If an EU Leader Says It, Don't Believe It

The 'Helicopter Economics Investing Guide' is meant to help educate people on how to make profitable investing choices in the current economic environment. We have coined this term to describe the current monetary and fiscal policies of the U.S. government, which involve unprecedented money printing. This is the official blog of the New York Investing meetup.

German leader Angela Merkel revved up the markets on Thursday by saying once again that she and the other EU leaders would do everything possible to save the euro. If traders realized how reliable previous official statements concerning the Eurozone debt crisis have been, markets would have experienced a major selloff.

When the debt crisis first appeared in Greece, Merkel said there would be no bailout and the Greeks would have to solve their own financial problems. ECB President Trichet made it clear that Greece wouldn't receive any special treatment. It wasn't long before they both backtracked on their public statements. On April 11, 2010, a €30 billion bailout was agreed to and this was raised to €45 billion on April 16th. By May 2nd, a total package of  €110 billion had been arranged. This amount was meant to fix Greece's debt problems once and for all. The Washington Post reported that IMF director, Dominique Strauss Kahn, and EU Commissioner Olli Rehn stated, "the plan would lead to a more dynamic  economy that will deliver the growth, jobs, and prosperity that Greece needs in the future". If there were a worst-forecasting-prediction-of-all-time award, both Strauss-Kahn and Rehn could be potential winners.

Not only did the Greek economy not prosper, but it went into a tailspin. Other claims made by the EU proved to be equally absurd as well.  As reported by BBC News, the Greek debt to GDP ratio was supposed to rise from 115% at the time of the bailout to 149% in 2013, when it would then fall. Instead it rose to 165% in 2011. Greece's budget deficit was expected to be down to 3% of GDP (the EU target rate that all members states are obligated to meet). If Greece is lucky, it's deficit will only be 7.3% of GDP this year. It is expected to rise again in 2013 however to 8.4%. So much for that.

Even though Greece missed the EU and IMF's projected targets by a mile, this was only possible because a much bigger bailout took place in 2012. Greece received an additional €130 billion  and got to effectively write off almost 75% of its government debt held by private bondholders (the ECB and IMF were exempt from the write down). Certainly Greece must be better off after €240 billion in bailouts and writing off a big part of its debt, isn't it? Well, no it isn't. Before the first bailout in 2010, Greece had around €300 billion in government debt. Just released figures indicate in now has €303 billion in debt. While debt is no lower, GDP has collapsed, falling over 9% in 2011 alone and currently on target for an over 6% drop this year. Unemployment has skyrocketed with the someone under 25 being more likely not to have a job than to be working. By almost any criteria you wish to chose, the EU, IMF and ECB program has been a complete failure.

Now the EU and its partners are preparing to bailout Spain. Already a €100 billion loan has been committed for Spanish banks. This doesn't include any funds to bailout the government. How bad is the situation in Spain?  Well, Reuters has reported that one of Spain's regional mayor robbed a number of supermarkets last week and distributed the stolen food to the poor. As a member of  a regional parliament, he is immune from prosecution. Government stealing from those that have is of course nothing new, but apparently in Spain there's no attempt to hide it.

It looks like Spain will be asking for a full-fledged bailout soon. The EU will then directly take over its finances.  The total bailout could easily involve a trillion euros or more, unless some EU country stops it after realizing the damage this is going to cause the EU itself, let alone Spain. The long-term implications are likely to be quite ugly for both.

Disclosure: None

Daryl Montgomery
Author: "Inflation Investing - A Guide for the 2010s"
Organizer, New York Investing meetup
http://investing.meetup.com/21

This posting is editorial opinion. There is no intention to endorse the purchase or sale of any security.

The EU May Have Reached Its Bailout Limit

The 'Helicopter Economics Investing Guide' is meant to help educate people on how to make profitable investing choices in the current economic environment. We have coined this term to describe the current monetary and fiscal policies of the U.S. government, which involve unprecedented money printing. This is the official blog of the New York Investing meetup.

Today, yields on Spanish 10-year sovereigns tested their yearly high yield of 7.28%, while Italian rates reached 6.16%. This was after funds for the Spanish bank bailout were approved by the EU, although the money won't be going directly to the banks. Earlier in the week, the IMF admitted that  the only solution to Europe's debt woes was to run the printing presses at full speed.

The situation in Spain is ugly and getting worse. Unemployment is almost 25% there and the country is in a recession. The Spanish economy is dependent on public spending and building empty houses that no one buys. The government has recently announced severe spending cuts and higher taxes, both of which will lower future growth. Yet, until today Spain was forecasting GDP growth of 0.2% for next year. It now thinks that GDP will decline by 0.5% in 2013. This is not just an optimistic scenario; it's a Harry Potter fantasy scenario. As is the case with Greece, Spanish economic and financial numbers cannot be trusted. Greece in the early stages of its bailout also produced optimistic projections of how easily and quickly everything would be fixed. Instead, its financial problems escalated out of control.  The same outcome should be expected in Spain.

Bailed-out Bankia is a good example of the how reliable the books are for Spanish banks. Bankia claimed to have earned a €300 million in profits in 2011, but in late May revised that to a €3 billion loss. Now Spain is in line for a €100 billion bailout from the EU, although it has claimed that it needs less. Based on how Bankia did its accounting, Spanish banks are likely to need more, maybe ten times more than that amount. This does not include money for bailing out the bankrupt Spanish government.  

Originally, the EU planned on providing the bank bailout money (structured as a long-term loan) directly  to Spain, who would in turn distribute it internally. When this caused Spain's sovereign debt rating to be downgraded, creating greater fiscal problems for the struggling government, the EU then decided to route the loan directly to the banks. Yesterday, the German parliament refused to go along. They were only willing to approve a loan directly to the Spain itself. It wasn't easy to get even that passed. Twenty-two members of Angela Merkel's coalition voted against it. The leader of the Free-Democrats described the bailout as "a bottomless pit". It doesn't look like German legislators have an appetite for any further bailouts and this is bad news for Spain and Italy as well.  

The IMF has an idea of what to do instead, but its solution could hardly be described as constructive. In a report issued on Wednesday, the organization essentially advised the EU to engage in every type of money printing possible, do a lot of it, and to start doing it immediately. The ECB has already expanded its balance sheet by more than the U.S. has and it hasn't solved the EU's problems so far. Massive money printing as suggested by the IMF would debase the euro significantly. So, in order to save the currency union, the currency it issues must be destroyed. Somehow, there seems to be a logic flaw in this line of reasoning (sort of like, a debt crisis can be solved by incurring more debt).

The bailout news today was disastrous for Spain and Italy. The Spanish IBEX index was down 5.79% dislocations  — a mini-crash and the worst drop in the two years. The Italian market was down 4.4%. The euro hit a new yearly low. The ETF FXE traded down to 120.78. This is below its bottom during the Credit Crisis, but still above the 2010 low made when the debt crisis first appeared. As the situation continues to unravel, more selling should be expected.


Disclosure: None
Daryl Montgomery
Author: "Inflation Investing - A Guide for the 2010s"
Organizer, New York Investing meetup
http://investing.meetup.com/21

This posting is editorial opinion. There is no intention to endorse the purchase or sale of any security.

Is Greece About to Default?

The 'Helicopter Economics Investing Guide' is meant to help educate people on how to make profitable investing choices in the current economic environment. We have coined this term to describe the current monetary and fiscal policies of the U.S. government, which involve unprecedented money printing. This is the official blog of the New York Investing meetup.

Yields on two-year Greek governments reach 46.84% last Friday. This is roughly comparable to yields on Argentine bonds in early December 2001 -- only a month before the country defaulted on its debt.

Similar interest rates occurred this spring in Greece before the second bailout package was put together. The bailout saved Greece from defaulting back then, but the bailout is now falling apart while the fiscal situation in Greece continues to deteriorate. The risk of default in the near future has returned, but the will to stop it this time around is much weaker than in the past.

Finland and a number of other countries have already demanded collateral from the Greek government for their contribution to the bailout and this reduces the money available that can be used by the Greek government to pay off its debts.  Then talks between the Greek government and the ECB, EU, and IMF broke down last Friday (September 2nd) because Greece admitted it will not meet its deficit reduction and privatization targets for the year. This potentially puts the next $8 billion tranche in bailout payments in jeopardy. The talks are supposed to resume in 10 days. Even more challenges will have to be faced this coming week.

Citizens of the fiscally solvent EU countries are getting tired of paying to support what they see as the profligate spending habits of the EU's weaker economies.  The bailout efforts have been lead by German Chancellor Angela Merkel, but support within her country has never been strong for them. Her ruling party has lost six regional elections this year, including one in her own home state this weekend. Any more pro-bailout efforts will only further weaken her politically.

At the same time that efforts are taking place to undermine the second bailout, more and more money is needed by Greece. Like many other heavily-indebted countries in the past, Greece is dealing with a destructive feedback loop of inexorably escalating interest costs that cause its debt to continue to rise regardless of what efforts it makes to control it. The Greek government claimed a debt to GDP ratio of 120% in 2010 during the first bailout talks. It is now estimated to be as high as 160%. Interest payments on that debt could be as high as 24% of GDP at current rates (the 10-year bond is yielding over 18%). Despite the first bailout and now the second bailout, interest rates keep going higher, the national debt keeps getting bigger and the problem keeps getting worse.  

Since someone elsewhere had to lend all the money that is in danger of not being paid back, Greek debt problems are not isolated to Greece, but are having a major impact on the big banks in France and Germany (the real reason Germany and France are so anxious to bail out Greece). The debt problem moreover is being spread through contagion to Spain and Italy, both of which are much larger economies and which are ultimately "too big to bail". This is casting a wider net of impacted banks. By the last week of August, credit default swaps (insurance on bonds) were rising to crisis levels for the Royal Bank of Scotland, BNP Paribas, Deutsche Bank and Intesa Sanpaolo. The problem seems to be a shortage of liquidity, just as was the case in the fall of 2008.

It has also been reported that many European financial institutions have losses on bond holdings, despite the ECB actively supporting Spanish and Italian bond prices . The global banking system has approximately $2 trillion in exposure to Greek, Irish, Portuguese, Spanish and Italian debt. On Monday, the yield premiums on Italian and Spanish 10-year government bonds over the equivalent German Bund hit their highest in a month. Italian bonds traded at 5.5%, well above the 5% rate at which the ECB has been buying recently. Italy has to roll over 62 billion euros in bonds by the end of the month.

Stocks have of course been negatively impacted by the problems in Greece and this will continue until there is some resolution. The German DAX had another mini-crash on Monday, falling 5.28% or 292 points. The drop in Paris was just under the 5% mark that defines a crash day. London held up somewhat better as it has during the entire crisis so far. U.S. markets were closed.

At this point, the only thing that can prevent a default by Greece is if its entire debt is bailed out by the EU and IMF (this would require a third and even fourth bailout package). This is not going to happen. The second bailout itself is highly unlikely to go through as planned. Without it, Greece will default this fall.  With it, a little more time will be bought before a third bailout is needed - and support for that measure doesn't currently exist and isn't likely to exist. The important question concerning Greek default seems not to be if, but when.

Disclosure: None
Daryl Montgomery
Author: "Inflation Investing - A Guide for the 2000s"
Organizer, New York Investing meetup
http://investing.meetup.com/21

This posting is editorial opinion. There is no intention to endorse the purchase or sale of any security. 

The Bull Heard Around the World

The 'Helicopter Economics Investing Guide' is meant to help educate people on how to make profitable investing choices in the current economic environment. In addition to the term helicopter economics, we have also coined the term, helicopternomics, to describe the current monetary and fiscal policies of the U.S. government and to update the old-fashioned term wheelbarrow economics.

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Almost every market throughout the world rallied on April 1st. In the morning (New York time) things didn't look promising. While most Asian markets had closed up nicely, all European bourses were down well into their trading day. Stocks in New York then gapped down sharply. Within a relatively short time, both New York and Europe reversed and then closed with good numbers. Today has been even more bullish. In Asia, the Hang Seng rose over 1000 points, closing up over 7%. The Nikkei went up over 4%. The Dax in Germany closed up more than 6%.

The European rally was helped by the ECB cutting interest rates by 25 basis points to 1.25%. They are also considering buying up toxic assets which the Fed in the U.S. has been doing for sometime now. At the G20 meeting in London, France and Germany pursued stronger financial regulation aimed at tax havens, hedge funds and rating agencies. European leaders said they had no need for stimulus plans because their more generous welfare systems kick in automatically with benefits for more people as the economy deteriorates. Obama kept emphasizing that 'we are all in this together'.

Meanwhile in the U.S., the financial accounting standards board FASB gave companies more leeway when valuing assets and reporting losses, providing a potential boost to battered banks' balance sheets. The mark to market system, will now be replaced with a mark to fantasy system. FASB made its move because of pressure from Capitol Hill. Our elected representatives are demanding rules that help companies mislead investors. In case you had any doubt whose side they are on, it should be pretty obvious with this action. If this was actually something that worked, Enron would managed to have avoided imploding and still be in business because it lied about its financial numbers. The banks may be able to carry on however since they have an apparently unlimited supply of freshly minted federal money available for continually bailing them out. Of course, like every other free lunch program the Feds have come up with, the costs for this one will be heavy indeed.

Money has flowed into stocks globally in the last two days and this indicates the big money is supporting the current rally - at least for awhile. The media has been filled with reports in the last week about how the rally was going to end any moment and investors had better get out. When it comes to deciding whether or not to listen to some know nothing windbag media pundit or the market, always chose the market. There is still a lot of danger in the financial system however with a lot more blow ups awaiting us. Enjoy the party while it lasts, but don't stay too long. The U.S. Employment Report tomorrow may trim the sails of this rally temporarily.

NEXT: U.S. Unemployment Rises to 15.6%

Daryl Montgomery
Organizer,New York Investing meetup
http://investing.meetup.com/21

This posting is editorial opinion. Like all other postings for this blog, there is no intention to endorse the purchase or sale of any security.