Get Ready for the European Double Dip?

James
Blake reports in RT, Get
ready for the European double dip:

The US
and Russia are gaining traction on an economic rebound, with China
posting rudely healthy 1Q 2010 GDP growth. But its time for Europe to
get ready for Recession - the sequel.

Jean Claude Trichet is an
urbane, intelligent and eminently reasonable man, and the ECB he leads
has, as he rightly pointed out during Thursday's Lisbon press gathering
to announce a non rate movement, done a sterling job in defending the
Eurozone against inflationary pressures for the better part of a
generation.

Surrealism

But there was an
air of surrealism that the late Luis Bunuel would have enjoyed. There
were the press representatives all revved up for quick and punchy
responses to the emerging contagion and what the ECB could offer. What
they got was the ECB President languidly going on about Eurozone growth
and inflationary pressures, and keeping the Eurozone budgetary house
in order. He offered nary a word of substance about the fire which has
broken out in its Greek kitchen, and even less in recognition of the
potential for the curtains in its Mediterranean sunrooms to become part
of the conflagration. It was sort of like a man reading out a weather
report involving light breeze, some cloudy patches and fine and mild
conditions in general – whilst on fire, and in heavily French accented
English.

The truth be told, nothing more should be expected of
him. His job is, as head of the ECB, to keep inflation rates at or
about 2% first and foremost, issue warning about potential deviations
from the inflationary comfort zone, and bend ECB monetary policy to
maintaining or seeking it. He shouldn’t be expected to don red
underpants and cape and try to be superman.

What he did say was
that default wasn’t an option as far as he was concerned for Greece,
but he also couched that by noting it was up to Greece, the nations
lending to it, and the IMF to come to an arrangement to head that off.
When asked directly about whether inflation or the Euro was the prime
focus for the ECB, he was emphatic about the former.

Somewhere in
the back of his mind however he must surely be countenancing the
possibility of a further return to recession in Europe, and the
likelihood that in the medium term he will need to cut rates once again
in order to head off deflation rather than inflation, and to try again
to get the Eurozone some traction on an economic recovery.

Borrowing
costs heading north

For the simple matter is that the
Greek debt, and the Eurozone response to it, is already starting to
lift borrowing costs, and they could indeed jump considerably higher if
the contagion he didn’t want to speak about yesterday were to, as
appears increasingly possible, take hold in Spain, Portugal and Italy
in particular.

This week already sees
overnight and 3 month dollar LIBOR up, along with the LIBOR-OIS spread,
as ‘Club Med’ CDS have widened sharply, and Greek Portuguese and
Spanish government bond yields have pushed higher – to record levels
for the latter two against the 10 Year German Bunds. A couple of
screens away one can observe Greek three year bonds rising from 11-17%
in a week, and other 3 year bonds from Spain and Portugal up a percent.
Whilst it isn’t Lehman Brothers panic mode, there is still some way
to go, and there is a faint whiff of counterparty risk coming from
somewhere.

Lots of Eurozone debt

The
reason for this is quite simple. A lot of Europe has far too much
debt, and most nations have structural budget deficits adding to it.
Greece might be out in front, but Portugal, Spain and Ireland are in
the pack not far behind it, and the Italians are at best a half length
behind them. The exposure of European banks to these nations is well
over 2 trillion dollars. 2 trillion is also the total European debt
rollover requirement of this year, with more than a trillion of that
belonging to the Club Med watching their yield and CDS needs start to
get pointy. Spain alone is mulling more than $550 billion.

Now
at this point the first thought is that the Germans are the first
logical place to look in terms of bailing all of this out and making
sure that the liquidity keeps flowing. Notwithstanding the quite
reasonable concerns of German taxpayers about bailing out what they see
is profligate sun drenched laggards, and the pragmatic thought that
German banks are amongst those where the money will end up, which is
essentially socializing potential losses for them, with those same
taxpayers picking up the tab, there is another fly in the ointment.
Last year Germany passed a law limiting its federal government budget
deficit to 0.35% of GDP from 2016. That means that opening the sluices
now to help anyone too much could pressure that need.

This
leaves – without wanting to point fingers of blame at anyone – a
dysfunctional Eurozone large in any consideration of the future. And
that counterparty risk starts to take a more overt shape.

Euro
Banks bracing for a hit

Any possibility that Greece,
and then possibly other nations, may either default, or restructure in
some other way, is going to see the lenders – the banks – get less in
the Euro than they are currently exposed for. That means potentially
large writedowns. From there the next logical step for the banks is
that they lend a lot less, and presumably jack up interest rates on
what they have already lent. In the case of European banks there is an
added issue in terms of their underlying capital base, which is in
many cases less than their US counterparts. So that leaves the prospect
of either a financial sector tightening due to higher borrowing costs
for the state and major lenders, if not a financial sector tightening
due to capital flight, a financial sector tightening due to banks
having holes blown in their balance sheets, writedowns, or in the worst
case, financial sector tightening due to banking collapses and
corporate or state insolvencies.

With the increasing likelihood
that Eurozone banks are likely to take a hit one way or the other,
there isn’t a great deal the ECB can look to do. It could look to
monetize debt by printing money, but that would let the inflation dog
out of the bag and involve a lengthy negotiation process with a number
of politicians from across the EU to get agreement on. It could look
to buy any debt from banks and try and get banks in turn to buy
sovereign debt, which would be the first step in taking over whole
national banking systems and presumably would require a lot more
lengthy political discussion – and Trichet did note at Thursdays press
conference that the move to help Greece out this way announced last
weekend had been arrived at as a one off. If the process of getting a
game plan together for the Greeks together is any indication then any
political approval process is likely to take time.

Mire
the mail

In the short term, with costs already rising
for the borrowers of Europe, the austerity measures now being asked of
in Greece are unlikely to be the last asked of inside the Eurozone. It
is now time for Europe to start thinking in terms of that return to
recession, and how to minimize the impact, and for the global economy
to look further afield for drivers of growth, while hoping the
contagion, and likely financial chaos, can be fenced off.

Citigroup is also bearish, predicting that fears of sovereign debt
contagion over Greece could trigger a near-term
correction of up to 20%. They said that while there have been
financial crises with international implications in the recent past --
Northern Europe in 1992, Southeast Asia and South Korea in 1997 -- the
Greek crisis is "graver than these were."

The worst
crisis to befall the euro area has led economists at Societe Generale
SA and Royal Bank of Scotland Group Plc to suggest the ECB should
consider
the “nuclear option” of buying government bonds to restore
confidence in markets, support banks and lower borrowing costs:

My
thoughts are that the ECB is already behind the curve, allowing
speculators to attack sovereign debt of fiscally vulnerable European
nations.

At this juncture of the crisis, there are only two
choices: 1) do nothing and let the world sink into a deflationary
hellhole or 2) do anything it takes to shore up the global financial
system and look to restructure debt as the world economic recovery gains
traction.

I believe the Fed and the ECB will opt for the second choice. There will
be protests, some people will worry about inflation, but when facing a choice between two evils, central bankers will opt for reflation-inflation over
debt deflation.

Take the time to watch Charlie Rose's
interview with Barton Biggs, Byron Wien and Roger Altman and then
watch the Bloomberg interviews with Rod Smyth, chief investment
strategist at Riverfront Investment Group and John
Herrmann, a senior strategist at State Street Global Markets.

Comments

[Ivar Kreuger]

quoting wolf:

He seems to think this crisis will be contained but Germany will need to pony up huge sums to contain it.

Bernanke:

Subprime is contained.

Enough said!

[hooligan2009]

I found this article from Feb 2010 which restored a little of my optimism that the problem is at least being defined.

http://www.bis.org/publ/othp09.pdf

[JimboJammer]

4:10   pm  usa  time  Ambrose  Evans  Pritchard  /  Telegraph  UK

came  out  with  the  low  down  on  the  Europe  Debt.  Deal..

>>>  Solve  the  Debt  Crisis  with  more  Debt...  I  am  not  impressed.

[JimboJammer]

4:10   pm  usa  time  Ambrose  Evans  Pritchard  /  Telegraph  UK

came  out  with  the  low  down  on  the  Europe  Debt.  Deal..

>>>  Solve  the  Debt  Crisis  with  more  Debt...  I  am  not  impressed.

[Leo Kolivakis]

Martin Wolf was on Fareed Zakaria GPS saying the collapse of the Euro would be a "stupendous mess" for Europe because they wouldn't know how to value bank assets. He seems to think this crisis will be contained but Germany will need to pony up huge sums to contain it.

[TruthHunter]

DoChenRollingBearing complains about "freeloaders",

 but productivity gains have put structural unemployment

above 50%. If my "innovation" puts a whole bunch of

people out of work, why complain when they still

want to live? We've reached a situation where its

impossible to create jobs for everyone that needs one.

This is particularly true for the bottom to the Bell curve. Should

those at the top complain?  Did a statistical accident

make them more deserving or more responsible?

Whats the solution?  Society has to invent jobs or

money to maintain the redundant. Of course, a 

population die off may be as inevitable as a credit

die off.

[islander]

@ anony

Than your life is meaningless stop trying to make sense of it. Just run around aimlessly destroying what you see, including the illusions.

[islander]

Don't worry BULLS things will stabilize within the ponzi scheme for a short time, as the only option will be Q&E , which will spur investment in equities one more time. But when the 2nd round of spend till ya bend ends than the shit will hit the fan, both for fiat currencies and equities. Buy Gold and farmland and hope for the best.

[dumpster]

10-4   .. or live near farm share with owner ,  buy some gold.. the cleansing has tio come .. kicking the can .. just puts dents in the shoe.

sure it may prolong .. but the end results is... some one will pay,

amazing adults on the board have no realization of Austrian economics or want to start their own brand of economic thought .lol

the leo and others made up reality of how to pour on the coals ,, and stop the fire

[geoffb]

It is astonishing to me how little spine people have when it comes to hardship. Leo, you are advocating that we should pass the depression to our children. WTF!!! If it meant that I had to spend the rest of my days in an internment camp with every last entitlement minded baby boomer and idiot banker digging latrines and breaking rocks in the hot sun with no breaks and no Beatles White album to listen to, then so be, it if it gets my children out from under this burden. What the f happened to people.

[dumpster]

friends .. the real outcome

THERE IS NO MEANS OF AVOIDING THE FINAL COLLAPSE OF A BOOM BROUGHT ABOUT BY CREDIT EXPANSION. THE ALTERNATIVE IS ONLY WHETHER THE CRISIS SHOULD COME SOONER AS THE RESULT OF A VOLUNTARY ABANDONMENT OF FURTHER CREDIT EXPANSION OR LATER AS A FINAL AND TOTAL CATASTROPHE OF THE CURRENCY SYSTEM INVOLVED.”

mises

[Nout Wellink]

I am stunned by the fact that there are still people (like these above) think that this is a normal recession and a normal market cycle. How dumb can you be? There are two bubbles about to pop:

1. Government debt

2. Fiat currencies

They simply don't get it and I am AMAZED how far from the truth these guys are living. It is a matter of time when they will see the bubbles too and realise they are too late.

[anony]

The truth is:  there is no god, this is all there is, no afterlife, no hell for Hitler, Pol Pot, Idi Amin, and other evil tyrants, and no heaven in which to finally get some justice.

Do you see 70% or more of the world's population who are 'believers' cottoning to those truths? In the last 3,000 years?

Faith, delusion, deniability are each and together a hell of lot stronger than mere facts and truth.

My parents and their parents and their parents before them lived, died, and their illusions continue to outlast them with renewed vigor.  It is as if the dead are nutrients for fantasy.

[RichardENixon]

Anony, please stop trying to cheer us up with your Pollyanna-esque ravings.

[Rogerwilco]

@anony

What is it like, living in the basement of Maslow's pyramid?

[Escapeclaws]

The world economy must grow at between 20% to 25% per year. Otherwise, how can I expect to pay off my credit cards?

[poorold]

It's not a question of do nothing and suffer a horrible, protracted depression or act now to avoid it.

Any action now is truly a minor delay tactic.

Leo, using your area of expertise, let me try this one out on you...

PROFITABLE corporations have done away with defined benefit retirement programs because the corporations realized they could never fund them in the long term and it would lead to failure of the corporation.

The government, on the other hand, is all about defined benefit plans for it ever-increasing number of employees, not to mention every citizen vis-a-vis social security.

The governments have just taken an amount of debt that simply cannot be repaid (forget about the argument of inflating out of it--use constant dollars because that keeps the variable "standard of living" as a constant).

The governments will never have the dollars there to support the pension scheme--hell, the corporations couldn't afford to take care of their own in the longterm--and the governments think they can tax the corporations enough to take care of the corporate employees (that the corporations can't take care of) AND the public sector employees???

People talk about failed business models...this is a failed economic model.

It's going to end ugly--very ugly.

The Greeks are rioting violently and they haven't even begun receiving reduced payments yet.

[hooligan2009]

A solution (not "THE", "A" solution) would be to describe a desired macro outcome (pick your own metrics) and come up with a plan that reduces the social impact to a minimum whilst migrating to that outcome.

Rules would then need to apply to prevent recurrence of a migration along the same path. We have tried the banking/risk capital model and it fails. The pace of economic growth needs to be put on a sustainable path based on capital accumulation, not capital creation. 

This represents a complete cultural reversal of the philosophy that "access to borrowings = wealth". It doesn't and never has. The solution would be for a complete switch to only spending what has been saved. No borrowing. I repeat NO BORROWING; no credit cards, no mortgages, no car finance, no boat finance, no infrastructure spending and all corporate growth funded from earnings. This means expenditure is funded from SAVINGS and other finance is a transfer/transmission mechanism only.

This also means no municipal or state or federal infrastructure/service spending that is not paid for by savings (not debt) by the relevant government (an excess of taxes over spending, a shift to structural fiscal surpluses). 

[anony]

Premisical Flaw:   "This represents a complete cultural reversal of the philosophy that "access to borrowings = wealth". It doesn't and never has."

You want to rethink that?

[hooligan2009]

might piss OPEC, China and Japan off, but then we could argue that they can copy this model and would not have the wealth they have if they hadn't engaged in predatory lending (selling us stuff we couldnt afford).

[Ivar Kreuger]

quoting Leo:

On 2): It's not absolute debt that matters but debt interest costs, which are not at historic highs.

Debt interest costs are not at historic highs because rates are being manipulated by the QE process.  Don't you understand that Leo? Rates only stay low as long as QE continues, as long as debt expands, but in the end you only have both expanding debt and rising rates, and that is when you will see debt funding costs become impossible to maintain.

It will be exactly like the inter-allied debts from WWI. These debts are "unrepayablely large" to borrow a phrase from Micheal Hudson. Nevertheless the IMF will play the role of "Uncle Shylock" and demand payment by way of austerity, you will have societal collapse and rebellion, which will in turn further scare away investors.

Which will led to world-wide cascading collapse, with each society looking for autarky.Only solution is debt jubilee, global reset.This is not some pipe-dream, many advocated for debt cancellation in the aftermath of WWI, and it could have stopped the depression, its not impossible.But the bankers always demand to be paid. And everyone knows what happens if they don't get that money.

[Matto]

The cycle between selecting option 2, to reconsidering the same problem again, is both shortening in duration and becoming more critical in magnitude.

Selecting option 2 wont see us to the end of this year this time.

Option 1 is the only means to address the structural imbalances in the global economy and we will take it sooner or later, whether we want to or not.

[nathan1234]

Debt cannot be restructered untill the CDS are removed from the system and all banks balance sheets show their real worth.

This financial crisis will end only then. The change in the FASB accounting rules in April 2009 sounded the death knell.

[MacedonianGlory]

False dilemmas once again.

The basis of this crisis is political, because of political decisions the world is on the edge right now. The solution is expressed more frequently in Europe mainly by Socialists.

A Global Goverment.

[anony]

We have to learn to think of the edge as the new frontier, and the telomere of a new and strange but burgeoning landscape. 

[snowball777]

Sure, because the EU has been a model of political expediency envied the world over.

Have they been throwing giant bales of dope on the bank fires or something?

[MacedonianGlory]

Do you think only in EU Socialists think like that?

Try the US to find similar declarations.

I have said it before.

It's a multi-leveled power game. It's all in front of your eyes.

[leftcoastfool]

Where can I get me one of them giant bales of dope?  The Audacity of Dope...

[Pure Evil]

There is no such thing as a choice between two evils.

There is only the choice of choosing evil.

[snowball777]

You're only saying that because you're evil.

If their was an 'impure' evil...would it be more evil or less?

[ElDiablo]

I hope you and your investors get wiped out in the next wave down. It's good to see that you are fully invested and have no more powder left since that will guarantee the bankruptcy. I just wish people like you weren't allowed to influence monetary policy in any way and dump the results of your follies on people who lived within their means and saved to supposedly build a better life for themselves. These people are now basically getting destroyed by hyperinflationary policies and bailing out profilgates. It's almost as if we live in different worlds and people like you have lost all perspective and any touch with reality.

[Leo Kolivakis]

ElDiablo,

WTF are you talking about?!? Does anyone opting for the "do nothing" approach have any idea what this entails? DEPRESSION, the likes of which you have never seen. I opt for more QE, coupled with debt restructuring and fiscal restraint. There are no magic pills, but the do nothing approach will be  a living hell for everyone. Be careful what you wish for.

[dumpster]

leo the results will be the same

THERE IS NO MEANS OF AVOIDING THE FINAL COLLAPSE OF A BOOM BROUGHT ABOUT BY CREDIT EXPANSION. THE ALTERNATIVE IS ONLY WHETHER THE CRISIS SHOULD COME SOONER AS THE RESULT OF A VOLUNTARY ABANDONMENT OF FURTHER CREDIT EXPANSION OR LATER AS A FINAL AND TOTAL CATASTROPHE OF THE CURRENCY SYSTEM INVOLVED.”

mises

[huggy_in_london]

Leo you are exactly right.  Ignore these nut-cases on here wishing for armageddon.  Too many amateurs on this blog are just as bad as cnbc, just cheering for the opposite.  You people need to wake up and think about what you are advocating.  There is little choice but to do QE right now.  The idea is to stabilise, get some growth and then spend the next 15+ years being more productive and paying down debt.  That can actually work, but not if you freaks keep wanting the market to fail.  

[Rogerwilco]

@huggy

Let's take Pollyanna for a spin:

"The idea is to stabilise, get some growth"

By growth, I assume you mean actual, organic growth that results in the creation of real goods and services and not the leaf-raking "growth" from government stimulus spending. QE robs credit from the private sector and creates debt service burdens that any real accounting must anticipate. Like a crack whore with a new bag of rocks, QE will get us through another day. Productive growth? Not so much.

"and then spend the next 15+ years being more productive and paying down debt."

Sounds like a plan, OK lets get productive. Oh wait, we're already automated, computerized, and airborne. We'll need to do much better though because to dig our way out of this mess and pay all the interest on the new debt, we have to get at least 25% more productive. Hey how about slavery? Bring back slave labor and productivity numbers will soar! Just add a Novus Angli verse to the EU anthem's list of blather.

"That can actually work"

Any examples in history? I thought so.

[dumpster]

sorry mr buggy ,, the Keynesian mind set will not work the more kicking the can down to raod .. means less beans for all .

the attituded of a ten year old wanting the next cookie .. nowing noting about austrian economics or mr mises  

[anony]

I'm beginning to finally get it that you are right.

Once things obviously stopped making sense, then doing and thinking in only a familiar or habitual, traditional way becomes fatal.

Once we went digital, there was a silent, invisible, global geological fiscal and financial earthquake that has been missed by 6 billion people and is only gradually beginning to be understood by a few and has been capitalized on by the men with their fingers on the keyboard in Central banks and other clandestine venues all over the globe.

Money must no longer be considered as simply a medium of exchange but recast as a consensual hallucination. I think derivatives to the 3rd or 100th power qualify as exactly that, don't you?

[Kayman]

Leo

This never ending money printing and credit creation has lead to the greatest dislocation of investment(s) in history.

By inducing the entire "herd" into "investing" their savings in the stock market (through killing individual savings via ZIRP, the small investor has been wiped out and the retirement illusion is more distant than ever.

As JR so aptly has pointed out ZIRP has produced ZIG.

[Graphite]

The only way not to avoid a "DEPRESSION" was not to blow a 25-year monster credit bubble in the first damn place. If they had let some of the smaller liquidations run their course in 1987 or 1990 or 1994 or 1998 or 2001 -- instead of picking your "kick the can" option -- we wouldn't be sitting here facing such a huge ocean of bad debt that its liquidation threatens total systemic collapse.

So, do we take our lumps now, or wait a couple of years so that the liquidation doesn't just threaten collapse but actually guarantees it?

[anony]

And the option of continuing to kick the can?

Why can't this game be played like the laundry cycle?

Time is for sale, and can be bought. Cheaply.

[Rogerwilco]

What is it like channeling Hank Paulson? The ol' "tanks in the street" line worked for him, once. Now that we see how that little gambit unfolded, most people are wise to their game. Like the proverbial bad burrito, these debts and excesses have to be purged before we will see anything that resembles normal growth.

Oh, you forgot option #3, world war. A go-to favorite with the political class, war will get things moving again. Europeans are especially adept at killing each other in large numbers after interludes of "peace".

[nathan1234]

WW3 . agree with you. Seems to be no other choice offered. Worry about your life and existence- not the money

[Dark Helmet]

The only thing monetary policy can do beyond short-term psychological effects is to make the numbers bigger. A depression will be a depression, regardless of what the value of the dollar is.

We are entering a period of prolonged recession / depression because:

1) Fossil fuels can no longer fuel our growth, and we lack the brains/balls to switch to nuclear or renewables.

2) Demographics are leveling off which when combined with energy and natural resource constraints equals no growth.

3) Governments and private entities such as pensions have made promises they can't possibly keep.

1 and 2 together mean no growth. The problem is: for 3 to not be true, we need HUGE growth. I don't see how that's going to happen.

Explain to me how monetary policy can change any of these things. The only difference between QE and no-QE is a stagflationary depression vs. a deflationary depression.

[Leo Kolivakis]

Derek,

On 1): I agree, which is why I am a secular long on solars.

On 2): It's not absolute debt that matters but debt interest costs, which are not at historic highs.

On 3): There will be a pensions revolution in the next decade which will involve difficult choices.

On 4): Demographics are shifting but if we raise productivity levels, we will be able to offset some of the lost output due to this shift.

On the last point, I disagree with the stagflationary depression scenario if they opt for more QE. There are too many factors weighing down inflation. However, if they opt to do nothing, a deflationary DEPRESSION will set us back decades. They know they are flirting with disaster either way, but will opt for choice #2.

[JethroBodien]

Im afraid I have to agree with Leo in that they will choose option #2 because

1) it is the most politically expedient.

2) its human nature to put off until tomorrow what we can do today.  Especially if it involves pesonal sacrifice. 

[Landrew]

Sorry Leo, you are only half right! The problem is length of maturity! Total debt is less important if maturity lengths are normal and spread across the curve. However, the U.S.T. has moved to 40% maturity to less than 2yrs. that is the reason we need to borrow the worlds savings and investment just to keep our own house of cards from flying apart. Can the whole world borrow the same funds?

[RichardENixon]

Yep. As an accountant I can confirm that a large current portion of long term debt is always a red flag on a balance sheet. It is for me, anyway. I've noticed that the guys at the Big Four don't seem too troubled by it. Oh wait, I forgot, most of their clients have it off balance sheet in SPEs.

[Augustus]

British house prices start falling again.

http://www.telegraph.co.uk/finance/economics/houseprices/7690502/Surprise-fall-in-house-prices.html

[Clinteastwood]

The only option is 1.  Take the pain now or even more pain later, that's the only choice.  Given the current decadent state of things, I'm sure it will be more pain later.  Only trouble is.......it's later than you think.

[tony bonn]

"do nothing and let the world sink into a deflationary hellhole"

well actually that is the correct solution although i doubt the apodosis. after the corrections the economy would return to business as usual.

typical quack voodoo economists advocate option 2 which is a bundle of self contradictions and hopium....