Jim Walker, Asianomics: Fear is back; global growth deteriorating

It seems that fear is coming back to financial markets in a big way and financial conditions are turning bad again, isn’t it?

Yeah, I am afraid that’s right but I certainly see on the radar screen it’s obviously led by what’s happening in Southern Europe. But it’s not just Southern Europe. I think people need to be aware that one of the main reasons behind this heightened fear is the fact that governments are being forced to exit stimulus programmes whether it’s slightly higher interest rates in India, tightening in China, rigid fiscal deficits in Europe and US - all of that.

There is a real doubt on whether or not the private sector is truly on the move after what’s happened in the last 18 months. The figures show that certainly there is not very much appetite in the private sector for increased investment and that’s what we need to increase employment. So I think the fear is right back and global growth - I am afraid - is deteriorating again, it’s not improving.

What about the Eurozone because Nouriel Roubini is talking about a potential breakup of the Eurozone, Paul Krugman is saying that Europe may not have been an optimal currency area to begin with? What are your thoughts?

Well I am kind of surprised at the statement by Paul Krugman. We realised that it really never had the conditions for being an optimal currency zone. Countries were far far too much overlaid in terms of debt and budget deficits and of course there is no unified labour market in the Eurozone which is exactly what was required and to smoother the deficit and surplus.

People cannot move easily between Greece and Germany for example. So what we have at the moment is the realisation that some countries have cheated dramatically in the budget deficit possessions. We had the ECB stepping in and then saying we will buy government debt that’s made things worse. It hasn’t made things better.

Everybody was rejoicing at the beginning of last week with the ECB saying that it would buy up government debt, it would buy up private debt and would make sure that things didn’t fall apart. The natural fact is that it was the worst decision that they could have taken and the reason that it was a worst decision is that this wasn’t dealing over the financial system. It wasn’t a top programme to shore up the banking sector over the private sector.

This was trying to cover the cracks in the government sector and roughly those were not cracks. They were chasms especially in places like Greece, Portugal and Spain. It cannot be done and because of ECB action people have lost confidence and as a result of that there is an increase in sense of Europe quite rightly.

Eventually the Euro will become a much stronger currency based on a core number of countries. But I am afraid that the end game to this crisis is that it was going to be exit from the Eurozone - people were getting be thrown out probably rather than leave it and dealt with the stronger core Euro. But in the meantime the Euro will go much much weaker from here certainly.
Robert Shiller is saying that a second recession in the US may not happen this year but it will happen just like the 1937 recession in the US happened - a good four years after the 1929 to 1933 depression was over. What are your thoughts?

Yeah, there are various aspects to this but the most important is that the recovery end of in the US has been led by a huge stimulus programme. Interest rates are zero, government deficit at almost 10% and GDP up 5%-6% in one year. So of course that has pumped huge amounts of money.

People in the US are no longer paying mortgages. So their disposable incomes are actually going up in the last year because they don’t have any outgoings anymore. They are just setting there doing nothing until buying for closets.

But let’s speak very clear about the US economic data that the retail sales are back to around of 2007 levels, industrial production is at 2005 levels, most activity is way way down from where it was by end of 2007 beginning of 2008. The housing market is at 50-year lows - not even rebound that we would count as a rebound. So there is still very significant weakness in the US economy despite massive stimulus.

So what Robert Shiller is worried about is that when the stimulus begins to be withdrawn - and of course Europe is just a few months ahead of the US - the pressure will go on into the US to cut deficit very quickly and also to start tightening on monetary policy. When that happens the private sector is actually quite weak underneath the nearer strength at the moment and that’s all as Southern Euro strength unemployment properly measured.

At the moment the US would be 11.4% but is only 9.9 because so many people have jobbed the actual labour force. So that the possibility of falling back into may be not so much recession is, just cost to zero growth I think is very real for the US over the course of the next 12 months.

How are you mapping the economic environment for India because you have always talked about how you are bullish in India? How would you rate India now?

Yeah, I still look at India really more positively than most other countries in Asia and certainly most emerging markets. I think there are still some weak spots with India going through that the next year or I guess concern is actually growth. It’s not inflation, it’s not RBI tightening. I think RBI is not behind the curve.

The inflation has come for very specific reasons and will be dropping I think pretty quickly over the course of the next 6 months. But if we would look at the money and the credit from India - which are the growth supporting numbers - then what we see is really quite degree of weakness relative to where we were 2 or 3 years ago. That makes us a bit concerned that may be GDP is in a region of 6%-7% this year.

I would expect to come back relatively strongly and probably a degree of risk aversion within the Indian corporate sector remaining over the course of the next 12 to 24 months. That will further down growth. The downside means that the RBI certainly shouldn’t be tightening aggressively over the next few months.
You are talking about 6% to 7% economic growth for this fiscal year when most economist official and unofficial private sector are expecting at least 7.5% to 8%.

Yeah, we are basically belied because of the risk aversion trade coming back and that stops companies from investing strongly. A lot has to do with the monetary conditions in India at the moment which I say up in terms of credit growth and money supply growth slightly trending down. The credit side is much weaker than a few years ago and it doesn’t really adopt 8%-9% growth. It looks very much more or like 6% or 7% even with a good rebounding monsoon.

Government has set itself a very daunting budget deficit reduction target. It was to take the deficit number to 5.5% from 6.9%. But if GDP is not going to grow as strongly as people think, then do you think this deficit reduction target could be met?

I think it’s going to be very tough to meet that 6.9% to 5.5. India is predicated in strong growth at the nominal GDP level and that there will still be good growth at the nominal GDP level. But my guess is it may take the deficit down toward 6% of GDP that certainly knelt towards the 5.5% level which is really required. This is a much tougher stands on spending and government expenditure - specifically at the subsidy level more than anything else. That has to be cut back and we have to get into a much more structural decline in the fiscal deficit - not relying on growth but actually relying on rationalisation of the expenditures.

What is your view on the level of the index, where we may head from here onwards and which pockets do you think will sort of lead to the strong growth kicking in for the next few quarters?

Well I would be tending to be a bit more defensive in my portfolio selection on India at the moment just as I see concerns on my mind of that cyclical recovery. So I would be concentrating a lot more on consumer staples, utilities avoiding the deep cyclicals and we are avoiding the export companies as well and certainly the property sector we are bit worried.

So we would be looking at the defensive sectors. The return on equity in India is a almost guaranteed better than average return purely because India is central buying because it always kept interest rates high in response to the government deficits that means that the private sector considers the capital is scarce and therefore invest much more wisely than in many other countries out in the world.

(from economic times, May 17, 2010)

Eurozone In "State Of Emergency" As Leaders Establish A New Crisis Fund For Troubled Countries

European leaders launched plans Saturday to create a new crisis fund aimed at all troubled euro countries, as the Greek debt chaos put the eurozone into a "state of emergency."

The 16 heads of the countries that share the euro currency said they want to build an emergency fund for countries targeted by powerful bond markets, after the region's debt mountain sent global bourses tumbling and triggered alarm from the US to Asia.

"Between now and Sunday night we will have a watertight line of defence in the eurozone," declared euro finance Chief Jean-Claude Juncker.

The leaders, meeting in Brussels, also agreed to impose new curbs on speculators blamed for sustained and deliberate attacks.

German Chancellor Angela Merkel said that the "stabilisation" fund would send "a very clear signal" to market speculators to back off.

A decision to "accelerate" public deficit reduction plans and "reinforce" rules limiting room for manoeuvre on broken budgets came after they concluded a much-vaunted deal to loan debt-addled Greece 80 billion euros (just over 100 billion dollars) over three years.

A meeting of all 27 European Union finance ministers, tasked with setting up the fund worth scores of billions of euros, was hastily arranged for Sunday in Brussels to deal with what French President Nicolas Sarkozy called a "systemic crisis."

"We are now at the stage of community mechanism, it is the whole eurozone that needs to defend itself," through "general mobilisation," the French leader said.

"There is no doubt that the eurozone is going through the most serious crisis since its creation," he underlined.

The leaders acknowledged, during their late-night crisis summit at the

EU headquarters in Brussels, that the scale of the problem had gone way beyond Greece.

Italian premier Silvio Berlusconi told his peers that the 11-year-old shared currency area was in a "state of emergency" and exceptional measures were required.

What began as concern over fraudulent financial reporting in Athens, and escalated to deadly riots in Athens against austerity measures, has now turned potentially into a stand-off between euro nations and markets that have been resolutely unimpressed by EU action to date.

Greek premier George Papandreou said the talks "re-confirmed that the need to safeguard the eurozone goes beyond Greece's problems."

Papandreou also said the transfer billions of euros of crisis loans was imminent.

"In the following days, Greece will receive the first tranche of the 110 billion euros from the EU and the IMF," Papandreou said. "This will allow us to implement our (austerity) programme and our reforms."

Saturday's sweeping decisions came after the United States, Japan and Canada relayed their growing concerns, via the G7 forum, to France, Germany, Italy and non-eurozone Britain, which is itself heavily indebted.

US President Barack Obama himself spoke with German Chancellor Merkel, and called for a "strong policy response" extending to the wider "international community."

Sources stressed that talks on an idea for the European Commission to pour up to 70 billion euros into a reserve pool would require the European Central Bank's agreement, given its politically independent status.

ECB chief Jean-Claude Trichet said the summit's outcome was "excellent," but underlined: "I don't want to make any comment, this mechanism is the responsibility of the EU council (of leaders) and of the European Commission."

Currently 13 of the 16 currency partners are under excessive deficit surveillance, having breached set guidelines.

Parliamentary and legal manoeuvres needed to sign off on an unprecedented 110-billion-euro (145-billion-dollar) bailout for debt-laden Greece, backed by the IMF, were largely completed in advance of the talks in Brussels.

However, Australian Prime Minister Kevin Rudd said markets had already judged Greek bailout action "inadequate" after stocks plummeted in Asia and on Wall Street, the euro plumbed a 14-month low against the dollar and Japan said it would need to plough more than 20 billion dollars into shaken Asian financial markets.

UPDATE: ADDITION:

Eurozone leaders have agreed to put emergency measures in place before the financial markets open again to prevent the debt crisis in Greece spreading to other countries.

During a late-night summit in Brussels, the 16 heads of the single currency countries said they were ready to take whatever steps were required to protect the stability of the euro area.

The leaders agreed to set up a crisis fund for all members to dip into in times of financial difficulty.

They also pledged to take "all measures needed" to speed up the process of reining in their national debts.

And they promised to strengthen financial governance, with tighter economic surveillance, more closely co-ordinated policies and more rigid rules on debt and deficit levels.

German Chancellor Angela Merkel said the "stabilisation" fund would send "a very clear signal" to market speculators to back off.

Belgium's outgoing Prime Minister Yves Leterme added that the mechanism would be ready by "the end of the weekend".

The leaders had been accused of heightening market uncertainty with a lack of action on euro members with high deficits or debts and low economic growth.

Stock markets around the world fell sharply this week because of fears that Greece's debt problems would halt the global economic recovery.

The US, Japan and Canada expressed their growing concerns to France, Germany, Italy and Britain during a G7 conference call on Friday.

Barack Obama also spoke to Ms Merkel, calling for a "strong policy response" extending to the wider "international community".

The 110bn euro (£95bn) bail-out of Greece was formally signed off at the crisis talks, with the eurozone to provide 80bn (£69bn) over three years and the IMF offering a further 30bn (£26bn).

All 27 EU finance ministers, who have been given the task of setting up the crisis fund, will meet on Sunday in Brussels to approve the special measures.

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UPDATE:

EURO-ZONE LEADERS early this morning opened the door for the immediate creation of a permanent rescue fund for distressed euro countries and for the European Central Bank to buy government bonds.

At a summit last night, they directed the European Commission to produce proposals this weekend which the governments of the 16 euro-zone countries hope to endorse at an emergency meeting of finance ministers tomorrow.

“The hour of truth has struck for the euro zone,” French president Nicolas Sarkozy said moments after the four-hour meeting broke up.

After a fresh wave of turmoil ripped through global markets yesterday, the euro governments agreed to step up their efforts to fight sovereign debt “contagion” as ECB chief Jean-Claude Trichet and Commission chief Jose Manuel Barroso each warned that the single currency is in the grip of a “systemic problems” due to Greece’s debt crisis.

The leaders said that they “fully support” the ECB in its action to ensure the euro area’s stability.

“Everyone in the euro area is totally supportive of our currency, will defend the currency obviously and we fully support the ECB in what it is doing in that respect,” Taoiseach Brian Cowen told reporters.

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ANALYSIS:

The European Central Bank is poised to take a big step into the unknown – buying government debt from euro countries, writes ARTHUR BEESLEY

THE EU/IMF rescue plan for Greece was designed to extinguish doubt about its ability to repay massive debts.

The country has been saved from the abyss, at a huge cost to its people, but the brush with insolvency intensified anxiety that other euro countries would require aid.

As the leaders of the 16 euro zone countries descended on Brussels last night to take stock of the debacle, they met against the backdrop of mounting fear that the Greek crisis could go global. Their “unprecedented” deal to underwrite Athens to the tune of €110 billion was struck only last Sunday – an ad hoc solution to a gaping hole in the country’s finances.

The intervention, the first such rescue in the euro zone, was designed to puncture market pressure. But it did no such thing. Instead of calming fears, the plan was followed by a cascade of turmoil that sent world markets tumbling throughout the week.

Under most pressure were Spain and Portugal, whose heavy debt dependence has led to fears that they might ultimately need help.

Ireland, too, felt the force of pressure on its borrowing costs, which had declined as the Government undertook a series of painful austerity measures to regain control over the public finances.

From Berlin, Paris and Brussels the renewed turmoil met with predictable series of attacks on market “speculators”, who stood accused of ignoring economic fundamentals in their pursuit of profit. In the background, however, the disruption prompted yet another rethink.

Week by week, the European authorities have rewritten the rule book in their increasingly desperate efforts to halt the build-up of pressure over Greece.

Now on the cards is an even bigger step into the unknown, namely the purchase by the European Central Bank (ECB) of government debt from euro countries.

Such an initiative would immediately relieve pressure on countries that are heavily dependent on the private debt markets as they could raise funds from another source.

In essence it would be a form of quantitative easing, whereby the public authorities print money to help money flowing through the financial system.

In a currency union of 16 countries, however, it is laced with legal, technical and political complexity. The more money the ECB prints, for example, the greater the danger of undermining the very stability the bank is supposed to promote.

Given the scale of public indebtedness in the euro zone, hundreds of billions of euro could be involved.

In Lisbon on Thursday afternoon, ECB chief Jean-Claude Trichet said the bank’s governing council hadn’t even discussed the possibility of going down this route at its monthly meeting.

In the background, however, discreet discussions about exactly that eventuality were already under way.

Sources say Spain, Portugal and Italy are in favour of the plan. No surprise there, of course, for these countries have a voracious appetite for debt. But as always in this drama, much pivots on the response of German chancellor Angela Merkel.

She was deeply reluctant to involve Berlin in any bailout for Athens and is perceived to be equally cautious about encouraging a major expansion in the ECB’s remit.

This has its roots in Berlin’s historic attachment to tight management of the public finances. Giving the ECB power to buy government debt would be a step in the opposite direction.

But pressure is mounting.

For months, the European authorities have been buffeted by the Greek crisis, every initiative taken and every promise of support shrugged off as inadequate by markets that fear that the fiscal weakness of some euro countries is such that they might ultimately default on their obligations.

To illustrate their determination to avert the threat that the Greek crisis could be repeated, the European authorities have been talking for months about new measures to reinforce the central co-ordination of economic policy in the euro zone and toughen surveillance.

The notion works in theory. In practice, however, European governments have long flouted existing legal rules which bind them to fiscal probity and threaten them with fines if they go offside.

The rules were routinely broken, no country was ever fined and the European Commission’s push to strengthen the regime is riddled with fears that it would be politically impossible to enforce. What is more, the big fear is that it would be just another administrative tool with no real teeth.

Euro group leaders came to Brussels to draw a line under the Greek problem.

That, however, is proving very difficult to do.

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THE EUROPEAN Central Bank is under growing pressure to take fresh action to stem a widening crisis of confidence in euro zone government debt, though it remains likely for now to stop short of buying bonds.

Markets punished the euro and bonds on the weak periphery of the zone after ECB president Jean-Claude Trichet said central bankers did not even discuss at its Thursday meeting what analysts have dubbed “the nuclear option”. Market conditions may not so far be bad enough to convince the ECB to take that controversial step.

Instead, the ECB’s next steps could include reinstating 12-month loans for banks at fixed interest rates, lending US dollars again, or announcing a blanket waiver of its collateral rules for all euro zone sovereign debt in money market operations.

“Market expectations certainly are that the ECB will do something, that the governments would take too long to do something or they are not willing, not able,” said Fortis economist Nick Kounis. “Therefore the ECB, which has more flexibility, should jump into that vacuum.”

The difficulty which euro zone governments had in negotiating their €110 billion bailout of Greece suggests they cannot be counted upon to agree on fast, concerted action to prevent credit jitters from spreading through global markets. That may leave the ECB as the only European institution with the ability to intervene effectively in the widening crisis.

Mr Trichet will meet other top central bankers at the Bank for International Settlements (BIS) in Basel this weekend, an excellent opportunity to discuss any co-ordinated liquidity action.

There is a precedent: central bankers from Europe and North America agreed in principle on joint liquidity injections at the November 2007 BIS meeting, and actually conducted those injections a month later.

European central banks have let currency swap lines with the US Federal Reserve lapse, but these could be restarted at any time.

The ECB held a conference call with commercial banks yesterday to gauge the state of money markets.

“It is a possibility for the US Fed and the ECB to do this specific market measure in just a few hours because it is just reinstalling something that was there before,” said one money market desk head who participated in the call.

Economists said the ECB would likely hold the option of buying bonds in reserve until it had exhausted more conventional ways of flooding markets with cash.

“They are most likely to do if there is a further panic on the market and we see a further increase in the LIBOR/OIS spreads and interbank confidence for lending does subside – then I think the ECB will be the only institution that will try and calm markets down,” said Kenneth Broux from Lloyds TSB.

Many say that anything short of government bond purchases may fail to calm the markets.

EU rules prohibit the ECB from buying government bonds from the primary market, but this would not be a show-stopper.

“You have this ‘no monetary financing’, but you are allowed to buy in the secondary market, so what’s the difference?” an official involved in European banking supervision told Reuters. “Buying in the secondary market, you take the pressure, and so you push people in the primary market.”

Analysts have estimated the ECB might buy some €200 to €300 billion of bonds, about 20 to 30 per cent of estimated annual new issuance in the euro zone.

Its covered bond programme was comparatively larger, comprising about 60 per cent of new issues at the time. But some analysts say the ECB would sacrifice credibility as an inflation fighter if it bought government bonds, potentially affecting inflation expectations.

This probably explains Mr Trichet’s uncompromising tone on Thursday.

(from Reuters, May 8, 2010)