Gross Domestic Product

With China and Japan markets closed overnight, activity has been just above zero especially in the critical USDJPY carry, so it was up to Europe to provide this morning's opening salvo. Which naturally meant to ignore the traditionally ugly European economic news such as the April Eurozone Economic Confidence which tumbled from a revised 90.1 to 88.6, missing expectations of 89.3, coupled with a miss in the Business Climate Indicator (-0.93, vs Exp. -0.91), Industrial Confidence (-13.8, Exp. -13.5), and Services Confidence (-11.1, Exp. -7.1), or that the Euroarea household savings rates dropped to a record low 12.2%, as Europeans and Americans race who can be completely savings free first, and focus on what has already been largely priced in such as the new pseudo-technocrat coalition government led by Letta. The result of the latter was a €6 billion 5 and 10 year bond auction in Italy, pricing at 2.84% and 3.94% respectively, both coming in the lowest since October 2010. More frightening is that the Italian 10 year is now just 60 bps away from its all time lows as the ongoing central bank liquidity tsunami lifts all yielding pieces of paper, and the global carry trade goes more ballistic than ever.

Macro perspective of this week's events.  Hint:  the ECB meeting may be the most interesting.  

A few hours ago, Greek lawmakers approved a reform law to unlock about €8.8 billion of rescue loans from the European Union and the International Monetary Fund. The law, which was a condition for further aid installments, passed easily with the solid backing of the three parties comprising Greece's ruling coalition, by 168 to 123 votes. Next, euro zone officials will meet on Monday to approve overdue payment of 2.8 billion euros ($3.65 billion) in rescue loans, finance minister Yannis Stournaras said. Euro zone finmins will then meet on May 13 to release a further 6 billion euro installment, he added. The use of proceeds? To have enough cash to pay salaries and pensions, and of course to pay Mario Draghi for a bond that matures on May 20. The fact that Europe has gotten the green sign to hand over some pocket change to Greece, so Greece can pay for the maturity on Greek bonds by the ECB was the good news (for someone, unclear exactly who). The bad news, for Greece, starts now. As BBC reports, some 15,000 state workers will lose their jobs by the end of next year. Naturally, in light of the recent epic backlash against austerity (or fauxterity as penned previously) whose corpse has already promptly been trampled in Spain, and now in Italy, Greece would like to get back on the gravy train as well. Yet they are being denied, and the result is indignation at what the people rightfully see as B-class European citizen treatment.

There have been five developments over the weekend.  Which is noise and which the signal ? 

US commercial bank loans and leases flat since Lehman, and yet US GDP higher by $2 trillion since the biggest bankruptcy in history. How does one reconcile this monetary and growth quandary? Simple. Enter the Fed.

In what has been a banner weak for the many serial inflationists and fans of Big Government out there, equity markets have largely reversed the declines of the previous period on the hope for – what else? – yet more pump priming. On the fiscal front, much heart has been taken at EU Commission President Barroso’s assertion that the time has come to move beyond an exclusive reliance on ‘austerity’ and to begin to focus on encouraging growth. Needless to say [Barroso's actual words, were] far less radical than anything whipped up by the journalists. In the circumstances, however, the wilful desire to over interpret (if not actively misinterpret) the message was far too powerful to resist, especially in the wake of the academic catfight going on over the state of Reinhardt and Rogoff’s Excel skills. For those who have real lives to lead, the briefest of synopses of this spat will suffice and, indeed, it is only introduced here to illustrate the heedless Flucht nach Vorne mentality of the Krugmanites, ever eager as they are to peddle the line that the only reason stimulus has ‘failed’ is because there has been nowhere near enough of it. But other than this war of the scholastics, the whole debt issue surely misses the crucial point that debt only swells in a polity where not only is government over large to begin with, but where it is serially profligate – i.e,. where the political class persists in spending more than it dares ask its electors to contribute to their whims.

After reading the Spiegel article below, which reveals so much about German thinking, it becomes very clear that not only is Cyprus the "benchmark", but that the second some other PIIG country runs into trouble again, and its soaring non-performing loans inevitably demand a liability "resolution" a la Cyprus, it will be Germany once again at the helm, demanding more of the same equity, unsecured debt and ultimately depositor impairment. As the following punchline from Spiegel summarizes, "It would be more sensible -- and fairer -- for the crisis-ridden countries to exercise their own power to reduce their debts, namely by reaching for the assets of their citizens more than they have so far. As the most recent ECB study shows, there is certainly enough money available to do this." And that is the crux of the wealth-disparity demand of the European Disunion.

The financial sector added 38% to GDP, but the threat of the banking-data sharing agreement will cause clients to pull their money out...

The gaps between markets (credit, equity, and volatility) and economic (macro- and micro-) reality have seldom been larger. What is just as concerning as this yawning chasm is the similarity of a number of activities to the 'bubble' in credit in 2007 - from record CLO issuance to covenant-lite loans resurgence. As Citi's Matt King notes, the past fortnight’s virtual melt-up in all things high yielding has been accompanied by a growing sense that markets are breaking out of the patterns of the past few years. In the near term, there is no reason in principle why the moves cannot go further; but unless more of the central bank stimulus finds its way through to the economy, this opens up the risk of sudden corrections as markets fall back to earth. How long will it take for that to occur, and for markets to become scared once again? It is hard to tell, and yet, as we have noted numerous times, we have been in this situation before. In 2009, the divergences took 6 months before stocks corrected, in 2011 it took 4 months, and in 2012 it took just 1 month. It's not different this time.

Now that the absolutely irrelevant debate over the applicability of the 90% debt/GDP Reinhart and Rogoff hard cutoff for sovereign growth is supposedly over due to an excel mistake of the type that JPMorgan did at least once to misrepresent its VaR both internally and to public shareholders (which to a large group of supposedly people is equivalent to supporting the notion that a record debt global conflagration can only be resolved with even more debt), perhaps the debate can shift to another question: why despite all the bickering and complaints, Europe never actually engaged in austerity, in spending or debt cuts, and that the primary reason the people's plight in the periphery worsened in the past three years is nothing more or less than gross political and governing incompetence?

In a slight digression from the usual pure market-based discussions of Jeremy Grantham's perspectives, the fund manager addresses what is potentially and even more critical factor for the markets. As he writes, we are in a race for our lives, as our global economy, reckless in its use of all resources and natural systems, shows many of the indicators of potential failure that brought down so many civilizations before ours. By sheer luck, though, ours has two features that might just save our bacon: declining fertility rates and progress in alternative energy. Our survival might well depend on doing everything we can to encourage their progress. Vested interests, though, defend the status quo effectively and the majority much prefers optimistic propaganda to uncomfortable truth and wishful thinking rather than tough action. It is likely to be a close race.

A bank in some European country such as Spain lends money but the collateral, Real Estate or commercial loans, are going bad. The bank then securitizes a large pool of this collateral and pledges it at the ECB to receive cash. In many cases to take the pool the country has to guarantee the debt. So Spain, in my example, guarantees the loan package which is then pledged at the ECB and is a contingent liability and which is not reported in the debt to GDP ratio of the country but nowhere else that you will find either. “Hidden” would be the appropriate word.  Then as time passes the loans get even worse so that the ECB demands cash or more collateral because they will not be taking the hit; thank you very much. The bank cannot afford to post more collateral so that the country, Spain, must post the collateral and add an additional guarantee for the new loan or they must post cash which is oftentimes the case.  Consequently as time passes and more cash has been spent the country, Spain, begins to run out of capital and the 10.6% deficit figure, that Spain announced recently, is not anywhere close to the actual reality so that they will get forced to officially borrow more money from the ESM as the sovereign guarantee of bank debt becomes unsustainable.

The Illuminati were amateurs. The second huge financial scandal of the year reveals the real international conspiracy: There's no price the big banks can't fix. Conspiracy theorists of the world, believers in the hidden hands of the Rothschilds and the Masons and the Illuminati, we skeptics owe you an apology. You were right. The players may be a little different, but your basic premise is correct: The world is a rigged game. We found this out in recent months, when a series of related corruption stories spilled out of the financial sector, suggesting the world's largest banks may be fixing the prices of, well, just about everything.

Bulls are still in charge of markets despite the shallow 2 to 3% correction the previous week. The conundrum for most investors remains, where else are you to put your money despite obvious risks and deceptive conditions? The Fed is forcing people into stocks, period.

Succinctly summarizing the positive and negative news, data, and market events of the week...