Posts Tagged ‘Greece’

Political analysis required for investment decisions

Sunday, May 20th, 2012

We haven’t been writing for quite a long while and our dear readers may wonder why. One of the reasons is because today, economic and investment outcomes are increasingly being determined by politics instead of economics. Since we are no political analyst, we have very little to say. Back in 2006, when we first started this blog, we brought our readers through with great expositions on economic theory, particularly from the Austrian School of economic thought. Back then, economic analysis was the key to foresight. Today, the environment is different?there is a rising trend of government interventions, which results in more unintended consequences, which in turn led to more interventions. As Marc Faber said, having brilliant economic and financial analysis is not enough nowadays; we also need to enlist the help of political analysts in order to anticipate the next move by politicians.

As we all know, after months of calm in the financial markets, fear and panic are returning again, thanks to political upheavals in Europe. In this video, Stratfor made a very good point regarding the solution to this problem:

So, when ANZ’s CEO reckons that a euro-zone breakup is likely, he is in effect making a political judgment, which isn’t what bank executives are supposed to do in the first place. But we live in interesting times anyway, so this is hardly unreasonable. So, what will be the economic outcome for us in Australia should that happen? We don?t know but one thing we are sure: the euro-zone breakup is the most anticipated crisis. We have been talking about Greece since February 2010 (see European politicians hammered from both sides) and had repeatedly warned that the Greek crisis was far from over. So, we are not so concerned about this. That is not to say that we aren?t concerned at all, but we are saying this to remind our readers to keep things in perspective.

What we are more concerned are the unexpected and unanticipated mishaps. That could be war, geo-political tensions, which the financial markets are currently underestimating the likelihood. We have to include the economic (or rather, political) situation in China. It is well-known that China intends to transition its economy away from investment towards consumption. That will definitely result in Chinaslowing down and paring back their demand for Australia?s commodities. But as we said before, What Black Swan can hit China?, this too is also highly anticipated. But take note, the slowdown in the Chinese economy is a political event. The real estate crash that is happening inChina right now is an act of political will by the Chinese government. A lot of Chinese property developers are in financial trouble today because they failed to anticipate the determination of the Chinese government to burst the real estate bubble. Previously, the Chinese government was weak with regards to reining in the bubble and as a result, they lacked credibility when they announced the latest bubble-fighting policies. But unfortunately for the property developers, the Chinese government was serious this time and that was the Black Swan for them.

Regarding China, the million dollar questions that we would like to know are:

  1. Will the slowdown of the Chinese economy veer outside the designs of the Chinese government (i.e. crash)?
  2. When that happens, the Chinese government will definitely intervene. The question is, will they be successful in arresting the unanticipated crash?

In Australia, we already have our hands full dealing with the stress that is currently affiliating our economy (due to the effects of Peak Debt and the planned Chinese economic slowdown). A Chinese economic crash will be the trigger that breaks the straw.

Bad luck for investors- confluence of two headwinds

Thursday, May 6th, 2010

For those of you who are active traders/investors, you can surely sense that the feel of fear is coming back to the financial markets. The more prominent narrative for this fear is Greece (plus Portugal, plus Spain). It was just less a month ago that the financial markets were shrugging off the possibility of a Greek default (see Is the Greek debt crisis over?). Back then, investors were ?satisfied? with just a ?40-45 billion ?bailout? package. Now, according to the narrative of the media, even a ?100+ package is not enough to ?satisfy? investors. Not only that, the contagion is now spreading to Portugal and even Spain. So, does it mean that in less than a month, the financial markets suddenly see the light that Greece cannot pay its debts?

That goes to show that the financial market is very often illogical and irrational. When you look at the big picture, it should be clear that this is a deep-rooted problem that cannot be solved with a meeting. As we wrote in All quiet on the Greek front?,

But make no mistake, this story is like a trench warfare that will play out over a period of years (see Currency crisis: first countries in the line of fire- PIIGS). It will engulf more than Greece- vulnerable  countries include Portugal, Italy, Ireland and Spain.

The financial markets, being irrational as it is, will alternate between fear and optimism. We wouldn?t be surprised if this current bout of fear turn back to optimism after another high-level meeting/announcement will appear to ?solve? the problem. Then perhaps some time later, another bout of panic will return. In a way, this is like ?trench warfare? in which neither side is able to gain ground permanently, as they grind each other down. In the same way, the forces of deflation and inflation will battle each other, as money printing (which is the only way out of this crisis) will grind down the value of paper money (euro).

For Australia, there is another headwind- the coming slowdown of China. Marc Faber even go as far as saying that China is likely to crash in 9 to 12 months. Since the global economy is already battling the crisis in Europe, a crash in China will be another serious blow.

This is just bad luck for those who are holding long positions! So, what if China crash? Keep in tune!

Is the Greek debt crisis over?

Sunday, April 18th, 2010

When you read the latest statement on monetary policy decision of the Reserve Bank of Australia (RBA), you will find that they believe that the Greek sovereign debt crisis is contained for the moment:

The concerns regarding some sovereigns appear to have been contained at this stage.

The language is reminiscent of the start of the sub-prime mortgage problems. Currently, it seems that the global financial markets are shrugging off the possibility of a Greek government debt default, which has a wider implication on the Euro as a currency, which in turn has a wider implication on the global financial markets (see All quiet on the Greek front?).

But dear readers, do not be fooled by this apparent calm. Sure, the concerns looked ?contained? but the problems are still simmering. To let appreciate this situation, look at the following facts:

  1. Greece has to pay 4% more for their debt than Germany, the most credit-worthy nation. That?s roughly twice the margin from January 2010, at the height of the financial market jitters.
  2. The most recent attempt by the Greek government to raise money was very undersubscribed.
  3. Greece needs around ?50 billion in 2010, of which around ?25 billion is needed by June.
  4. After 2010, the Greek government needs to refinance its debt at 7-12% of its GDP.
  5. Greece budget deficit currently sits at 12% of GDP and must be financed as well.
  6. Greek government debt is forecasted to be over 150% of GDP by 2014.
  7. The current ?bailout? package by the EU and IMF is around ?40-45 billion, which is short of what the Greeks need at ?50-75 billion.
  8. The ?bailout? package requires:
    1. ? that Greece must exhaust its ability to borrow from the financial markets first before accessing the package.
    2. ? unanimous agreement among EU members.
    3. ? the debt will be provided at market rates, rather than on concessionary terms (although under new proposals full market rates will not be used).
    4. ? full participation of the IMF, which means the IMF will have a say in the (usually stringent) conditions for the loan.
    5. ? meet Germany?s condition that the EU framework for future bailouts be changed.

As you can see, the Greek problem is going to be more like a trench warfare than a blitzkrieg. It will probably take years, taking down lots of casualties on the way.

Mind you, Greece is not the only country. There are other countries like Portugal, Ireland, Italy, Spain and UK who are going to face the same problem over the next few years. The question is, while the trench warfare is going on in the Greek front for the next couple of (or few) years, can the global financial markets remain orderly when one or more of the Portuguese, Irish, Italian, Spanish and British fronts are opened simultaneously?

Fingers crossed.

All quiet on the Greek front?

Sunday, March 14th, 2010

It’s less than a couple of months ago, financial markets around the world were panicking over Greek government debt default. Speculators like George Soros were probably short-selling Greek government bonds, which in itself will result in rising interest rates for the Greek government. That in turn would increase its debt servicing burden, which would make it even more likely for the Greek government to default. This is like the positive feedback loop that we talked about in Thinking tool: going beyond causes & effects with systems thinking. Those speculators holding Credit Default Swaps (CDS) will have a perverse hope of seeing a Greek Government default.

Today, it seems that this story is a non-issue for the market. Has the story ended?

We afraid this is just the beginning. The Greeks had merely just announced on an austerity plan and some of its people are taking to the streets in protest. As you can read from European politicians hammered from both sides, there will be many parts to this story. Much of the ugly political and legal sausage making process will be happening behind closed doors, which means you wouldn’t get to read them in the media. That will lull many into a false sense of calm.

But make no mistake, this story is like a trench warfare that will play out over a period of years (see Currency crisis: first countries in the line of fire- PIIGS). It will engulf more than Greece- vulnerable? countries include Portugal, Italy, Ireland and Spain. While the Euro may stage a counter-rally here and then, it is most likely to be in a secular down-trend.

As Marc Faber said, the Greek austerity measures will cripple the Greek economy:

Austerity measures may end up making the Greek economy weaker, which means tax receipts will be reduced. That in turn may even make it harder for the Greek government to service its debt. When that happens, you will see speculators moving in again, resulting in another panic quite some time later. This is what we will call the Part 1, Act 2 of the story.

In the meantime, even if the speculators’ hands are tied from touching Greece (by government regulations), they may be setting their sights at countries like Spain or Portugal. That’ll be Part 2, Act 1 of the story.

European politicians hammered from both sides

Tuesday, February 16th, 2010

As observers of what’s happening around the world, we find the spectacle of what’s happening in Europe as juicy as soap opera plots. With so many internal contradictions within the cast of characters, we can be sure the outcome will be unpredictable and explosive (literally). Even if the Greeks get bailed out tomorrow, you can be sure that there will be another episode in the drama that will throw a surprise twist to the story.

We will look at the first character in the cast- Germany. At the heart of the European Union is Germany. Without Germany’s economic strength under-girding the union, the euro-zone economy would only be a pointless rump. Under-girding the German economic strength is the Teutonic spirit of discipline and efficiency. The brutal efficiency of the Germans allowed their exports to increase steadily both as a share of total European consumption and as a share of European exports to the wider world. Reflecting the Teutonic discipline of the German people, most of them are against the idea of bailouts. As Most Germans want Greece thrown out of euro reported,

A poll for popular newspaper Bild am Sonntag found that 53pc of Germans wanted Greece to be expelled from the euro if necessary in the coming months. Two-thirds were adamantly against German money being put towards a bail-out of the troubled country, the paper also found.

Thus, any German politician contemplating a bailout on Greece will have to keep one eye on the public opinion. This is something that will be looming on the back of Angela Merkel’s mind during the negotiations for a bailout package.

German politics is only one impediment to bailouts. There are also legal impediments to bailouts. Article 104 of the Maastricht Treaty (and Article 21 of the Statute establishing the European Central Bank) actually forbids one explicitly. Thus, for legal reasons, a bailout cannot be called a “bailout.”

Yet, despite the reluctance of the German people to save Greece, the German banking system (and by extension, the European banking system) is reportedly to be exposed to Greece. This is another dilemma faced by the German government.

Contrast the Teutonic spirit of the Germans with the profligate and undisciplined ways of the Greeks. The Greek government’s budget crisis did not arise out of the blue. It was several years in the making. As European Central Bank Chief Economist J?rgen Stark said in an interview (see European Central Bank Chief Economist: ‘Everyone Is a Sinner at the Moment’),

An economy doesn’t lose its competitiveness overnight. Greece covered it up for a long time with an extremely generous spending policy. For example, consumer spending was stimulated with pay increases in the government sector. We here at the ECB were vocally critical of this development several years ago.

Today, we even heard from a foreign news report that the Greek government, with the aid of Wall Street, used Wall Street’s dodgy tactics of using currency derivatives to disguise loans. Not only that, there were accusations of the Greek government using doctored statistics to cover up their dismal economic performance. The rot was reportedly extended to the grass-roots level- Greek citizens as a whole, tend to under-declare their tax liabilities. We have no comment on how true these allegations were, but all these are indicative of the rot in the system.

Thus, from the German perspective, any rescues will have strings attached. In fact, the strings will be very stringent. The highly disciplined German people will undoubtedly not tolerate anything less. In practice, this may mean German control of the ECB and Greek fiscal policies. Whatever the outcome of the conditions imposed on a bailout, it has to be as unpalatable as possible so as to send a signal to the other profligate PIIGS countries (see Currency crisis: first countries in the line of fire- PIIGS) not to expect any moral hazard.

If only it is that simple.

The Greek people, on the other hand, are already protesting against any austerity measures to rein in their government’s budget deficits. As this BBC news article reported,

Thousands of Greeks have rallied against deficit-cutting measures during a national public sector strike.

The unions regard the austerity programme as a declaration of war against the working and middle classes, the BBC’s Malcolm Brabant reports from the capital.

He says their resolve is strengthened by their belief that this crisis has been engineered by external forces, such as international speculators and European central bankers.

“It’s a war against workers and we will answer with war, with constant struggles until this policy is overturned,” said Christos Katsiotis, a union member affiliated to the Communist Party, at the Athens rally.

We can imagine that should there be any German-style discipline imposed on them, the entire nation will descend into flames. This is something that will be looming in the back of Greek Prime Minister George Papandreou as he enters the negotiation table. Judging from the mood of the Greek people, they are ripe for the rise of a demagogue blaming their country’s woes on international ‘speculators’ and European central bankers. So, even if the Greek government accept the stringent conditions attached to a bailout, the Greek people will not. The question is, will the Greek government collapse as a result? Investors buying into the ‘good’ news of a Greek bailout may well be confronted with such a Black Swan event within a relatively short space of time.

So, would the path of least resistance be an excommunication of Greece from the euro?

Again, there are complications. Firstly, there is no clear-cut legal mechanism to ‘expel’ a nation. Next, the question will be what to do with the debt owed by the Greek government? Also, should that happen, what will the other PIIGS nations (that are next in the line of fire) think?

There are many twists and turn in this drama. That’s why, up till now, the only progress so far are announcements of solidarity and intention.

An economy doesn’t lose its competitiveness overnight. Greece covered it up for a long time with an extremely generous spending policy. For example, consumer spending was stimulated with pay increases in the government sector. We here at the ECB were vocally critical of this development several years ago.

Rating agencies doing the job of bond markets

Thursday, December 10th, 2009

Traditionally, the bond market is where governments are kept accountable. In the 1980s, after the inflation nightmare of the 1970s, we have the bond ‘vigilantes’ who watched money supply growth like hawks. Any governments that print money will be punished by the bond vigilantes selling government bonds, thus raising their yields.

Today, the bond vigilantes are neutered. Central banks (obviously we don’t have to name names here) are buying up their governments’ bonds to prop up their prices. This means government bond prices cannot fall. That in turn makes government bonds an attractive destination for those who wants to preserve their capital. The bond vigilantes cannot do their job of punishing irresponsible governments.

Long-term interests was supposed to be determined by the free market via long-term government bond prices. That is supposed to reflect the market’s belief about long-term price inflation rate and the governments’ ability to honour its debts. Today, with governments (via their central banks) sticking their dirty paws on the bond market, bond prices are useless indicators of the credit-worthiness of governments.

Now, we have to rely on credit rating agencies to do that job. This week, the Greek government was infamously downgraded by Fitch. Greek government debt is on par with junk bonds. S&P revised the Spanish government’s credit outlook to negative. Downgrades on bigger fish governments are coming. In fact, Moody is putting the US and UK governments on notice.

Lending at 3.4% for 10 years to the US government is the most mind-boggling stupid investment. Is the market that stupid? Or is it the work of the Federal Reserve?