MacroScope

The problem of a “democratic deficit” that might arise from the process of European integration has always been high on policymakers’ minds. The term even has its own Wikipedia entry.

As Cypriots waited patiently in line for banks to reopen after being shuttered for two weeks, the issue was brought to light with particular clarity, since the country’s bailout is widely seen as being imposed on it by richer, more powerful states, particularly Germany.

Luxembourg has accused the Germans of trying to impose “hegemony” on the euro zone.  The country, whose banking system, like Cyprus’, is very large relative to the economy’s tiny size, fears that similarly harsh treatment could be imposed on its depositors.

Marc Chandler, global head of currency strategy at Brown Brothers Harriman, says the broader point about the need for popular buy-in of economic policies is a crucial one:

Cyprus 2.0 was constructed in a way that allows an end-run around parliament. This is a shame and ultimately counter-productive. The lack of democratic legitimacy means that it will always taste like foreign imposition. It means that parliament will not take ownership for the program. It also shows that European officials to be still tone deaf, seemingly failing to realize monetary union is an elitist project and without strong public support is vulnerable to various populist movements from both the right and left.

Ask top Federal Reserve officials about adopting a target for non-inflation adjusted growth, or nominal GDP, and they will generally wince. Proponents of the awkwardly-named NGDP-targeting approach say it would be a more powerful weapon than the central bank’s current approach in getting the U.S.economy out of a prolonged rut.

This is what Fed Chairman Ben Bernanke had to say when asked about it at a press conference in November 2011:

So the Fed’s mandate is, of course, a dual mandate. We have a mandate for both employment and for price stability, and we have a framework in place that allows us to communicate and to think about the two sides of that mandate. We talked today – or yesterday, actually – about nominal GDP as an indicator, as an information variable, as something to add to the list of variables that we think about, and it was a very interesting discussion. However, we think that within the existing framework that we have, which looks at both sides of the mandate, not just some combination of the two, we can communicate whatever we need to communicate about future monetary policy. So we are not contemplating at this date, at this time, any radical change in framework. We are going to stay within the dual mandate approach that we’ve been using until this point.

Cypriot banks were supposed to reopen today but they won’t and when they do capital controls will be slapped on to prevent money fleeing its borders (was that how the single currency zone and single market was supposed to work?) The controls are supposed to be temporary but the Icelandic experience showed that once imposed they can be devilishly hard to remove. It seems pretty certain that there will be a bank run when the doors are reopened, which is now slated for Thursday.

Dutch Eurogroup chief Jeroen Dijsselbloem gave markets a jolt yesterday. In an interview with Reuters he said in future, the onus would be put on banks to recapitalize and if they couldn’t “then we’ll talk to the shareholders and the bondholders, we’ll ask them to contribute in recapitalising the bank, and if necessary the uninsured deposit holders”. He added that he wanted to get to a situation where the euro zone never needed to use its ESM rescue fund to recapitalize banks directly – a plan that was created last year at the height of the crisis. That all seemed crystal clear but after some adverse market reaction a later statement was put out on his behalf reverting to the earlier line that Cyprus was a one-off case.

So which is it? One-off or precedent? With a banking system eight times the size of its economy and awash with foreign money Cyprus clearly is unlike any of its euro zone peers. But it’s been also clear for some time now that Germany and other northern Europeans don’t want taxpayers to be on the hook for future bailouts and are not keen on using the ESM to recapitalize banks (that was supposed to break the doom loop between weak banks and sovereigns but maybe not any more). German Finance Minister Wolfgang Schaeuble was explicit after the bailout was agreed in the early hours of Monday morning, saying with the bail-in “we got what we always wanted”. As such, the Bundestag is almost certain to vote for it.

I asked Fed Chairman Ben Bernanke during his quarterly press conference this week if the central bank had its own estimate for the implicit subsidy that banks considered too big to fail receive in the form of cheaper borrowing. Senator Elizabeth Warren had confronted him at a recent hearing with a Bloomberg estimate of $83 billion which itself was derived from an IMF study. At the time, he dismissed her concern: “That’s one study Senator, you don’t know if that’s an accurate number.”

At the press briefing, Bernanke said the Fed does not have its own figures for Wall Street’s too-big-to-fail subsidy, in part because there were too many factors that made it difficult to calculate.

However, this time around, he seemed more sympathetic to Warren’s concerns than he had at the Senate Banking Committee hearing.

Two analyses published this week highlight how alarmed investors are about inflation in Brazil.

In the first, published on Wednesday following a poll on global stock markets, equity investors say an interest rate hike wouldn’t be a bad idea – a paradox, since stocks usually drop when borrowing costs rise. Are they keen to move to bonds? Not really; their argument is that an interest rate hike could assuage inflation fears after eight consecutive months of above-forecast price rises. A rate hike could also reduce concerns of economic mismanagement after several government attempts to intervene in key sectors such as banking and power generation.

The central bank signalled it could act later this year, but would rather wait because the recent inflation surge could be just temporary. Bond investors disagree, according to a separate analysis published today. In their view, inflation will remain above the 4.5 percent target mid-point through at least 2018, raising uncertainty about long-term investments needed to bridge the gap between Brazil’s booming demand and its clogged roads and ports.

The Cypriot saga has thrown the spotlight on Slovenia, which is also a small euro zone country struggling with an over-burdened banking sector.

Slovenia’s mostly state-owned banks are nursing some 7 billion euros of bad loans, equal to about 20 percent of GDP, underpinning persistent speculation that the country might have to follow other vulnerable euro zone countries in seeking a bailout.

According to Standard Bank’s head of emerging market research Tim Ash:

The latest crisis in the euro zone, this time in Cyprus, continues to raise questions as to possible contagion effects throughout the region, and in particular which economies could be next.

A return to China’s offshore yuan bond markets, or “dim sum” as they are colorfully known in Hong Kong, may be sweet for Gemdale, a mainland property developer. But not all fund managers are smiling. The company raised five-year money at 5.63% amounting to 2 billion yuan. Not bad, considering that last July, it raised a lesser sum for a shorter tenor while coughing up nearly double of what it paid this time around. Add the fact that it did so by keeping to the same weak bond covenant and Gemdale seems to have pulled off a stunner.

But Gemdale doesn’t seem to be the only one. In recent days, issuers with weak bond covenants have discovered a ready market for their debt and at much cheaper rates. In theory, bond covenants can be divided into two halves: affirmative and negative ones. The former promises to pay bond holders on time while the latter forbids it from exceeding certain financial ratios such as interest paid/EBITDA, debt to equity, etc. And of course, they are secured by the company’s assets or backed by bank guarantees or letters of credit. 

But when theory meets reality (read: offshore hunger for yield meets hungry onshore Chinese issuers), financial “creativity” is the outcome. So mainland companies set up complicated structures to ensure they are able to keep regulators and ratings agencies happy while getting access to cheap capital quickly without having to negotiate labyrinthine approvals processes.

They’ve only been looking for it for a day but Cyprus’s Plan B has already taken on mythical status. A myth it might remain.

Ideas being floated include nationalizing the pension fund (back of the envelope calculations suggest that will raise less than a billion euros) and issuing bonds underpinned by future natural gas revenues (but no one is really sure how much they are worth). So to avoid default it still looks like the Cypriots may have to return to the bank levy they rejected so decisively in parliament on Tuesday, to raise the 5.8 billion euros the euro zone is demanding in return for a bailout.

Finance minister Sarris is still in Moscow hoping for some change out of the Russians and is out this morning saying discussions are ongoing about banks and natural gas.

Britain’s independent Office for Budget Responsibility slashed its growth forecasts for this year ahead of George Osborne’s Budget on Wednesday. But looking longer-term, it now has the unusual distinction of being more optimistic about Britain’s long-term economic health than the Bank of England, often pilloried for its rose-tinted views.

And rightly so. The Bank’s famed GDP fan charts have been exceptionally over-optimistic. Until recently, it routinely suggested the economy was more likely to grow more than 5 percent annually than contract even slightly, which was plainly absurd.

In its short life, the OBR too has had its fair share of forecasting blunders. Created with the arrival of the coalition government in 2010, that June it predicted 2012 GDP growth of 2.8 percent. In Wednesday’s report, it estimated the economy instead grew 0.2 percent last year.

It’s had a good run, and will remain in use for the purposes of alerting reporters that “Treasury is in the (press) room.” But when it comes to the Federal Reserve’s monetary policy decisions, which are also released out of Treasury, the central bank is ditching the old ringer.

Until the last FOMC decision, reporters would be guided by a 10 second countdown followed by a loud clinging of the bell pictured above. Now, news agencies will report the news at the set time of 2 pm – so there’s no wiggle room in the hyper competitive world of microsecond timings that give robot-traders an edge.

Given that this is how most other official economic releases are disseminated, the shift makes a lot of sense. Still, there was just something about that bell.