The Bank of International Settlements (BIS) analyses a country’s debt by three categories – corporate, government and household. The BIS did a report in September which showed that there were thirteen countries in the developed world whose debt was beyond the threshold in at least two of the aforementioned categories. Time was when markets could just worry about one or two countries. Unfortunately, with the world edging towards a financial precipice, those markets are now going to have to concentrate on many more nations than usual as the numbers are just too large to contemplate.
The refinancing of certain countries will be amongst the biggest the world has ever seen. Also, it should be remembered that this sum, whatever it ends up being, does not include having to recapitalise the banks or cover future payments such as pensions, etc.
Egan-Jones, a credit rating company, pointed out at the end of last year that Greece could not support more than EUR40 billion in taxes and that is “why debt holders are likely to face a 90% haircut… And unless trends reverse, Spain, Italy and Belgium will follow.”
When this happens we will have the ultimate Catch 22. Will Germany allow the ECB to print as much money as it likes thus allowing the weaker members of the eurozone to pay off their debts? If they do then they will go against the German Constitutional Court which will not allow it as it remembers the Weimar Republic and what happened then. Also, the Bundesbank would be very much against it as it does not think printing money is the solution as it would bring unwanted inflation to Germany – something which is anathema to that country.
Thus, the choice is staring Germany in the face. Either, in the words of Nike, “Just do it” and start printing money as fast as possible in the hope it can save the Euro or, as Liam Halligan wrote recently, accept the fact that the “Euro is an incoherent nonsense which, in its current form, is doing far more harm than good.”
Behind the scenes there have been signs that some EU officials are preparing the way for some of the weaker states to leave the eurozone and so reform the Euro around a small but healthier group of countries. Admittedly, this would be expensive but, in the long run, may be cheaper than trying to get the poorer EU nations to follow a stricter fiscal and monetary policy a la Germany.
It is difficult to forecast what is going to happen from here on as politicians are getting in the way of common sense. Given this, our best ‘guess-timate’ is that the problems that are going on in Spain at the moment, and have already happened elsewhere in Europe will only get worse and will occur in other European countries. There will have to be, at least, a large scale restructuring of the Eurozone based on Germany or preferably the complete dismantling of the Euro.
In summary, current indicators suggest that at the very best global growth will be slow this year. There is a risk that the Federal Reserve will have another drive to pour liquidity into the system to be followed by the ECB having to act as lender of last resort. If this does occur asset prices will rise, but the impact of such monetary ease on the real economy will be anaemic. It is likely to be followed by a crash in late in 2012 or in 2013.
The more likely outcome is that the ECB continues to operate under the Bundesbank mantra providing token relief to the weak members. Europe will remain in recession. The US economy, despite any action by the Federal Reserve (pushing on a string) will have very slow growth at best but will return to recession in 2013. Asia will be affected by banks in Europe having to raise capital together with much reduced exports outside the region. And in China growth will be slower so experiencing a reduction in exports. World industrial production will be very weak with a recession in 2013.
This period will be fraught with danger as the world de-leverages after a generation of governments promising more than they can pay for and in many countries households borrowing more than they can afford. This is a bad enough environment but it is made worse by society ageing in so many countries: there will be far fewer workers to support retirees.
Professors Reinhardt and Rogoff have well documented what happens to economic activity in their book, ‘This Time is Different: Eight Centuries of Financial Folly’: “The aftermath of systemic banking crises involves a protracted contraction in economic activity and puts significant strains on government resources.” More recently they add that you can’t get rid of debt quickly and you cannot get rid of it nicely. The bullet has to be bitten meaning that debt must be repaid rather than one institution lending to another so that the latter can repay its debt.
To be continued…
|The above data and research was compiled from sources believed to be reliable. However, neither MBMG International Ltd nor its officers can accept any liability for any errors or omissions in the above article nor bear any responsibility for any losses achieved as a result of any actions taken or not taken as a consequence of reading the above article. For more information please contact Graham Macdonald on [email protected]|