Wednesday, December 14, 2011

Eurozone Crisis :Stability or Spiral into chaos?

UPDATE 18 Dec 2011: While Europe is not out of the woods and the crisis far from over, Draghi's backdoor operation that I mentioned in the posting does have some effect in relieving the stress in the system. Bond yields of Eurozone countries have fallen across the board and there is renewed demand for European debt [Spanish, Italian Notes Gain as ECB Stokes Demand; Bunds Advance] especially 2 year bonds since ECB is offering 3 year loans.  Italian 2yr paper fell from 8% to 5%..


Several weeks ago, I wrote that I believed the ECB would start printing money at some point in time because there is no other way to get of this crsis. The ESFS and ESM,bailout funds created by securing guarantees and financing from already indebted nations, are just not going to work. The Eurozone govts owe too much money and creditors are not convinced they will be paid back unless the ECB steps in. A number of govts in the Eurozone have collapsed, severe austerity has been implemented in PIIGS countries and riots are now frequent in a number of countries. Last week's summit proposed to have a "fiscal union" to put in place checks to prevent govts from overspending in the future. However, it does not address the current sovereign debt crisis - how creditors are assured they will get paid when there is no lender of last resort.

A few weeks ago, I thought that German intransigence was just a ploy to get other countries to play ball - impose austerity, and suffer for their past sins. After they get what they want, the ECB will have a free hand to print some money and the whole world can breathe a sigh of relief. The Japanese prints money to pay its debts...same goes for Britain and US. I was corrected by a number of commenters who informed me that what the Germans are doing is not for show - they are dead set against quantitative easing and will never let it happen. I did some checks and it turned out to be true - despite the disastrous consequences of a default by a Eurozone nation which will ultimately cause more pain and damage, the Germans are hard wired by their Weimar Republic experience never to allow money to be printed to pay debts. The Weimar Republic printed so much money it caused hyperinflation and  wiped out the savings of ordinary Germans. The risk of another Weimar Republic is very small with the new fiscal pact in place enforcing discipline. One suggestion is for the ECB to lend to IMF so that IMF does the lending - with its experience of imposing austerity and discipline, monitoring and ensuring lenders gat paid, the crisis of confidence can be resolved. This and other solutions that involved the ECB printing money are opposed by Germany and it is politically impossible for Merkel to get agreement from her party's coalition partners. Even contribution to a bailout fund results in enormous political opposition in Germany as Germans do not want to pay for the overspending of other Eurozone govt - even though they are part of a union and another member's problem will spill into the German economy by way of contagion.

The instability in the Eurozone prompted one Pentagon official to warn of widespread unrest and a collapse of the union:

"We are extraordinarily concerned by the health and viability of the euro   because in some ways we’re exposed literally to contracts but also because   of the potential of civil unrest and break-up of the union,’’ - General Martin Dempsey, chair of the US Joint Chiefs of Staff. [Link].

So is the Eurozone heading towards chaos?

There are a number of silver linings in this whole mess. One of them in the form of Mario Draghi who became the ECB chief recently. He is Europe's version of Bernanke in the current crisis. He cut interest rates twice and took a page out of Bernanke's playbook by allowing Europeans banks to borrow money from ECB at 1%  for 3 years using almost any kind of collateral including sovereign bonds. This is the same backdoor  Bernanke created during the financial crisis allowing banks to put up any kind of collateral to borrow money. This will help to stabilise European banks and buy some time. In theory the banks can also now use the 1% loan to purchase Italian bonds that yield 6-7% as an indirect way for ECB to fund Eurozone govts[explanation of this backdoor]. This is a clever way around article 123 of the Eurozone treaty and avoid enraging the German Bundesbank

"We have a treaty and Article 123 prohibits financing of governments. We   shouldn’t try to circumvent the spirit of the treaty"  - Mario Draghi.

....and he has cover because the move is also needed to stabilise the banking system.
The other silver lining is probably Christine Lagarde who replaced the scandalous Strauss-Kahn. She has been proactively looking for solution to the crisis. One that involves IMF may emerge.

There risk of something economically dire happening  grows over time as this crisis remains unsolved. The guys at PIMCO describe the situation as a snowball rolling downhill, it gets bigger with every failed attempt to stop it. At some point, this crisis will spin out of control and become too big to fix.  Europe is going into recession and their debts will become even harder to pay back when the economy slows. The longer this crisis drags out, the more confidence is eroded and creditors abandon the Eurozone one by one....if countries like Italy cannot roll over its debt properly, they will default and that will be really derail the global economy.

20 comments:

Anonymous said...

But despite the crisis or whatever in the Eurozone so far, Singapore is doing OK what.

There are no street protests and the PAP govt is very stable. And look around you will see prosperity. Many foreigners, rich and poor, talented and not so talented, are all attracted here.

And that's what majority Singaporeans (60%)are more concerned about.

Anonymous said...

Anon 14/12/11 09:03

That's right. We are so lucky to be living in Singapore and not in the Eurozone.

Anonymous said...

Germany waiting for Italy to collapse and then all 17 EMU countries from Ireland to Austria surrender to Germany and become part of the German Empire, before they will allow ECB to print money. By then ECB will be just a small internal dept within the German Central Bank.

As for S'pore, all depends on property market in S'pore & China. If property prices in both countries drop by 30+%, then many people and companies will become bankrupt. The 3 local banks will also be in deep shit. But don't worry, PAP will print money and use the Reserves to pump money into the 2 banks. 2 banks becoz PAP will order DBS to take over OCBC, just like POSB in 1998.

Anyway in 50 years time, S'pore will either be part of M'sia or China. Don't need to stress or think so much.

Anonymous said...

If by now Singapore property not yet drop 30%, it will not drop one lah.

In fact it is even rising. For instance, my HDB flat now has the highest resale value of 4 times the price I paid for the new flat in 1993.

And it is not even in a good location, like next to MRT or near to shops.

Anonymous said...

The Europeans are heading in the right direction - attacking the core of the problem rather than the periphery. All except the pomps are onboard. I think Europe can go ahead with or without Britain. The British are caught in a precarious position - protecting their financial industry against the odds of being abandon as an unwanted child. That is Britain's problem, not Europe's.

Anonymous said...

"That is Britain's problem, not Europe's."
Anon 14/12/11 10:49

And also not Singapore's problem, right?

So if you are Singaporean, what's your point?

Banks MUST fail... said...

The free market must be allowed to function.

The banks and any other business entity must not be supported and allowed to collaspe.

The use of taxpayer's funds, sovereign funds is just a ploy to allow elite people to continue with their lifstyle.

What has happened is that society now has the burden to subsidise financial folly... it has now become charity.. and if that is so, it should be allowed as a tax relief.

Singapore also adopts a "light touch" to businesses.. all for the sake of the "people".
It is true only for a certain group of people.. the rich and the influential.

The remainder of the population live just above water. This is not the "swiss standard" I was told about years ago.

Singapore now, will not suffer any economic decline. what is 3% growth? is it negative? is it all that bad? its bad only for those whose bonuses are benchmarked to it.

Will our banks be affected? will my million dollars in DBS be affected? maybe.. but if the bank is unable to return my deposit with interest, anarchy will prevail... can this government prevent it from happening?

Ask the right questions and the answers will help you decide what your options are:

Buy a property?
Buy a car?
Buy more insurance?
Buy more gold?
Buy more Singtel shares?
Sell your home?
Sell your car?
Sell your SIA shares?
Close your accounts?
Migrate to Timbuktu?
Start a new politcal party?
Ask your MP?
Ask lucky tan for opinions?

Singapore will be fine, do not worry... the arrogance of the party even towards the neighbours is enough to motivate them to ensure its survival... its just not you that motivates them.

Anonymous said...

PAP will empty the Reserves and CPF to bail out DBS, UOB and OCBC. No doubt about it. They will tell you better you have no CPF than to have no S'pore. And you the people must sacrifice for your great-great-grandchildren.

There is crutch mentality in S'pore, but it is reserved only for businesses and PAP running dogs. Reserves were used to bail out and subsidised companies in 2009 and 2010. Today S'pore companies are once again asking for freebies, bail outs and rebates. And they will get it if S'pore goes into recession.

Anonymous said...

My parents also bought new high-floor 1,400sf 5-rm HDB in 1992 for $110K. They are the lucky generation -- those who buy properties in 70s, 80s. At that time, the selling price of new HDB flats was still close to the actual building cost, just a little bit higher.

In those years there was price control for HDB flats. And even for private properties, the price increase followed the general population salary increase. I.E. if salary at the 60th percentile increase by 5%, then private property also increase roughly 5%.

Today property prices have over-shot too much and not supported by strong fundamentals. Mainly supported by easy financing and rich foreigners. This environment is vulnerable to financial shocks.

S'pore has been in current situation before, during the property boom from 1993-1996. This was due to PAP relaxing property controls and encouraging easy financing. During the Asian Financial Crisis and Dotcom Bust and 911, S'pore property markets collapsed.

From 1996-1999, resale HDB prices drop 28%.
From 1996-2002, resale HDB prices drop 30.2%.

Certain areas kena worse e.g. HDB flats in Bishan / Toa Payoh drop by 40%. People who bought Bishan flats at the peak in 1996 still below their buying price till today in Dec 2011.

Private properties drop more than HDB, from 40% to 60% also have. Hong Kong properties also drop 50%-60%.

Those confiscated by banks for force-sell lagi jialat. I attended 2 mortgagee auctions in 2003 for fun. Condos were sold by the banks for 50% - 60% off the original prices.

As long the banks recover the remaining outstanding mortgage they don't care liao. The ex-owners sometimes get $0 or even negative after having to pay fees. Some more haven't count all those money flushed into renovations, mortgage interest payments, conveyancing fees, stamp duties, property tax, conservancy fees, sinking funds, etc etc.

Anonymous said...

Majority voters voted PAP into power because they expect PAP, not the opposition, to do what is right.

PAP having voted in will do what PAP think is right.

But what PAP think is right is not necessarily what majority voters think is right.

See the problem?

Anonymous said...

Mario Draghi is not exactly Bernanke because he has conceded to the Bundesbank and has stated that there will be no QE by the ECB. This is a big difference.

Lower rates and opening discount window to banks are good for preventing them from going bust. But these measures will not result in credit creation for the general economy to grow out of a potential recession. This is what QE is for, and we can see some results in the US right now in terms of employment, retail sales, business inventories and investment growth. I think the EU (and Germany) is wrong to worry about inflation right now because without growth and under mounting debt, where is the inflation going to come from? Perhaps the EU will experience 1930s-style depression like the US soon. Then they will learn their folly.

Looks like uncertain times ahead.

Anonymous said...

Low rates for whom?

Not for the man-in-the street!
Low rates for business and only large business like Walmart, Carrefour.

But companies are not keen to borrow to start producing things because, people do not have the money to buy!
Yet, they borrow but to speculate in currency hedgings.. and how will that activity help Francois or Mitakis in Athens?

It does nothing. The only people who will benefit will be George from London who works in Barclays who arranged the hedge facility and George will get 6 months bonus in 2012.

The financial industry is the best industry to get into for the next decade.. no matter what happens, the taxpayer will have no choice but to bail them out.

This is the new Iron Rice Bowl

Anonymous said...

Everyone says that the economy is going to be bad.

From CNBC to CNA..
From World Bank to IMF

They say it has reached a "dangerous phase"

They issue warnings that the world will go into recession.

They say that there will be slower growyh.

They say China will slow "dramictically" from double digit to single digit.

They say: "we are preparing to send our workers for trainning"

What is it that is "dangerous"?
Have we not experienced these before?

With all the forecasting, software anaylsis, MBA brains... how is it that we are in a "dangerous" moment?

Danger? what danger?

with property tax going higher
with COE going higher
with Taxi fares going higher
with property prices remaining high
with petrol price higher

where is the danger?..

Anonymous said...

The danger is that roaming bands of jobless and hungry mobs will rob you and ass fuck you, like what happened elsewhere. Mobs will target those who drive (even those driving Chery) and those wearing office clothes or just nicer looking clothes. You'll need to wear gunny sack to and from your office. Change into your coat and tie only when in office.

Anonymous said...

"The danger is that roaming bands of jobless and hungry mobs will rob you and ass fuck you, like what happened elsewhere. Mobs will target those who drive (even those driving Chery) and those wearing office clothes or just nicer looking clothes. You'll need to wear gunny sack to and from your office. Change into your coat and tie only when in office.'
Anon 14/12/11 19:47

But in Singapore where got such things?

That's why Singaporeans are so lucky, as Anon 14/12/11 09:07 said.

Lucky Tan said...

Anon said:
"But in Singapore where got such things?

That's why Singaporeans are so lucky, as Anon 14/12/11 09:07 said"

We were very badly hit in the Asian crisis as well as the 80s recession. You may be too young to remember. The 2008 financial crisis has its epicenter in the US and fast action by Bernanke help to mitigate some of the effects by the time it spread to us, recovery was around the corner.

This may not be true for the Euro crisis because this whole thing may be long drawn.

Anonymous said...

If u cannot see the simple connection between a resolution of the European debt crisis and the global economy including Singapore, then all these years of papist education are wasted. Pls go back to school again.

Anonymous said...

Papist indoctrinations have produced lots of ignorant Singaporeans who behave just like frogs in the well.

Anonymous said...

I had hoped to have a better understanding from this blog about how Europe or USA can impact me.

At this moment, talking heads just talk about " we are at a crucial point"..

Economists forecast slower growth.

My company ( dealing in commodities)
is expanding! hiring more staff!
My colleagues have bought new homes
We are going to recieve 3 months bonus!

Who is telling the truth here?
Should I beleive my bank account?
or should I believe the talking heads?

Anonymous said...

My colleagues have bought new homes
We are going to recieve 3 months bonus!
Anon 14/12/11 23:56

These are part, if not most, of the 60% who voted for PAP.