Archive for the ‘Europe’ Category

Cyprus’s first problem is that its banks are in debt.  Its second problem is that its banks are rather large relative to the Cypriot economy – at the end of 2011, money in Cypriot bank accounts was worth roughly 835 per cent of the country’s GDP.

It’s not all Cyprus’s fault – bad luck has played a role. Cypriot banks lent a lot of money to the Greek government, or – to put it another way – these banks bought bonds drawn on the Greek government worth around 160 per cent of Cypriot GDP. When Greece’s creditors were forced to accept write-downs, Cypriot banks suffered massive losses.

Cyprus is small, and the powers that be, and which control the Eurozone’s money, can afford to bail-out the country with ease. There is, however, something else at stake. Cypriot banks were also the place that many Russian Oligarchs chose as a home for their money. Lean in close, and a little secret will be whispered to you. Are you ready? There is talk of money laundering.

So why should wealthy bankers from the richer part of the euro area put their hands in their pocket and bail-out banks that do not apply the same, oh so very high standards that they do?

Some might cry hypocrisy, which may or may not be true, but maybe hypocrisy only applies if you are the one needing funding. After all, the ones with the funds are always right.

On Friday, when Cyprus’s Prime Minister President Nicos Anastasiades began discussions with finance ministers from the Eurozone and the IMF, he knew negotiations would be tough. He knew his options were limited. If the terms put to him were hard to stomach, he had little choice.

So Cyprus’s would be backers agreed to provide 10 billion euros worth of loans, but on the condition that Cyprus chipped in by contributing money from deposits held in its banks. Those with 100,000 euros or less will lose 6.67 per cent of their deposits; those with more than that will also lose 9.9 per cent on all monies over 100,000 euros.

Mr Anastasiades, or so say some reports, wanted to do it differently. He wanted those with 100,000 or less euros to contribute zero, but wanted those who had more to pay as much as 60 per cent of their bank deposits. “No!” came the response to his idea from the money men.

What about bank deposit insurance, you may ask? If you have less than 100,000 euros in a Eurozone bank, then your money is supposed to be safe, guaranteed.  How can those with less than 100,000 euros be expected to contribute to Cyprus’s bail-out? If you make them take a haircut on some of their money, the bank deposit insurance scheme counts for nothing.

Never fear, the clever old Eurozone financiers thought of that. Instead of forcing deposit holders to lose some of the money, they have been taxed instead.

Haircuts can be dangerous. Markets don’t like them. Samson didn’t like his much either, when it was administered by Delilah. But this was no haircut, it was a tax. It’s a bit like the difference between a haircut you have at the hairdresser and having your hair yanked out by pliers in the torture chamber.

You could say the people of Cyprus are a bit peeved by the whole thing. They knew something nasty was in store, but this nasty?

The Eurozone’s finance ministers are taking a risk. It is not the fault of the Cypriot people that its country’s banks made bad decisions. But they are paying the price. They might feel let down in much the same way that someone doing a bungee jump may feel let down if someone cuts their harness.

Cyprus is a small island, beautiful for sure, and its people seem to genuinely like the British too – or maybe they are welcoming to all tourists.

But they have been punished in a most cruel way. In Greece we are seeing the rise of the Far Right. Policies such as these can only have the effect of forcing massive resentment in certain pockets of the euro region. Cyprus is hardly going to invade Germany, but the discontent that is being created will surely cause resentment for years to come.

Cyprus has an alternative way forward. Take another island, at pretty much the opposite corner of Europe. After an horrendous 2009, Iceland has done okay, with its freely trading currency giving exporters a big lift. The chances that Cyprus will leave the euro must surely have risen, and frankly this may ultimately prove to be a blessing in disguise for the country.

If Cyprus does an Iceland, and – armed with an independent currency – starts attracting more tourists and more money from abroad, and then enjoys recovery, the rest of the troubled regions of the euro will look on and may eventually begin to feel envious.

What we can say without doubt is that from today onwards the chances of a Northern Rock style bank run in Europe has risen. So too, have the chances of a break-up in the euro.

p.s. Critics of the bank bail-outs of 2008/09 take note. The hardship being enforced on Cyprus is not that much different from what the UK would have experienced if its banks had not been rescued, except  that a UK banking crisis of that type would have caused a banking meltdown across the world, and repercussions would have been even more severe than what we are seeing in Cyprus.

©2012 Investment and Business News.

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Germany’s head central banker calls it the work of the devil. Last year, Jens Weidmann, Germany’s answer to Mervyn King, told a story from ‘Faust’. A king is running out of money, and the devil disguised as fool persuades him to solve his problem by printing new money. The result was hyperinflation. And that, says Mr Weidmann, is why QE is like the work of the devil.

It is just that QE is not really money printing at all. When the Bank of England buys government bonds it is assumed that it will sell the bonds at a future date.  So if QE looks as though it is leading to inflation, the effects can be reversed.

That’s the theory.

The reality is that that QE doesn’t seem to be doing an awful lot. Sure it may have stopped the recession from becoming  worse, but given the sheer size of this measure – £375 billion in the UK so far – it seems remarkable how low inflation is, and how tiny growth is.

The snag is that debt is the key to the banking system we have these days.  When we borrow money from a bank, we spend it and the recipient of our money pays it into a bank. So when a bank lends money, the money it lends reverberates around the economy. In this way, by their lending, banks create money.

But if we all suddenly decide to borrow less, or if banks decide they can’t afford to lend so much, the broad money supply may well contract faster than an anaconda on speed. QE has had the effect of mitigating this contraction. But it certainly has not had the effect of creating massive growth in the broad money supply.

Perhaps then it is time to really engage in money printing and hand the resulting money out across the land. Milton Friedman pretty much suggested such an idea once. He said that in times of a depression if all else fails, why not scatter money from a helicopter. Before he was chairman of the Fed, Ben Bernanke once said he thought Friedman may have been right.

But that’s where the devil comes in: wouldn’t money printing in this way just create inflation?

For that matter, this whole idea of running a large government deficit is also seen as pretty much akin to devil worship – by some.

Well, maybe. But explain why it is that in times of war – World Wars 1 and 2 for example – governments suddenly found that they could print money to fund the war effort, and could run-up huge deficits. And why is it that the post war periods were not followed by inflation, rather than economic boom, which was often the result. Sure, Germany had hyperinflation, but that was down to the Treaty of Versailles. The UK limped along in the 1920s, but that was largely because adherence to a gold standard removed the Bank of England’s ability to create money. The argument continues to say that periods in history when governments ran surpluses were invariably followed by economic depression. See: conspiracy theories, free lunches, and the theory that banks are destroying wealth .

Some go further – they say the insistence that governments run prudent fiscal policy is a conspiracy, forced upon us by banks who are trying to protect their nice little way of making money. Is the conspiracy theory right? Probably not. But the point is that there is an alternative idea to the established view. The idea suggests that instead of the money supply growing via debt created by banks, the government boosts the money supply by creating new money, and banks’ ability to create credit is then curtailed by legalisation.

The argument may or may not be right. But we may be getting an opportunity to test the theory soon.

As US politicians refuse to compromise, and Republicans and Democrats blame each other for the US’s woes, Obama may have come up with a solution.

Under US law the US government cannot print money – that job is entrusted to The Fed. Except, thanks to legislation from 12 years ago, the government is allowed to create platinum coins. The legislation was designed simply to enable the US government to create commemorative coins.

So why not make a one trillion dollar platinum coin, deposit it with the Fed, and then withdraw money against it, thereby abolishing the US government’s need to have approval from Congress before raising its fiscal debt? Friedman and Bernanke will get their money drop, and the conspiracy theorists will have their chance to put their theories to the test.

But such a measure, unlike QE, can’t be reversed. Critics say such a move really would create inflation.

Paul Krugman, the Nobel Laureate who pens a highly influential blog for the ‘New York Times’, has suggested he is in favour of the idea. But it seems he really sees this as kind of a warning shot. He doesn’t really want to see a one trillion dollar coin; rather he reckons the threat of taking such an action will be enough to ensure that the Republicans compromise with Obama.

Perhaps what we can say is that that we are seeing a very interesting development in the story of our times.

©2012 Investment and Business News.

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So what do you think will happen in 2013?

Setting aside Galbraith’s comment about the only redeemable benefit of economic forecasting being that it makes astrology look respectable, here are some thoughts for you to ponder.

Zombies may be in the news in the summer. A new film is coming out called World War Z, starring Brad Pitt. It is about zombies. In 2012 zombies were in the business pages too. There are households, many of whom are stuck in forbearance; around 5.8 per cent of home owners, according to the FSA. There are zombie businesses kept alive by rock bottom interest rates, and banks terrified to value their assets in accordance with what the markets think they are worth. If banks did revalue their assets in accordance with market values, and applied what’s called mark to market accounting, we could see another banking crisis. So either the markets are wrong, and banks are merely refusing to let their hysteria reflect valuations, or banks are pretty close to becoming zombies – if they are not already, that is.

Meanwhile, the poor old can is already starting to look very beaten up. Yesterday, US members of the House of Representatives kicked the can down the road. They voted to raise some taxes, but delayed deciding about spending cuts for two months. Next, they have to agree on the US debt ceiling. If they don’t, the US government will have to default. They probably will, and it probably won’t, but the wire will get a visit as the US economy goes down to it, and the can will get kicked some more.

In Europe, politicians will do much the same thing – that is to say at the last minute agree to various rescue schemes, but only as temporary measures while they consider at their leisure what to do to fix underlying challenges. They will never decide of course, but they will have lots of late night emergency meetings.  The German Constitutional Court will have to decide whether various new schemes are legal under German law, and will finally announce provisional approval of the latest German backed rescue scheme, but say it needs more time to decide for sure.

So is there a word to describe US and EU governments that just delay the real decision making process, and apply sticking plasters? Well how about this word: zombies.

One prediction for the year ahead is that as World War Z is released we will see a barrage of media comment, and indeed cartoons, comparing the economy with that film.

Also in 2013, governments and central banks in the US, Japan and the UK will decide it is time to target nominal GDP rather than inflation. The result will be more QE. Sterling may come under pressure, especially against the euro, although the Bank of England may well say this is a good thing. Holiday makers won’t be too chuffed, however.

Many will forecast a return to double digit inflation, a or even hyperinflation, but in reality, QE will lead to modest rises in inflation, and by the end of 2013, despite more QE, UK inflation will be lower than at the end of 2012. (CPI Inflation was 2.7 per cent in November 2012).

On the back of QE, gold will probably do well, and oil will oscillate. But there are signs that China may be getting over its so-called soft landing, and growth may be higher in 2013. This may be enough to push up oil.

Finally, in the world of tech, LinkedIn will see profits double again as they did last year, Facebook will see its shares pick up and return to the IPO price, as the company begins to find ways to monetise its huge user base. Apple may take a knock in the smart phone business as the likes of Samsung and HTC see sales rise.  But it will announce its iTV player, and this will prove to be as big a deal as when the company revealed the iPhone. Shares will surge and Apple will be the world’s first company to be valued in excess of one trillion US dollars.

Sales at Amazon will rise, as new owners of its Kindle Fire start buying more from Amazon and less from traditional retailers. Amazon will appear to be on course to become the world’s largest retailer. And finally, IBM will see its best year in terms of share price growth, for many years.

©2012 Investment and Business News.

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Yes, it was no typo. According to data produced by the OECD, Greece will sit alongside Germany as one of the most competitive economies in Europe within two years. Mind you, the data does rather assume Greeks are about to make enormous sacrifices.

See if you can guess which country is expected to be left behind?

It all boils to unit labour costs. That is how much it costs for labour to produce things. And Greece is set to see unit labour costs plummet, a bit like Icarus falling from the sky. Except, of course, unlike Icarus, Greece never really got off the ground in the first place. Maybe it would be better to say a bit like Orpheus falling into the underworld.

Before we go any further, let’s come clean. The OECD data only relates to Germany, France, Italy, Spain, Portugal, Ireland and Greece. Just bear that in mind.

To begin let’s take a look at 2008 and compare it with the year 2000. Over the nine year period German unit labour costs actually fell. In contrast they were up 18 per cent in France, 26 per cent in Portugal, 30 per cent in Italy, 35 per cent in Spain, 36 per cent in Greece, and by 41 per cent in Ireland. That probably won’t surprise you; the first eight years felt like boom time writ large in Ireland.

In 2009, Ireland began its painful adjustment process. In 2009 its unit labour costs fell 4 per cent. In Greece they rose 8 per cent.

That was the worst point; the point when the gap between Germany and Greece relative to the gap in 2000 was at its highest.

Now let’s forward the clock to today. The OECD estimates that between 2008 and 2012 unit labour costs in Germany rose by 8 per cent. In Greece between 2009 and 2012 they fell by a staggering 15 per cent.

But the OECD has also engaged in some crystal ball watching. It forecasts that over the next two years Greek unit costs will fall another 13 per cent.

So this is the picture that the OECD expects to see at the end of 2014. Starting from a base of 100 in 2000 for all seven countries, it expects unit costs in 2014 to be 113 in Germany, 127 in Spain, 130 in France, 115 in Greece, 122 in Ireland, 140 in Italy and 125 in Portugal.

In short, relative to 2000, Greece is expected to be second only to Germany. This may create the foundation for recovery. But getting there will be agony. The IMF and EU have agreed to support Greece so that its public debt will be less than 110 of GDP in 2022. The truth is, however, that as austerely bites and real wages fall, reducing Greek debt to a mere 110 per cent of GDP will be a Herculean task. More debt will have to be written off.

The OECD data also suggests that the country at the bottom end of the scale will be Italy. But not so fast… The data may have been distorted by changes in the way the Italian black economy was measured; in short the data in 2000 may not be accurate.

If the data proves right, the country that will see the biggest rise in unit labour cost relative to Germany between 2008 and 2014 will probably be France.

Of course falling unit costs is not necessarily a bad thing. Think about it. If unit labour cost falls across the world, does that not mean aggregate demand per unit will fall too?

Sure, it’s good thing if productivity per hour rises, but not so good if workers are paid less. Assume the world only produces apples. And each worker is paid two apples an hour, and picks two apples an hour. Demand equals supply. But let’s say productivity rises, and workers produce three apples per hour, but their pay stays the same. That means the world produces more apples that its labour force can afford to buy.

So rising French unit labour costs may not be a bad thing if this happens across the board. But the trouble is that France is losing out relative to other countries.

That’s why driving up competitiveness through falling real wages is not a positive development for the global economy.

©2012 Investment and Business News.

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Bear in mind that while the disadvantages of single currencies are clear, they do offer massive and pretty obvious advantages too.

Back in the 1930s, the problem of protectionism was rife. Mercantile policies in which each and every country tried to outdo everyone else by exporting more and importing less created the conditions for a world war. In 1944, Keynes and most of the great and the good in the economic world congregated at Bretton Woods in the US. Keynes was the star of the show. He was after all a very clever man, and he proposed a system of international exchange, in which surplus countries were pretty much forced to buy more from deficit countries. His plan was rejected largely because the US contingent felt that this too clever by half Brit, who no one else really understood, had come up with wheeze designed to help one of the world’s largest deficit countries – the UK – and punish the world’s biggest surplus country – the US.

We got the IMF, World Bank and the Bretton Woods system of monetary exchange as compromises. It is a shame, because if Keynes’ plan had been accepted, the global crisis of 2008 may never have happened, and actually the US – which today is the biggest deficit country in history – would have eventually done very  well out of it.

Keynes’ rather selfish next move was to die. In death he attained a kind of demigod status, but by then it was too late. The course of history was set.

But within the euro area itself, Keynes’ ideas could be adopted. If they were, it is possible that the problems of imbalances could be solved, and the euro could survive.

In sport, no one wants to see every competition end in a draw, but for the game of international trade, a high score draw for exports and imports for each and every country may well prove to be the result we all need.

Also see the following related articles:

Is there hope for the euro? Catalonia’s rift with Spain
Spain’s woes are not down to debt
Catalonia’s strife; currency’s knife
Political shenanigans in Europe
The fix to the euro crisis

©2012 Investment and Business News.

Investment and Business News is a succinct, sometimes amusing often thought provoking and always informative email newsletter. Our readers say they look forward to receiving it, and so will you. Sign-up here

The political entanglements in the euro area are escalating. Last week a triumvirate of finance ministers from Germany, Holland and Finland put a rather large spoke in the wheel. You may know that during the summer it was agreed that Spain’s banks could be bailed out directly by the IMF, EU Commission and the ECB via the organisation called the European Stability Mechanism (ESM).  But last week the three finance ministers issued a statement saying: “The ESM can take direct responsibility for problems that occur under the new supervision, but legacy assets should be under the responsibility of national authorities.”  So what was that: “legacy issues”? What does that mean? Were they referring to bank bail-outs that occurred some time ago, such as Ireland’s? If this is the case, their statement seems pretty reasonable. Alternatively, were they referring to the bail-out of Spain’s banks? Many interpreted it that way, leading to claims that Spain had been betrayed.

Meanwhile, Helmut Kohl – who as you may recall was German Chancellor during German reunification, and an out and out supporters of the euro – made a speech in which he said of Angela Merkel: “She is destroying my Europe.” He called for giving Greece more time to make its reforms.

Then there was Vaclav Klaus, President of the Czech Republic. When his country joined the EU, its leaders signed a treaty agreeing to also join the euro at some point in the future. But the treaty imposed no time frame. So when did Mr Klaus think this will happen?

“Perhaps in the year 2074 we can join the European Monetary Union,” he said last week.

So that wasn’t very nice about the euro, was it?

In the UK, calls for a referendum on staying in the EU are growing, and the talk is that David Cameron will pledge to hold such a referendum if he wins the next election.

That’s the snag. Either the euro falls apart, which – according to many – will be a disaster for the world economy, or we see closer political union, which will probably leave the UK’s membership of the EU in tatters.

But there is a third way. The euro could survive, without political union.

Also see the following related articles:

Is there hope for the euro? Catalonia’s rift with Spain
Spain’s woes are not down to debt
Catalonia’s strife; currency’s knife
Political shenanigans in Europe
The fix to the euro crisis

©2012 Investment and Business News.

Investment and Business News is a succinct, sometimes amusing often thought provoking and always informative email newsletter. Our readers say they look forward to receiving it, and so will you. Sign-up here

Catalonia is Spain’s wealthiest region. In a way it is to Spain what California is to the US. And like California, Catalonia has major debts. Unlike California, it has recently gone cap in hand to central government asking for a bail-out. But, and here is the curious thing, it has imposed terms on the bail-out. Yes that’s right, the troubled debtor, desperate for money, has said: “Okay, I will take some money, but only if…”

In fact the only if relates to it not being required to impose too much austerity.

As the richest region in Spain, one assumes that if it did indeed have independence, and then received 100 per cent of taxes paid by its citizens, its debt crisis might prove to be a good deal less serious. One also assumes that Madrid’s tax receipts would fall quite considerably.

This publication is not qualified to comment on the details of the issues that lie between Catalonia and the Madrid government, but sometimes an outsider can see things that those too tied up in the minutia of details don’t spot.

It is certainly curious that when the clear lesson of the euro is that single currencies don’t work without political union, some regions in Europe are calling for political independence but want to stay in a currency area. So that’s the euro area for Catalonia, and the sterling area for Scotland.

Mind you, something could be said for going in the opposite direction of the euro, and going for more and more currencies. Certainly if London had its own currency – let’s call it the Boris – then it would surely surge in value, and Londoners would find their Boris’s would stretch a lot further, and could buy a lot more stuff from abroad. What was left of sterling – let’s call it the Cameron – would fall in value, giving non-London based manufacturers a massive terms of trade advantage, probably leading to an export-led recovery in the UK’s regions.

Likewise, Barcelona’s new currency – let’s call it the Mas – may surge and Spain’s Rajoy may crash.

The thing about freely trading currencies is that they can help ensure countries with strong exports import more, and give the big importers the price advantages in selling their wares. They can cut though imbalances like a knife through butter. And by the way, Martin Wolf – the FT’s economics guru – recently argued that the German people are worse off thanks to the euro. Paraphrasing an argument from Charles Dumas – an economist from Lombard Street Research – he said: “Euro membership has encouraged Germany into a costly mercantilist strategy at the expense of its people and the productivity of the economy.” He continued: “Germany’s real personal disposable incomes have risen remarkably little since 1998.”

So there is one fix: end the euro and give London, Catalonia, the Flemish part of Belgium, Wales, Cornwall, and every other region in Europe its own currency. There is a less radical solution however.

Also see the following related articles:

Is there hope for the euro? Catalonia’s rift with Spain
Spain’s woes are not down to debt
Catalonia’s strife; currency’s knife
Political shenanigans in Europe
The fix to the euro crisis

©2012 Investment and Business News.

Investment and Business News is a succinct, sometimes amusing often thought provoking and always informative email newsletter. Our readers say they look forward to receiving it, and so will you. Sign-up here