Commentaries

from Rolfe Winkler:

Could England be headed for a “sudden stop?”

From Landon Thomas at NYT: In Britain, visions of Japan's decade of stagnation

Britain may finally be emerging from recession, but many analysts warn that it is a false dawn. In fact, they argue, the economy here is so ravaged by growing debts and ruined banks that it could well be following in the steps of Japan’s lost decade of the 1990s.

I still don't understand why we refer to Japan's "lost decade," singular. The country is now moving into its third consecutive lost decade.The Nikkei is still at 1984 levels.

But back to the UK: the NYT piece quotes the latest research from Variant Perception (no link). I got it in my inbox earlier this week and it's a fascinating (though not pleasant) read. Notably, they talk about the outside possibility of a "sudden stop" event. As mentioned in this space before, a "sudden stop" is what happens to emerging economies when they lose access to capital markets. Confidence is lost in the government's ability to pay back debt and everyone races to get out of the system. See Argentina.

The problem is acute for indebted emerging markets because they don't borrow in a currency they can print. So, the argument goes, you can't have a sudden stop in Britain, or the US, because we print the currency in which our debt is payable.

I'll let the VP guys take it from here:

The UK’s fiscal situation is in its most precarious state for 30 years. The Bank of England has responded by cutting rates to historic lows. This has merely bought time. Debt in the household sector remains at its highs, and enormous relief has been provided to many overleveraged mortgage holders who hold tracker deals [i.e. teaser-rate mortgages]. They have been able to ride out the recession so far without defaulting. As their trackers expire and they reset to higher rates they will face acute problems.

Usually a government can quickly return to fiscal vitality after a cyclical upturn. The UK will find this difficult. Structural problems such as a heavy reliance on the business and finance sectors and a consumer that will eventually have to deleverage will provide strong headwinds to any sharp turnaround in revenues.

To pay for the shortfall in income, the UK government has stepped up bond issuance to generational highs. This is not sustainable and taxes will eventually have to rise. However, there is a belief that raising taxes will increase revenue. We believe the opposite is true, and the state will have to borrow more than is projected, for longer than is hoped.

The Bank of England has embarked upon a quantitative easing program to support the gilt market. The sheer size of the initiative raises the question of whether it will be able to reverse it in a stable and orderly manner. Any trip-ups in its unwind would raise yields considerably.

The structural problems in the domestic economy, and difficulties in other economies across the globe, will impede the prospects for sustainable growth in the UK. Debt will continue to grow, and the creditworthiness of the country will continue to weaken. Investors will be more and more reluctant to meet the borrowing needs of the UK.

If the situation continues to deteriorate there is a non-negligible possibility the UK could face a ‘sudden stop’ in capital inflows. A debt crisis would precipitate a currency crisis. This would not be especially unusual for the UK: during the postwar period, there has been one on average every 15 years. These have happened like clockwork.

The possibility of this course of events unfolding is small, but not negligible. If a new government is formed next year, perhaps they will be able to enact the policies that will reduce the deficit and restore confidence in the financers of the UK deficit. We believe, though, that to say the UK will not have a debt crisis is complacent and pays no heed to the past.

Should he stay or should he go? Miliband ponders

Should he stay or should he go?

British Foreign Secretary David Miliband could be Europe’s first foreign minister in all but name, with one of the most influential jobs in shaping the place of the 27-nation bloc on the world stage, if he is willing to risk leaving British politics for the next five years. That’s a big if.

Miliband is half of a “ticket” concocted by French and German diplomats to fill the two new top jobs created by the Lisbon treaty. The other half is Belgian Prime Minister Herman van Rompuy, the preferred candidate for president of the European Council. Officially, Miliband says he is ”not available” and is backing Tony Blair’s forlorn bid for the presidency. If he turns the role down, it could well to go to former Italian Prime Minister Massimo d’Alema.

The High Representative for foreign and security policy, with a big diplomatic staff, a multi-billion-euro budget and the additional position of senior vice-president of the European Commission, will arguably be more powerful than the European Council president, whose role is largely to prepare and chair quarterly summits. Miliband would bring dynamism, an incisive intellect and inspiring oratory to the job.

At 44, he is seen as the natural next leader of the Labour Party if, as expected, Gordon Brown loses the next general election. Given the average length of Britain’s political cycle since the 1980s, the centre-left party probably faces at least two parliamentary terms in opposition – roughly eight years. So Miliband would have time to burnish his international credentials in Brussels and return home before he turns 50, and before Labour has exited the political wilderness.

Another former Labour leader, Harold Wilson, famously said that a week is a long time in politics. Five years is an age. Other Labour politicians will fill the vacuum left by Miliband if he decamps to the continent. They may be less talented, but no one is likely to placidly keep the opposition leader’s seat warm until he is ready to make a triumphant comeback.

And don’t rule out smaller short-term considerations. A Miliband departure would cause an unwelcome by-election for Labour before the next general election.

Lower Opel costs to help government aid

General Motors’ decision to scrap the sale of Opel rests on the carmaker’s calculation that the hole in its European unit’s finances is not as deep as previously feared.

Governments should welcome the lower demands on taxpayers with open arms. But there is still some horse trading to be done to get everyone on board. 

GM’s chief executive Fritz Henderson is due to present his plans for Opel next week. He has good reason to be bullish.

GM’s previous forecast that Opel needs $3.3 billion to keep going until 2011 appears to have been sharply revised. Some in the industry think the amount required could be nearer 60 percent of that figure — some $2 billion.

Like other carmakers, European scrappage schemes and improved economic conditions have allowed Opel to significantly reduce its inventory. Cars that were sitting on the tarmac have been sold, putting much-needed cash back into the carmakers’ coffers.

Moreover, GM itself is doing better than originally expected in the United States since emerging from bankruptcy in July. This has given it the confidence not only to scrap the sale of Opel to a consortium led by Magna, the Canadian auto parts maker, but also to repay the remaining 900 million euros on a  bridge loan from the German government.

Earlier concerns about GM using U.S. taxpayer funds to prop up its units overseas seem to have eased. Henderson is now confident he can dip into GM’s U.S. pocket to shore up Opel.

SPD debacle shows agony of European centre-left

It was a black night for Germany’s Social Democrats. Their catastrophic general election score of just 23 percent was by far the worst since the creation of the Federal Republic in 1949. It was more than 11 points worse than their result in 2005, and nearly 6 points worse than their poorest post-war showing in 1953.(Picture shows party activists at SPD headquarters watching first exit polls on television)

Their shattering defeat was the latest in a series of debacles for the European centre-left since the onset of the financial crisis. Just when the social democratic outlook of a strong state to regulate and curb the excesses of the markets and protect workers from the rough edges of capitalism has made a comeback around the developed world, its original proponents are in disarray.

Why? Partly because the centre-left is blamed by its own voters for having embraced deregulation and globalisation without taking care of the losers of such policies. Partly because it lacks charismatic leaders of the calibre of Helmut Schmidt, Francois Mitterrand, Tony Blair or Barack Obama. And partly because new social and economic forces — the services sector and the knowledge economy — and new ideas — ecology and communitarianism — have moved the political goalposts.

France’s Socialist party has been consigned to opposition since 2002 and is deeply divided over personalities, policy and ideology. The British Labour Party, after a record 12 years in power, is deeply unpopular and looks doomed to lose a general election next year. The Italian left has not managed to mount a serious challenge to Prime Minister Silvio Berlusconi, despite scandals over the billionaire media tycoon’s sex life.

As in France, the SPD bled votes to the radical Left party, to the Greens, to the conservatives and to abstention. An estimated 2 million Social Democratic sympathisers stayed home. As many switched to the Left — a mixture of former East German communists and disenchanted former Social Democrats demanding red-blooded socialism and an exit from NATO and the European Union.

The SPD took the blame for unpopular curbs on unemployment benefits under former Chancellor Gerhard Schroeder, as well as raising the retirement age to 67 from 65 under the grand coalition with conservative Chancellor Angela Merkel. An election-day opinion poll showed 67 percent of SPD sympathisers believed the party had betrayed its principles on these issues.

The party now has a chance to regenerate itself in opposition. But it will share the hard benches with the more outspoken Left party, which scored a record 12.5 percent on Sunday, and the environmentalist Greens, who draw a lot of young and educated voters. The SPD’s electorate is shrinking or dying out — pensioners, trade unionists, manufacturing and public sector workers. Whichever way the party goes in opposition, it stands to lose as many voters as it wins back.

West raises stakes over Iran nuclear programme

President Obama and the leaders of France and Britain have deliberately raised the stakes in the confrontation over Iran’s nuclear programme by dramatising the disclosure that it is building a second uranium enrichment plant. Their shoulder-to-shoulder statements of resolve, less than a week before Iran opens talks with six major powers in Geneva, raised more questions than they answer.

It turns out that the United States has known for a long time (how long?) that Iran had been building the still incomplete plant near Qom. Did it share that intelligence with the U.N. nuclear watchdog, and if not, why not? Why did it wait until now, in the middle of a G20 summit in Pittsburgh, to make the announcement — after Iran had notified the International Atomic Energy Authority of the plant’s existence on Monday, after Iranian President Mahmoud Ahmadinejad had delivered a defiant speech to the U.N. General Assembly on Wednesday and after the Security Council had adopted a unanimous resolution calling for an end to the spread of nuclear weapons on Thursday?

Is this all part of Obama’s choreography to  build international pressure on Iran by getting Russia, in return for the dropping of plans to put a U.S. missile shield in Poland the Czech Republic, to threaten more sanctions against Tehran? A U.S. official says Obama shared the intelligence with Russian President Dimitry Medvedev at the United Nations this week and China had only just been informed. Did Obama try and fail to get Medvedev and Chinese President Hu Jintao — both in Pittsburgh — to join the three Western leaders on the podium? Or was his hand forced on timing by the fact that the New York Times had got wind of the Iranian nuclear plant and was set to publish the news on Friday?

The division of labour between Obama, Sarkozy and Brown was striking. The U.S. president sounded stern but his tone was measured. He stressed his commitment to dialogue and negotiation with Iran and to Tehran’s right to peaceful nuclear energy. He did not mention sanctions, let alone the possibility of military action. It fell to the Europeans to inject a tone of menace.

Sarkozy accused Iran of defying the international community and taking the world on a dangerous path, and said that unless Tehran changed course by December, there would be tougher sanctions. Brown charged the Islamic Republic with deception and said the international community had no choice but “to draw a line in the sand”, and that he did not rule out anything although sanctions were the preferred route. 

Will the latest disclosure on what Iran insists is a peaceful nuclear programme persuade Russia to renounce the sale of advanced S-300 anti-aircraft missiles to Tehran? Will it persuade China, which reaffirmed its scepticism about more sanctions this week and has begun supplying gasoline to Iran, to change its mind? The West sees Iran’s dependency on imported fuel as a key vulnerability.

Friday’s dramatic announcement was a clear effort to appeal to the world court of public opinion and maximise pressure on Tehran before the Oct. 1 talks, but there is no sign that the Islamic Republic’s leaders are even considering yielding on their nuclear ambitions. On the contrary, they seem convinced that the nuclear standoff will enable them to patch over deep internal divisions over the disputed June presidential election by playing the patriotic card.

Germany will have to change Opel deal after election

It looks increasingly clear that Germany will have to change its deal to aid carmaker Opel once Sunday’s general election is out of the way.

The European Commission has signaled to Berlin that promising 4.5 billion euros in loan guarantees to only one of the two bidders for General Motors’ European arm to preserve all four German production sites and most Opel jobs in Germany may breach EU rules on state aid to industry. EU regulators want to know why Chancellor Angela Merkel and four German states offered the money to back car parts maker Magna’s bid but not for financial investor RHJ International’s, and on what conditions. 

With Britain, Spain and Belgium’s Flanders region — all hosts to Opel production sites – crying foul, the EU executive is under strong political pressure to intervene. British Business Secretary Peter Mandelson has questioned the viability of Magna’s business plan in a letter to the Commission.  Brussels reaffirmed in a statement on Wednesday that Germany could not attach political conditions to the company’s restructuring plan or tie its hands. 

The European Commission will not accept that State aid granted under the Temporary Framework is conditional upon the implementation of a specific business plan, previously discussed and/or negotiated with Member States, which defines the geographic distribution of restructuring measures, without leaving to the beneficiary undertakings the possibility to revise their plans if necessary.

State funding under the Temporary Framework is meant to tackle the financing problems due to the credit crunch, and cannot be used to impose political constraints concerning the location of production activities within the internal market. The beneficiary undertakings must therefore retain full freedom to develop their economic activities in the internal market.

Even the Commission’s German vice-president, Guenter Verheugen, long regarded as the German car industry’s best friend, has told his countrymen that one EU country cannot be allowed to buy a favourable solution for its workers at the expense of another. He has offered the Commission’s help to bring all the Opel host countries together and work out a joint state aid plan for Opel to be monitored by Brussels.

In theory, that means Berlin ought to sign Magna and its Russian partner Sberbank a blank cheque which might lead to a plant in Antwerp or Luton or Zaragoza being kept open instead of an assembly line in Bochum, if the Belgian, British or Spanish site is more efficient. That would be hard for German taxpayers to swallow.

“Tobin tax” gaining ground in Europe

No longer just a hopeless cause for anti-capitalist activists, the idea of a global tax on financial transactions is gaining ground in Europe.

European Union leaders could not agree to put it on the agenda of this week’s G20 summit on reforming the financial system in Pittsburgh, but the leaders of France, Germany and the European Commission endorsed the concept. (more…)

Steinmeier’s recipe deceptively seductive

It was about as scintillating as a discussion among accountants, but Social Democratic challenger Frank-Walter Steinmeier outshone conservative Chancellor Angela Merkel in Germany’s only general election television debate.

True, Steinmeier failed to land the knockout punch he needed to overcome a 12-point deficit in opinion polls two weeks before the Sept. 27 vote. But he did score a points win that makes Merkel’s preferred option of a centre-right pact with the pro-business Free Democrats slightly less likely, and another glacial Grand Coalition of the two major parties more likely.  And that is concerning.

The centre-left foreign minister’s platform of a national minimum wage, executive pay curbs and switching off nuclear power is hardly a recipe to pull Europe’s biggest economy out of its deepest post-war slump.

In the current anti-capitalist mood, both leaders felt obliged to support regulating bankers’ bonuses, although Merkel made clear that, absent an improbable international accord, she opposed tough national rules that would drive business abroad.

On nuclear policy, Steinmeier has a point that investment in renewable energy could stall if Germany changes course and lets its atomic power stations keep working beyond 2020.

The idea of a minimum wage isn’t necessarily bad. The problem is the timing.

Contrary to liberal dogma, minimum wages do not necessarily destroy jobs or lower growth. Europe cannot hope to compete with China or India on pay, but only on know-how and quality. 

Time for Britain to close the GAPS

Britain’s asset protection scheme, invented to protect the banking system, is morphing into a bureaucratic monster. It’s time to kill it off. Though state support is still needed, there are simpler ways for the government to prop up its ailing lenders.

More than seven months after it was conceived, and five months after Royal Bank of Scotland and Lloyds Banking Group signed up to use it, details of the APS have still not been agreed. The sheer task of sifting through 585 billion pounds worth of loans to be insured by the government means any final agreement is months away.

The only winners from this mess are investment banks, accounting firms and the public sector, which has spawned another quango. The Asset Protection Agency is supposed to monitor the assets in the scheme and make sure that the banks — which are on the hook for only 10 percent of losses on insured loans above a “first-loss” portion — do not diddle taxpayers.

The APA has found an acting chief executive in Jeremy Bennett, a former Credit Suisse banker. But Bennett has let it be known he does not want the job on a permanent basis — hardly a ringing endorsement for the APA as it hunts for recruits.

The uncertainty is undermining the banking sector and delaying the economic recovery. Companies that have borrowed from RBS and Lloyds are struggling to renegotiate their debts because the banks want to know which loans will qualify for the scheme. Even once the scheme is up and running, the APA’s involvement could delay decision-making, forcing companies that might otherwise have been saved out of business.

Indeed, the entire concept of the APS as an insurance policy for banks is false, because insurance only makes sense if there is a reasonable chance it will not be claimed. Both Lloyds and RBS are rapidly burning through the 20-plus billion pounds in “first loss” buffers they negotiated in the spring and are likely to start demanding government cash some time next year. This will reveal the real function of the APS, which is for the government to recapitalise RBS and Lloyds through the back door without resorting to full nationalisation.

Enough. The government should scrap the APS and adopt a different approach. One far simpler option would be for the state to promise that it will maintain the capital ratios of RBS and Lloyds at a certain minimum level. As losses on existing loans were realised, the government could inject fresh capital in return for shares. This approach would guarantee the future viability of RBS and Lloyds, while sidestepping the complexity involved in setting up the APS. It would also have a similar effect on the public finances, because the government would only have to put up cash as it was needed.

GM dumps Chinese in Opel race, standoff looms

Two things Opel junkies need to know in today’s news.

1) General Motors has dumped Chinese state-owned carmaker BAIC’s long-shot bid to take over GM’s main European arm. That leaves a two-horse race between Canadian-Austrian car parts maker Magna and Belgium-based financial investor RHJ, loosely associated with U.S. private equity firm Ripplewood.

2) The two trustees appointed by the German authorities to a board overseeing Opel in its transition to new ownership are refusing to toe Berlin’s line that Magna’s bid is the only game in town (according to an intriguing Reuters sources story).

This strengthens the prospect of a deadlock between Detroit and Berlin, which in theory would be arbitrated by the five-member Opel Treuhand (trustee) board. The panel comprises two GM appointees, one nominee of the German federal government, one representative of the four German states which have Opel plants on their territory, and a chairman — the president of the American Chambers of Commerce in Germany – who does not have a casting vote.

Chancellor Angela Merkel made crystal clear on Wednesday, before GM and German officials had held their first talks on the final offers, that the German authorities (both her national ”grand coalition” and all four regions) are backing the Magna solution, which she called “sustainable in all respects”.  The Opel workforce and the  co-governing Social Democrats strongly back Magna because it proposes fewer job losses and no plant closures, whereas RHJ would mothball the politically symbolic Eisenach factory in eastern Germany. 

Yet according to Reuters sources, both German trustees are defying their masters (and mistress). The Berlin government’s man is said to favour the offer by RHJ, which would downsize Opel and give GM a chance to buy back control in a few years. The regions’ representative is said to be leaning towards a managed insolvency, under which Opel would go into administration and viable bits would be auctioned off.

If positions do not change, the trustees ought logically to back GM and vote for RHJ. That would leave German authorities with a straight choice between agreeing, however reluctantly, to give state credit guarantees to RHJ, or refusing, at the risk of plunging Opel into insolvency.