Five ways to correct the Greek debt crisis
By Mohamed El-Erian This piece is the English version of the one that appeared in Handelsblatt. The opinions expressed are his own.
Not a day goes by without a flood of comments on Greece and its debt problems. They seem to come from everywhere. Some are later denied while others are left to stand, accompanied by a continuous string of worrisome data. In the process, even greater disorder is gaining hold of the country’s debt markets, with credit spreads exploding in an ever more alarming fashion.
There is a risk that all this could serve to confuse rather than illuminate the key issues that should be on the radar screen of many, whether they are policymakers or normal citizens. I can think of five such issues.
First, there is a good reason why Europe’s current approach to Greece’s problems has not worked well. Indeed, many, including me, believe it will not work any better going forward. Meanwhile, the costs and risks are growing exponentially.
Despite a year of large sacrifices on the part of Greek society and exceptional financial support from neighbors, Greece is still very far from regaining economic and financial stability. Output continues to collapse, unemployment is rising, the budget deficit remains alarming, and the already excessive debt burden is increasing further.
As a result, the country is no closer to re-establishing normal access to the global financial markets. New investors prefer to wait on the sideline, thereby starving the country of fresh capital. Meanwhile, doubtful liabilities are increasingly being transferred from creditors, who knew they were taking risks in lending to Greece (rather, for example, than buy German debt at a lower interest rates), to Greek and European tax payers as well as to the balance sheets of public organizations.
Second, the time has come to urgently recalibrate the EU/ECB/IMF approach to solving Greek’s debt crisis. This must start with an open recognition that an insufficient number of the original key objectives of the Greek adjustment program have been realized and, going forward, even fewer stand any realistic chance of being realized under the current approach. As a result, the country will not be able to harvest gains from the courageous steps taken to improve the efficiency and functioning of the public sector. Indeed, it could be forced to reverse them.
from MacroScope:
Central banks should hedge: Gary Smith
Gary Smith, head of central banks, supranational institutions and sovereign wealth funds at BNP Paribas Investment Partners, has written a special guest blog for Macroscope in which he argues that central banks should consider ways to hedge their FX reserves against the crisis.
"After the 2008 crisis, a mathematical approach to measure the adequate level of foreign exchange reserves – import cover or an equation relating to short-term debt – no longer has much credibility. In the absence of sensible guidelines on adequacy of reserves there is now a general desire to have plenty of reserves.
What is lacking from the reserves debate, however, is whether National Wealth Managers in general (and central bank reserves managers in particular) should invest in assets that might increase in value during a crisis.
The traditional approach of investing in short dated, high grade government bonds is based on the desire to be in safe and liquid assets, which is logical enough. However during a crisis, it is not the stable value of the assets in which reserves are invested which is of interest to the currency speculators, but the pace at which reserves are being spent to defend the value of the domestic currency. Foreign exchange reserve managers do not invest in assets which might appreciate during a crisis for two probable reasons, firstly these investments would be based on the use of derivatives, and secondly such a strategy, as with any insurance policy, would require the payment of premiums. But perhaps using a small proportion of the many monthly increases in the value of foreign exchange reserves to help insure against the intense pain that can be created during a crisis might make some sense?
This chart shows the monthly change in Asian foreign exchange reserves in each month during a 15 year period 1995-2010. In most months (73%) foreign exchange reserves increased, usually by a small increment. What is also clear is that although months in which reserves fall are considerably less frequent, a fat-tail decline can be debilitating for the NWMs, and indeed for the nation.
Imagine the power of being able to announce during a currency crisis that foreign exchange reserves had received a positive impulse from the successful crisis management strategy of owning call options on gold, or put options on the S&P500. When all the news is bleak, the desire to announce any type of good news is immense. Why doesn’t this prompt a more detailed exploration of strategies that might have a positive pay-off during a crisis? My many conversations with NWMs around the world suggest that the principal reason is that local politicians are unlikely to fully understand, and hence sanction such a strategy (a strategy that would not be without costs, i.e. in the 73% of months of rising reserves, some of the upside would have to be used in order to pay for the insurance protection). For many, the use of derivatives is associated with speculative attempts to capture asset price appreciation, rather than insurance against the downside."
from Jeremy Gaunt:
The rule of three
It is beginning to look like financial markets cannot handle more than three risks. First we have, as MacroScope reported earlier, Barclays Wealth worrying about U.S. consumers, euro zone debt and Asian overheating.
Now comes Jim O'Neill and his economic team at Goldman Sachs, with three slightly different notions about risks in the second half, this time in the form of questions. To whit:
1) How deep will the U.S. economic slowdown be and what will the policy response be? (That's two questions, actually, but let's not nitpick).
2) How much decoupling is possible between the U.S. economy and others, notably China?
3) Will sovereign and systemic risks intensify again or settle?
For what it is worth, Goldman reckons none of the three should be too damaging:
"Our own forecasts envisage a period of some muddiness in the near-term that ultimately resolves towards a more positive global view. But given the fragilities in the system, we will be watching our various proprietary tooks ... and trying to stay open-minded."
from The Great Debate UK:
Following the aid money with Linda Polman
As political leaders wrangle over how best to deal with warring factions in hot spots around the world, enclaves of humanitarian aid workers grapple with how best to help innocent victims of violence.
Author and journalist Linda Polman proposes in "War Games: The Story of Aid and War in Modern Times" that since the end of the Cold War, there is much more at stake than the simple distribution of billions of dollars in aid money each year to fix crisis situations. Aid agencies relegated in the past to the peripheries of war zones and refugee camps now play a very different role.
An estimated 37,000 international non-governmental organisations follow the flow of aid money and compete with each other for billions of dollars, Polman writes, reporting that Organisation of Economic Cooperation & Development (OECD) donor countries contribute $120 billion (84 billion pounds) a year for developmental cooperation and an estimated $11.2 billion for emergency humanitarian relief. Some $6 billion a year is channeled into humanitarian aid out of the combined tax revenues of the world's richest countries, she says.
Warring factions use money and supplies intended for humanitarian purposes for their own gain.
"In some wars aid capital is decisive," Polman writes. "Under certain circumstances trading in aid supplies may be the most important economic activity around, and money and goods from NGOs are weapons in military strategies, including those of our own armies."
Between 2001 and 2008, more than 60 governments allocated more than $15 billion to aid for Afghanistan but "where the money ended up is unclear. Neither the donors nor their INGOs dare to visit the projects they finance. The result is an unfathomable channelling of aid billions that is highly susceptible to fraud."
"The majority of western INGOs never venture outside Kabul," says Polman. "Instead they subcontract local and other international NGOs to implement their projects, who in turn engage further subcontractors."
Watch banks for clues on Greece
– James Saft is a Reuters columnist. The opinions expressed are his own. –
As odd as it sounds, concerns about the effects of a euro zone sovereign crisis on Europe’s still poorly capitalized banks may prove to be the tipping point that leads to a swifter bailout of Greece.
While discussion of contagion may seem very 2008, the problems with Greece, which faces a huge fiscal deficit, are becoming tougher for euro zone authorities to leave uninsured.
That’s not just because worries about Greece spread markedly in the past week to Portugal, Ireland, and Spain, all of which saw their financing costs rise.
While Greece is, in the scheme of things, pretty small beer, though crucial as test of the euro project, the combined size of all four countries is large enough to pose a substantial threat to banks across Europe.
According to Bank for International Settlements data compiled by BNP Paribas, foreign bank exposure to Greece is just about 300 billion euros – a big, ugly number surely, but not the end of the world.
Lump in Portugal and Spain and you quickly get up to 1.75 trillion euros. That figure may not include all of the 400 billion euros of Spanish structured financings, most of which are tied to the ailing real estate sector.
Remember how the Euro-elites would look down their noses at the ‘Anglo-American economic model’? Well, so much for the European ‘social model’. These guys are bankrupt and won’t admit it. No Marshall Plan this time, fellas.
from The Great Debate UK:
2010: Another year, another crisis
- Laurence Copeland is a professor of finance at Cardiff University Business School and a co-author of “Verdict on the Crash” published by the Institute of Economic Affairs. The opinions expressed are his own. -
If the financial crisis were a theatre production of Hamlet, we would now be at the end of Act III.
But look . . . the audience is already standing up, applauding wildly and putting on their coats. They obviously think it’s all over. Little do they know how much blood remains to be spilled . . . Look at the facts.
The FTSE is up by nearly 50 percent since March, so that it is now more or less back to where it started 2006. The same is true of gilts, corporate debt, and more or less every other financial asset on both sides of the Atlantic and across the globe. Even the housing market, where it all began, seems to be reviving.
So the crisis must be over, right?
But the jubilation may be premature, because, since Lehman Brothers collapsed in September 2008, policymakers have used every conceivable tool of monetary and fiscal policy so as to restore the status quo ante. Indeed, the success or failure of these policies has largely been judged by the criterion of how far the numbers look normal – where the norm has been redefined to mean “similar to the levels of 2005 and 2006”.
In these terms, the policies, especially quantitative easing, have been extremely successful. In many respects (not just bankers’ bonuses), the clock has indeed been turned back to 2005.
The world will end with a wimper, not a bang. Expect a slow burn as without any bubbles right now, there can be no big drop. Just everyone getting a little bit poorer year after year with the fed keeping industries from totally going bust.
from MacroScope:
Crisis? What Crisis?
The title of this post is taken from two sources. One was a headline in British tabloid, The Sun, in January 1979, when then-prime minister James Callaghan denied that strike-torn Britain was in chaos. The second was the title of a 1975 album by prog rock band Supertramp that famously showed someone sunbathing amidst the grey awfulness of the declining industrial landscape.
Are we now getting blasé about the latest crisis? Not so long ago, perfectly respectable economists and financial analysts were talking about a new Great Depression. The world was on the brink, it was said. Now, though, consensus appears to be that it is all over bar the shouting. The world is safe.
Wealth managers at Barclays have gone as far as telling their clients to get over it.
Move past the crisis .... The past year's events were deeply traumatic for most investors, but now is the time to move on, and take a more "business as usual" approach ...."
Such bullishness may not be comforting to the record numbers of jobless in parts of the world, but it is bordering on consensus. It is left to the likes of perma-bears such as Nouriel Roubini to try to burst the bubble of optimism on which many are floating. The economist began one of his latest articles bluntly:
Think the worst is over? Wrong.
Roubini's main point is that unemployment is likely to get worse rather than better and that many U.S. jobs that have been lost will not come back.
Not only is it too soon to celebrate, we are now plunging headlong into economic catastrophe in the west, leaving the reins of true power firmly grasped in the hands of the architects of this misery – the banks.
from The Great Debate UK:
Is a bubble burbling in financial markets?
-Jane Foley is research director at Forex.com. The opinions expressed are her own.-
The discrediting of the efficient markets theory in the aftermath of the financial crisis appears to have been accompanied with growing support for the view that rather than efficient in nature, financial markets are predisposed towards the formation of bubbles.
A bubble can simply be defined as an occurrence that begins when the price of an asset has been driven significantly above it "fair" value. According to the efficient markets theory this would not happen.
If bubbles are a natural outcome of financial market activity it is relevant to ask whether the very loose fiscal and monetary policies of many central banks and governments are presently sowing the seeds of the next bubble.
Even though the real economies of the U.S., UK, Eurozone and Japan continue to be defined by expectations of rising unemployment and falling real wages, access to cheap money has already helped restore the profitability of many investment banks.
In turn, this has fed risk appetite which is evident in the rally in stocks since the spring, increased demand for "risky" currencies and a recovery in commodities prices. Brent oil has rallied by 128 percent from its 2009 low. The ability of oil to rally despite the existence of oil supplies well above the seasonal average suggests there is already speculative element in this market which could be in danger of driving prices above their fair value.
This week’s meetings of the Federal Reserve, the Bank of England and the European Central Bank have focussed attention not so much on rates, but on the extraordinary policy decisions taken by these central banks in the wake of the financial crisis and whether conditions are ripening in favour of a gradual withdrawal of some of these policies.
Jane, since you assert that the demand for crude was flat while the price was rising, a plausible explanation would be that the whole production curve has been elevated to compensate the loss in US$ value. I think that conditions for spotting a bubble formation stages should be investigated in correlation with the level of affordability for the end consumer. The housing bubble was predicted 2 years in advance, based on this kind of approach.
However, in repeated statements, Middle East suppliers were not shy spelling out that their comfort zone prices were between US$75 and US$80 when the barrel was hovering around US$60. In very short time, prices on the market have been elevated to a plateau of US$80, with no apparent changes in observable factors concurring in price formation. Therefore, what is the mechanism of translating a statement of desire into effective pricing in a market deemed free?
Quote from the article: “In the case of Greece today, too much of the debt is being transferred from creditors to the public sector. As a result, too many tax payers and public institutions will end up taking the hit that many creditors should have taken.”
This is the primary problem of economies around the world as evidenced by Iceland, Ireland, Portugal, Spain and even America, but Greece’s problem is far greater.
Greece’s underlying fundamentals are so wretched that they have zero chance of achieving economic viability within the next ten years.
This epic drama can only end with loan forgiveness or default… and the end draws ever closer.
I’m astonished that the Eurozone and other investors have been willing to toss billions of Euros into Greece’s black hole of a deficit every time the bills come due.
Surely, most of those investors are sophisticated enough to know that Greece isn’t capable of generating enough income to actually repay all of that money. The risk of default is virtually 100%; it’s just a matter of when.