All the world’s a stage

by Peter Tchir
of TF Market Advisors, 
Posted December 5, 2011

I CAN’T HELP BUT FEEL THAT WE ARE WATCHING A PERFORMANCE THIS WEEK. It feels like the actions, the meetings, and the statements are all very scripted. It seems reasonably clear which ending they are going for, but many of their actions also fit the “alternative” ending so it remains imperative to be cautious.

Roles for “bit” players have been cut

Last week, for the first time, the EU seemed to be able to muzzle the minor players and even limit the lines of the big players. The Finance minister summit was a failure. Nothing useful came out of it. EFSF was a total flop. The bank backstop plans are at a national level and revolve around the idea of getting banks to borrow even more in the short term and not extend their maturities.

In spite of the obvious failure, there were relatively few comments. Rather than getting headlines of disputes, or even headlines of bigger and better ways to leverage, they seemed to let it die a relatively calm death and move on. This was a chance for every finance minister to get their quotations in the news, but they seemed reasonably constrained. There were far fewer comments about the ECB or even from ECB members. To me, it seems that the big players (Merkozy and Draghi) have taken control of the play and are trying to get it to the ending they want.

The “Script”

Germany took great pains last week to distance themselves from ECB decisions. The speeches made it clear that the ECB should be “independent”.  This has been taken as a sign that Germany is relenting on letting the ECB print. By affirming the ECB’s independence, Germany can, in theory, explain that it wasn’t responsible for the printing. There is also a chance that this is a way to take the blame off of Germany if the ECB decides not to print.  That seems less likely, but not everyone, especially at the ECB, believes printing is a solution, so this could be a way for them to take the focus off of Germany’s “nein”.

According to the script, Merkel and Sarkozy will become the Merkozy again tonight so that they can ride into this week’s summit with a “renewed joint focus”, blah, blah, blah. There is no way that they don’t act as though they have some agreement (even if they don’t). We won’t know what is discussed, we won’t know how much time is spent working out plans for a summit failure, all we will get is another handholding moment meant to encourage the market. I suspect that more time “off screen” will be spent discussing preparations for a failed summit, but all we will see is smiling confident faces.

At this point, I will give the politicians some credit. For the first time in months they seem to be writing the script. They aren’t just taking whatever script Wall Street hands them, and trying to act that out. The Wall Street scripts haven’t worked and have been unbelievable. The  politicians are finally taking control and trying to develop their own plan, and selling Wall Street on how viable it is. Since they are politicians, they are actually trained at figuring out what can get done and selling it to the people.  It probably won’t work, but at least they are doing what they are good at, and it would be hard to do worse than listening to another round of self-serving Wall Street advice.  On a refreshing note, at least we have agreement on something, Wall Street and politicians now both think the other group doesn’t understand anything and has no sense of timing.

The “puppets” are pushing through austerity in Italy and Greece. They can be held up as shining examples to other countries of what needs to be done. They aren’t the heroes of the story, but are there so that the Merkozy can point them out and show that i) it can be done, and ii) when it is done, the EU and IMF will come through with additional funds.  The “it” they got done won’t be well defined (but this is a movie, not the real world anyways) but the reward those good countries receive will be highlighted.

So the meeting will have Merkozy telling the smaller and problematic countries what a great future lies ahead for the eurozone. They will talk about the sacrifices they are making to ensure the viability of the future. There will be no criticism of the plan as only “friends and family” reports will get the inside scoop, and the “trailer” will be played over and over as part of the advertising campaign. We, the audience, will suspect that all the best parts of the play are in the “trailer” but we won’t be able to dig deep enough to argue against it.

The puppets will tell the other countries how happy they are that they have finally adopted austerity with growth to move forward and that they are excited about this opportunity to be part of the renewed commitment to the eurozone. Anyone who tries to figure out how austerity and growth work together, or where the money is coming, or any other details, will be escorted from room, and will be Clockwork Oranged into reading “fringe blogging websites” until they accept that details are bad, and only vague notions and slogans can “solve” anything.

At the end of the day, any holdouts will get invited to special meetings with the Merkozy. This is where they will be asked what they want to get in order to support the agreement, and reminded, that it is only an agreement in principle so they might as well say yes now, and they can always reject it later. These dark little meetings where the bribes are given and the futility of the agreement are discussed will only be available on the director’s cut, but will make people cringe when they realize what went on.

So in the end, according to script, everyone will get a chance for a joint communiqué and photo up where they talk about their commitment to implement these progressive changes. Every person who truly thinks about it for more than a minute, will know that it is a sham. They will see what has gone on, but it won’t matter. The “critics” will fall all over themselves to proclaim the success of the summit and that we are witnessing the birth of a new and better Euro. For a few days at least, the airwaves will be filled with the excitement that the “great leadership” exhibited by the Merkozy, and the diligence of the puppets, has led to such a monumental agreement. The future will be so bright, some might even “wear shades” when they discuss what has been accomplished.  Tears wouldn’t even shock me.

Then before anyone can complain that the positive reviews were bought, or that the script is flimsy, we will see the next wave of activity. This will be like a giant publicity machine, trying to turn a horrible movie into an Oscar winner through the sheer strength of publicity and graft.

The ECB will cut rates by 50 bps. The ECB will announce further participation in the secondary markets and hint at the ability and willingness to print money. The IMF will announce some new programs. The EFSF will start participating in the primary market. Even the Fed might hint at future QE (if not actually doing anything).

Then the leaders can sit back and hope their magic works.  Hope that their story has been bought and that the markets can take off and that they won’t actually have to implement much.  Yes, I think this is the key here.  They know that the treaty agreement changes are unlikely to be implemented.  They know the ECB has limits, that the IMF is going to struggle to do what people seem to believe they can do, they just hope that this is enough to give the markets so much confidence that they don’t have to do anything.  A market that can swing 6% on a 50 bp rate cut, might be manipulated into going so high that confidence is regained, long enough to buy time.

The “alternative ending”

So far, the directors have rejected the alternative ending. They don’t think that America in particular is ready for a non Hollywood ending, but they are filming some scenes just in case.  Fortunately many of the scenes are exactly the same as in the preferred ending. In the alternative ending, Merkozy and the puppets can’t convince everyone to go along with the communiqué. They can’t convince them that it is really meaningless so there is no point to disagree. Somehow the summit ends without the decision to move forward.

Bailout rebellion in Germany

by Wolf Richter – www.testosteronepit.com
Posted September 7th, 2011

“WE’RE ON THE WAY TO A WORLDWIDE FINANCIAL DICTATORSHIP governed by bankers,” said Peter Gauweiler, German Bundestags Representative (CSU), in an interview published Monday in the Welt Online. “We don’t support Greece,” he said. “We support 25 or 30 worldwide investment banks and their insane activities.”

Successful lawyer, he fought back in the German Supreme Court, claiming that the money-printing and bailout operations by the European Central Bank (ECB), and Germany’s role in them, violate the constitution. The court’s decision is expected on Wednesday. The foundation of the euro was the Stability Pact, he said—a contract that now has been broken. And he wonders if “the euro can still function as a value-retaining currency.”

This, just as Wolfgang Schäuble, Finance Minister, has been dealt a defeat of sorts by his own governing coalition during the trial vote for the expansion of the current European Financial Stability Facility (EFSF) whose purpose it is to bail out an ever lager circle of debt-sinner countries. 25 members of his coalition voted against it or abstained. The actual vote is scheduled for September 29.

And the numbers are ugly. 89% of the population oppose the expansion of the EFSF and doubt that ever larger amounts will solve the debt crisis, according to a recent poll. 80% demand that parliament must agree each time before Germany can take on additional burdens and risks. And 85% demand that financial institutions, rather than taxpayer, take the first losses when a country defaults. What galls them is that they have to shoulder these risks and burdens so that debt-sinner countries can borrow even more at lower interest rates.

“The ECB’s bond buying program was a mistake,” laments Hans-Werner Sinn, President of Ifo Institute for Economic Research. Opening the money spigot removed the incentives for the affected countries to undergo needed budgetary and structural reforms. He holds up as proof Italy’s currents effort to weasel out of budget cuts and tax increases and Greece’s resistance to reform.

“It would be a lot cheaper for German taxpayers” if Greece exited the eurozone, said Hermann Otto Solms, financial expert of the FDP, the government’s coalition partner, in an interview in the Südwest Presse. Greece has violated repeatedly the condition for the aid package, and “in the long run, that cannot be permitted.” Otherwise, the system of mutual support will lose credibility, and other countries will be tempted to manage their own budgets at the expense of stronger countries. Of course, Greece’s debt would have to be restructured, and banks may have to be bailed out again, just like after Lehman, but it would cost less than endless support. Greece would also be better off. It would get rid of much of its debt. And drastic devaluation of its new currency would make it competitive in a globalized economy.

Meanwhile, Italy is backpedaling on its “blood-and-tears plan” to raise taxes and cut its budget by €45 billion. In Spain and Italy, people are demonstrating in the streets, and strikers are paralyzing Italian air traffic. Austerity plans aren’t popular. It’s easier to borrow and print than to get your financial house in order.

This is exactly what Jens Weidmann, president of the Bundesbank, warns about in an interview published in the Börsen-Zeitung. Euro-Bonds would undermine the incentives for heavily indebted countries to build solid budget policies, he said. “The jump into common liability without limits on national sovereignty could unravel the institutional framework of the Monetary Union.”

Already in August, the Bundesbank had lashed out fiercely at its omnipotent sister, the ECB, for its decision to print money and buy sovereign bonds of debt-sinner countries. These attacks put the Bundesbank on collision course with export-oriented industrialists and financial institutions that have been the primary beneficiaries of its neighbors’ borrowing binge, something Germans tend to forget in the heat of the battle. But it’s not just Germans.

“Let the euro die its natural death,” said Marine Le Pen (article in English) in her populist manner. The media-savvy and vocal president of the Front National of France is one of the top contenders in the 2012 presidential election. Populists in other European countries are gaining ground as well. People have always perceived the euro as an invention by the elite for the elite, and many of the current problems in Europe are blamed on it. So whether or not the eurozone will survive in its current form and with its current members is at least partially a question of its ability to run counter the will of its people, and get away with it.

ECB is euroland’s last hope as bail-out machinery fails to resolve crisis

by Ambrose Evans-Pritchard

International Business Editor
Posted 14 Aug 2011

THE LEADERS OF GERMANY AND FRANCE HAVE THREE BAD CHOICES AS THEY DECIDE whether to save EMU this week, or pretend to do so. German Chancellor Angela Merkel and French President Nicolas Sarkozy will meet Tuesday in Paris. They can agree to fiscal fusion and an EMU debt union, entailing treaty changes and a constitutional revolution. This implies the emasculation of Europe’s historic nation states.

They can tear up the mandate of European Central Bank and order Frankfurt to go nuclear with €2 trillion of `unsterilized’ bond purchases until the M3 money supply in Italy, Spain, Portugal, Ireland, and Greece stops contracting at depression rates and starts to grow again at recovery speed (5pc). This might destabilize Germany. Or they can try to muddle through with their usual mix of half-measures and bluster. This will lead to a rapid disintegration of monetary union and a banking collapse. It risks a repeat of 1931 if executed badly, as it most likely would be. They have days or weeks to make up their minds, not months.

The EFSF rescue fund was never more than a stop-gap device to avoid grappling with the core issue: the economic chasm between North and South. It has failed. Insistence that it could handle a dual crisis in Spain in Italy was a bluff, and last week that bluff was called when France too was sucked into the maelstrom.

Escalating bail-out costs are eroding French debt dynamics. “Bad” is contaminating “good”. The EFSF has itself become a source of contagion and this would turn yet more virulent if the fund were quadrupled to €2 trillion as some suggest. “The larger the EFSF, the faster the dominos fall,” says Daniel Gross from the Centre for European Policy Studies (CEPS).

“Only Germany can reverse the dynamic of European disintegration,” writes George Soros in the Handelsblatt. “Germany and the other AAA states must agree to some sort of Eurobond regime. Otherwise the euro will implode.” Mr Soros knows that the trigger for the denouement of the pre-euro ERM in 1992 was a quote from a Bundesbanker in the same Handelsblatt hinting that sterling and the lira were overvalued. That was all it took. The Tory government that had tied Britain’s fate to an over-heating Germany was destroyed.

Once again we are all reading the German press, and what we see is subversive commentary once again from Frankfurt, and bail-out fatigue and simmering anger among Bavaria’s Social Christians, Free Democrats (FDP), and Angela Merkel’s own Christian Democrats in Berlin. If Germany is about to immolate itself for the sake of EMU, this is not obvious in the Bundestag.

What German politicians want is yet more Club Med austerity, even though Euroland growth has wilted. The demands have become ideological, going beyond any coherent therapeutic dose. The effect of such fiscal tightening at this stage is to repeat the error of the 1930s Gold Standard when the burden of adjustment fell on weaker states, pushing them into a downward spiral that eventually engulfed everybody. Fiscal cuts make little sense for Italy, where the output gap is 3.1pc. “Increasing potential growth should be the main policy goal. Fiscal tightening could further depress aggregate demand” said the IMF in its Article IV report.

Italy does not have a debt problem as such. Its budget is in primary surplus this year. Total debt – the relevant gauge — is under 250pc of GDP: similar to France, and lower than Holland, Spain, Britain, the US, or Japan. Italy is one of the few EU states to have sorted out its pension liabilities, by linking payouts to life expectancy

What Italy has is a growth problem, rooted in currency misalignment. Having lost over 40pc in unit labour cost competitiveness against Germany since EMU, it is trapped in slump. Per capital income has contracted for a decade. So why is Europe forcing Italy to tighten drastically and run an even bigger primary surplus within two years, and doing so just as the world flirts with a double-dip downturn? Why too is the ECB’s Jean-Claude Trichet acting as the enforcer? His leaked letter to Italian premier Silvio Berlusconi is a diktat, a long list of measures imposed as a condition for the ECB’s action to shore up the Italian bond market.

Mr Berlusconi has capitulated, with a “bleeding heart”. He is slashing payments to regional authorities, though he has resisted wage cuts. “They made us look like an occupied government,” he said. Northern League leader Umberto Bossi accused the ECB of “trying to blow up the Italian government.”

Mr Trichet is moving into dangerous waters dictating budgets to sovereign parliaments. It matters enormously whether citizens have political “ownership” over austerity, or whether it is imposed by outside forces. His former colleague Otmar Issing fears that Europe is becoming a deformed union where officials run roughshod over nations and fiscal power lies beyond democratic control. Such encroachments have “brought war” in the past, he said.

The bank should correct its own errors first. It was ECB tightening that choked Europe’s recovery. “Eurozone monetary weakness has been the key driver of the recent deterioration in global economic and financial conditions,” said Simon Ward from Henderson Global Investors. Real M1 desposits are not only collapsing across southern Europe, they have turned negative in the North as well. This signals big trouble. “It was astonishing that the ECB, which trumpets adherence to monetary analysis, chose to rein back its longer-term repo lending in late 2010 and raise interest rates in April and July. This was a repeat of its error of 2008,” he said.

Mr Ward said the ECB should stop choosing which nations to rescue through “quasi-fiscal transfers” and stick to neutral central banking. It should launch quantitative easing for the whole of EMU.

“At this point the Eurozone needs a massive infusion of liquidity,” said Dr Gross from CEPS. Otherwise there will be a “break-down of the interbank market that would throw the economy into an immediate recession as after the Lehman bankruptcy”.

HSBC’s chief economist Stephen King said the ECB must print money a l’outrance in “exactly the same” way as the Fed. “At the heart of the problem is the ECB’s unwillingness to be seen ‘monetizing’ government debt. Yet if the alternative to QE is the collapse of the euro or a descent into depression, then massive expansion of the ECB’s balance sheet seems a small price to pay.” Such views are rarer in Germany but at last making themselves heard. Kantoos Economics said the ECB has been “extremely tight” and lost sight of its essential purpose. “It is therefore an important cause of the current mess.”

“European policy makers and central bankers are wrecking one of the most fascinating projects in human history, the unity and friendship among the countries of Europe. This is beyond depressing,” he said. The path of least resistance for Angela Merkel and Nicolas Sarkozy on Tuesday is surely to force the ECB to change course, by treaty power if necessary.

Or kiss goodbye to the Kanzleramt, the Elysee, and monetary union

Merkel faces a Hobson’s choice on eurozone

by Philip Aldrick
Telegraph Economics Editor
Posted 06 August 2011

Muggings have been on the rise on the streets of east London, Scotland Yard said this week. And blood-stained necklaces have been turning up in pawnbrokers with alarming frequency. It’s no coincidence, police claimed. The surge in snatch-and-grab is all to do with the soaring price of gold.

GOLD HAS BEEN HITTING RECORD HIGH AFTER RECORD HIGH because the precious metal is considered the ultimate safe-haven by nervous investors. And there are a lot of nervous investors in the markets. This week gold struck another record, at $1,681.67 an ounce. Nick Bullman, managing director of ratings agency CheckRisk, reckons it will not stop until breaking its inflation-adjusted peak of $2,300.

It’s not just the shoppers of Canning Town who are getting a mugging. Fear is stalking the markets. Fear of a US downturn, fear of a sovereign debt crisis in Italy or Spain – countries considered “too big to bail”, fear of another global recession. As those fears gathered into panic this week, the world witnessed an extraordinary series of events.

Stock markets did not just crash, they crumpled. Some £149bn was wiped off the value of Britain’s blue-chip stocks as the FTSE 100 suffered the fifth largest fall in its history. Trading in the shares of the country’s biggest banks were suspended after dropping more than 10pc. In just seven trading days from July 26, $4.5 trillion was wiped off the value of equities worldwide.

As investors fled to traditional safe-havens of the Swiss franc and the Japanese yen authorities were forced to act. So strong had panic buying made their currencies that it threatened growth. Both nations intervened. Japan sold about ¥4 trillion (£30bn) of its yen reserves and did ¥10 trillion of quantitative easing (QE). Switzerland cut rates to zero and launched Sfr50bn (£40bn) of QE. The moves bought temporary relief.

The hunt for safety created other bizarre distortions. Yields on US treasury bills – short-term government debt – turned negative. Similarly, Bank of New York Mellon, America’s biggest custodial bank, started levying a fee on deposits of over $50m as it was flooded with cash. Market norms were turned on their head. Investors were paying to lend money. “When you do that, you are saying everything else is just too scary,” said Mr Bullman.

What had the markets spooked was the dawning realisation that Spain and, in particular, Italy may not repay their debts. If that happened, the world would suffer another seizure. “It would be Lehman Brothers on steroids,” as some traders have put it. Italy has been worrying markets since mid-June, a month after Standard & Poor’s put its credit rating on watch. Its benchmark 10-year bonds have been creeping higher ever since – the clearest sign of a looming crisis.

This week’s panic, though, was the culmination of weeks of frayed nerves and political paralysis. “Politicians keep scaring the hell out of people as they seem to be burying their heads in the sand,” Mr Bullman said. Which is why, if there was an original tipping point, it can be traced to July 21. That was the day the second Greek rescue was agreed and further measures unveiled to prevent another eurozone country being sucked into the crisis – following Ireland and Portugal as well as Greece. The backstop was dangerously weak, though. The size of the eurozone bail-out fund, the European Financial Stability Facility (EFSF), was increased from €250bn to €440bn and the terms of its operations broadened to make it more nimble. But the agreement needed a vote, due in September, and seemingly ignored the risk of a Spanish or Italian crisis.

To provide a real firebreak, the EFSF needs about €2 trillion, analysts reckon. Italy’s national debts are €1.8bn, the third largest debt market in the world behind the US and Japan. Spain’s are €640bn. An EFSF with €440bn was woefully inadequate. Europe’s leaders, though, simply closed their ears to the siren voices and turned to planning their summer holidays.

Alarm bells should have already been ringing. At 4.8pc on June 21, Italian bonds had surged to 5.68pc shortly before the Greek bail-out. The lesson from Greece, Ireland and Portugal was that once bonds top 5pc, they soar to 7pc within 30 to 60 days without intervention. At 7pc, the debt problem becomes a full-blown crisis – as markets decide the country can no longer pay its bills. With no credible backstop, market fears were allowed to burn out of control.

Already wearied by the drawn-out deal to raise the US debt ceiling, which only entrenched political cynicism, and unnerved by evidence that the global recovery is stalling, the second tipping point came this week. First the President of the European Commission, José Manuel Barroso admitted in a letter to European heads of state that the size of the EFSF needed to be increased. Hours later, the European Central Bank intervened in the markets – but instead of buying distressed Spanish and Italian debt it targeted Portuguese and Irish bonds. Seemingly, political divisions within the ECB were neutering its powers.

Holger Schmieding, economist at Berenberg Bank, said the ECB’s move “may go down in history as its worst blunder yet”. “What would we make of a fire brigade that responds to a major emergency but then drives to the wrong place and refuses to turn around and douse the real fire?” Traders scented weak political will and rounded in fear on Italy. Its bonds rocketed to 6.189pc – a fresh euro record.

If it can’t raise funds, Italy has until the end of September before it runs out of cash or Europe comes to its aid. Spain has until February. The problem is now purely political. Italy needs more austerity to reduce its debt burden, and to push through structural reforms to make its labour market more competitive. Spain must recapitalise its banks, and accelerate its own austerity plans. In return, Europe has to make the EFSF a viable safety net.

As usual in Europe, it all comes back to truculent Germany. Only Berlin can provide the guarantees needed to restore confidence. But it is too late to buy confidence cheaply. Angela Merkel, the German Chancellor, faces a classic Hobson’s choice. Put taxpayer money on the line and lose her job, or risk a catastrophe. That’s a mugging in all but name. Unsettling parallels are being drawn between the current panic and the market meltdown in 2008.

Then, as now, oil had blown sky high. It hit $145 a barrel in July 2008 before coming back down. This time it struck $125. Inflation, too, was out of control – at around 5pc – in line with most economists’ forecasts for the next few months. Stock markets had moved sharply lower and growth had started to slow.

More pertinently, the country had been wrestling with a looming crisis for months – that time with the banks. Seized by similar indecision, policymakers took five months to nationalise Northern Rock and failed to recapitalise other lenders until too late. Then, a political decision not to bail out Lehman Brothers triggered panic that paralysed markets. This time, it is again in politicians hands. The parallels are not surprising. Ultimately, the current crisis is the latest manifestation of the last one.