Tuesday 11 October 2011

A Binary market: Credit and Equity

Further to yesterday's piece, here is some reflection on speaking to several senior city economists and Bankers this week.

All are terrified of the position that we are in with the Eurozone. The Euro going down will cause a -10% GDP recession across Europe lasting at least 3 years. Over e1.2 trillion will be wiped out during that time - along with many Banks. The European Governments will have to step in and support the banking system with unlimited free money - which itself may prove a tipping point for fiat currency as people realise there is no backstop for this.

The UK will of course get heavily dragged down, as is widely published, the UK exports more to Ireland than the BRIC's. Ireland will go down with Europe and so the UK gets landed with a heavy recession and 4 bust international Banks.

Who knows what the Equity markets will do - but the Credit Markets point the way, already pricing in a catastrophe that should have equity markets 15% lower than they are.

On the plus side, the magnitude of the disaster outlined above has really come home to the European leaders. MerKozy does not want to be the leader who broke Europe. Greece should not cause all Europe to fail, Italy and Spain, whilst in difficult trouble are not Greece. So there is some confidence that a deal will be struck. The new idea of a leveraged ETSF has gone down well....

BUT, all agree that the G20 meet in mid-November and a deal needs to be struck by then, not necessarily ratified, but struck in principle with difficult parties like Holland and Czech Republic signing-on. Time is short because that is one month away.

Success is another 2 years of flatlining and paying down the debt accrued from the years of plenty; failure is to repeat 2008, this time with no fiscal stabilisers - a binary outcome.


Anonymous said...

Re: Ireland Doomed.

They have a young highly educated workforce. They have cut public salaries and pensions. They have a tax surplus, lots on inward investment and a lower tax rate that other EU countries.

Where does that leave us then.

Old BE said...

Agreed with anon the quiet story is that while Greece has been noisily demanding ever more free money from the developed world, the Irish have been restoring their economy to health the hard way.

This is what Britain should also have been doing but keeping the pound softened the blow and reduced the urgency.

Paul said...

So it seems that the risks to Europe from Sovereign debt is much greater than that from bank failures due to bank mismanagement. Given that European politicians have been eager to regulate banks to reduce the risk of failure, I look forward to them placing restrictions on their ability to run up sovereign dept. For example, a government wanting to run a budget deficit above 5% of GDP must hold a referendum across all the EU countries first, to ask permission, for example? That would help long term stability.

Budgie said...

BE said: "This is what Britain should also have been doing but keeping the pound softened the blow and reduced the urgency."

Exactly so.

As for the euro there are only two ways out of the mess:
1. Dismantle it in an orderly fashion;
2. Have full fiscal union.

Bigger and bigger loans will not hack it though they may buy time. The real problem is the EU elite will think a big enough EFSF solves the problem, so they won't get real and implement one of the two options above. If they don't this is going to drag on for years and be a lot worse in the end.

Sean said...

And the cost of the austerity the following years?

The euros are people who are used to having their arses cleaned for them, the idea they will shift a couple of gears and knuckle down and take on the Brics is not really a goer is it?

Too old and no children = Zero growth and 100% writedowns

hovis said...

Binary outcome - as you know I think its the worst of the two bad ones on offe that will out. reaction to event will be too slow - till now it has been a phoney war.

BE: The Irish economy didnt have underlying structural issues unlike Greece. They would have had much of a problem if their idiot political class hadn't foolishly decided to bail out French and German banks to show what good Europeans they were. The Greeks havent damanded free money and they certainly haven't received any.

Sean: And we dont? Do you realy think that costs would/will fall in UK to allow wages to fall far enough that we can compete with BRIC wages without serious civil disorder?

Sean said...

So flush the banks and their debts down the toilet and don't burden the taxpayer. Keep govt tax and reg costs down and let the market work, then you can compete, but only if you have the right profile of workforce. fifty plus and no kids is not that profile.

Last time I looked the UK is on course for 80 million and we are in he middle of a baby boom...I will thank my immigrant wife for saving the nation for ya.

Ryan said...

Ireland working itself out of a crisis? Its deficit is now 30% of GDP. It losing 50,000 taxpayers a year to the UK and Australia. Unemployment is through the roof. Any growth it is seeing is relative to 2010 when its economy was in total freefall. Its GDP figures are in any case seriously misleading because they imply Ireland as being 15% more productive than Germany - hardly likely but since the GDP figures don't take into account outsourced production but do take into account government spending you can see where they aree coming from.

Ireland is totally f*cked, but the Irish will do OK because they will just get up and leave.

Old BE said...

Hovis: have you forgotten the huge amounts of "structural funds" thrown at the Greeks on top of the money they "borrowed" but are now refusing to pay back?

However I was mostly talking about citizens/voters who were quite happy to see public money being thrown about like soma while also thinking that not paying taxes was The Right Thing To Do. The same citizens/voters are now permanently on strike against the reductions in the public deficit.

Timbo614 said...

Having seen the latest news and timing for meetings, I'm sticking with my forecast of tits-up week at the end of October. Lining up nicely.

Ryan said...


I would point out that whilst the popular press have been emphasising Greek unwillingness to pay taxes, this was not a big problem until Greece joined the Euro.

The fact is that the Greek economy ran into trouble shortly after joining the Euro for two reasons - firstly it could no longer compete with non-Euro nations on its doorstep like Turkey. Secondly it resulted in capital flight, with Greek investors pouring their new Euros into Germany and other countries more likely to give them a good return.

As a result of these real underlying problems the Greek government embarked on a programme of Keynsian public expenditure designed to buy time while the underlying problems hopefully melted away. The Olympics spending was a convenient part of this programme. Of course it didn't work, as long-term Keynsian solutions never do.

Net result is that Greece is now up to its ears in debt and the underlying problems with the Greek economy are actually far worse. The longer Europe persists in forcing Greece into the Euro the worse the problems will become. The EU could actually be the cause of the deaths of millions of Greeks due to the severe unmitigated austerity programme. The Greeks are starting to realise this - one union described Greece as becoming "a colony run for foreigners".

Greece cannot go on being part of the Euro. It is killing Greece. It cannot compete with a currency whose exchange rate is set by the success of BMW and Mercedes in another country. Don't let the immediacy of the Greek debt problem distract you - the real problem is Greece's inability to compete within the Eurozone. The EU simply refuses to wake up to this. All the time it refuses to wake up to reality the worse Greek problems will become. The EU is driven by its determination to force its power on all Europe. It cannot give up on its dream of European domination, and it won't let the deaths of Greek children stand in its way.

CityUnslicker said...

Great comments all. Shame mine are still not appearing.