All of this does, of course, beg the question of whether a third bailout would be tantamount to throwing good money after bad. What, in short, would be the point?



Thursday’s price movements doubtless led some to reassure themselves that ‘the Greek situation is unique’ and ‘this cannot possibly happen elsewhere’. Greece was, of course, unique back in 2010, until it was joined by Ireland. Which itself was unique, until it was joined by Portugal. Then Italy. Then Spain. We take a very different view.



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Two of the risks that we highlighted back in July appear to be crystallising. First, the response of officials in China to that country’s mounting Non-Performing Loan problem – itself a consequence of years of overinvestment – has been modest. Perhaps too modest. We see around a one in three chance that a hard landing is already baked in the cake. Second, the euro area’s slide towards outright deflation continues, with the ECB either unwilling or unable to intervene.

Markets have become impatient with European policy makers. No comprehensive solution to the crisis is being discussed, let alone put in place. In the past we have often joked that you cannot have a proper European crisis until France is threatened. Well now Germany is under pressure. Export data suggest that the slowdown in Germany to date has little to do with the situation in China, and much more to do with anaemic growth across the single currency bloc. Not even Germany can go it alone, it would seem. As always, investors look for the weakest link, and within the euro area, that is Greece. But if we are right, if fears about deflation are the driving force then, in the absence of decisive action from the ECB, it will not end there. For our money, Italy, with no growth, no inflation and a debt-to-GDP ratio that is second only to Greece, would make a good second target.



This research note is provided by Fathom Consulting. All of the charts below and many many more, covering a range of topics and countries on both the macroeconomy and financial markets are available in the Chartbook to Datastream users at www.datastream.com. Alternatively you can access Fathom’s Chartbook at www.fathom-consulting.com/TR.

 

[Steve781]

euro is a mistake and EU is corrupt organisation. We need a smaller Union but that has Russia in it for Hard power and without Britain.

There was a union like that 23 years ago. Didn't work.

 

[senheiser]

There was a union like that 23 years ago. Didn't work.

it did work soviet economy almost surpassed america and without any trade and exploiting the third world like the west did