Posts Tagged ‘finland’
Guest Post: How To Make Austerity Work
Tuesday, 30 April 2013 11:29
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Submitted by Pater Tenebrarum of Acting-Man blog,

A Question of Spending Discipline and Reform

The Baltic States are unique in Europe in that they went through an austerity crash program a while ago already (beginning right after the 2008 crisis) and have in the meantime recovered strongly. Der Spiegel has an interesting interview with Lithuanian president Dalia Grybauskaite, in which she explains her views on the topic. It can obviously be done successfully.

(Read more…)

Just to get this out of the way up front: we are aware that every case is unique. The problems are not the same in every country, and due to cultural norms and traditions, it may be easier to enact reform in certain countries than others. Nevertheless, no matter how many times Paul Krugman insists that no Baltic nation can possibly be held up as an example, the fact remains that they have imposed fiscal austerity and implemented wide-ranging reform measures and have succeeded.

Here are a few notable excerpts from the interview:

SPIEGEL ONLINE: In spite of the ongoing crisis, Lithuania wants to join the euro zone in January 2015. Why?

 

Grybauskaite:This is not a crisis of the euro zone, but a debt crisis. Some states, inside and outside the euro zone, have difficulties because of their irresponsible economic and fiscal policies.

 

[…]

 

SPIEGEL ONLINE: A new poll in six big EU countries shows that trust in the EU is declining rapidly. Are EU leaders taking this growing unease seriously enough?

 

Grybauskaite:This is the consequence of the crisis in Europe and people's reaction to the inability of the politicians to tackle the challenges.

 

SPIEGEL ONLINE: The president of the EU commission, José Manuel Barroso, said this week that austerity in Europe had reached its limit. The political and social acceptance is not there any longer. Is it time to relax the efforts?

 

Grybauskaite: There is not one rule you can apply to every state. In the Baltic states, after 2009 we had to implement very radical austerity measures. In Lithuania, we consolidated 12 percent of GDP in two years. We cut public salaries by 20 percent and pensions by 10 percent. Our adjustment was a lot deeper than what we see now in Southern Europe. And we saw growth return after 2 years.

 

SPIEGEL ONLINE: So Barroso is wrong?

 

Grybauskaite: Some countries need extra stimulus in specific areas. Something has to be done against high youth unemployment in Greece and Spain, for example. But in the end, there is no way around it: The debt levels have to come down.

 

SPIEGEL ONLINE: You say that reducing public debt is mainly about political will. Where do you see this will lacking in Europe?

 

Grybauskaite: I won't name countries, but reforms could be quicker in many parts. There are different mentalities and different ideas about political responsibility in the North and the South.

 

SPIEGEL ONLINE: Austerity is often seen as a diktat from Germany. From the perspective of a small country, is Berlin too powerful?

 

Grybauskaite: We need to understand the situation of the German people. They are largely responsible for paying for these bailouts. I cannot imagine a head of government whose country is paying for something not asking for certain conditions. It is legitimate that Berlin leads the way.”

(emphasis added)

Takeaways:

She is right – as we have often pointed out in these pages, it is not a currency crisis, but a debt crisis. The euro as such seems to be doing fine, as well as can be expected from a modern fiat currency. It is the private and public sector debt mountains that have been built up over time that are the problem, not the fact that several nations use a common currency.

One might of course counter 'the common currency has caused debts to increase so much', but that is only partially true. We cannot recall that Italy or Greece had any problems growing their debt into the blue yonder in the past,  i.e., prior to the adoption of the euro. The main difference is that they used to be able to devalue their way out of problems,  thereby robbing their citizens surreptitiously. At least nowadays the cost is quite obvious to all.

Take note of the example she gives for austerity a la Lithuania (similar courses were followed in the other Baltic nations): “We cut public salaries by 20 percent and pensions by 10 percent. Our adjustment was a lot deeper than what we see now in Southern Europe. And we saw growth return after 2 years.”

The magic words here are: “cut spending”. As opposed to “raise taxes, and then raise them some more, while leaving spending almost exactly as it was before” – the preferred method in places like Italy, Spain and Greece. Yes, the debt levels have to come down – but it is not immaterial how they are coming down. No doubt it was not exactly great fun to be in the Baltics during the harsh period of adjustment. However, we are sure Greece's citizens would have been more or less perfectly fine with just two years of hardship. It is vastly different when the hardship is going into its fifth year with still no light at the end of the tunnel. In this context, Mr. Barroso's recent proclamations strike us as rather dubious. He seems to think there is a 'choice', but there very likely isn't one, as markets will sooner or later penalize countries veering from their fiscal consolidation efforts.

Cutting spending is not everything of course – economic reform is just as, if not more important. This is another area where many European governments are lacking the necessary political will and imagination. The Baltic nations still have memories of Soviet Russia's embrace – that does wonders for one's political will and the ability to endure hard times for a little while.

And finally, yes,  the paymasters must be expected to insist on conditions for keeping others afloat. Imagine if things were the other way around: if Italy, Spain, Greece, etc., were asked to bail out Germany and Finland, would they be doing so without demanding conditions? Not very likely, is it?

 

 

lithuania-gdp-growth-annual

Lithuania: a bubble, followed by a severe bust coupled with austerity, and the return of growth- click to enlarge.

 

 

lithuania-industrial-production (1)

The ups and downs of industrial production in Lithuania. Note that production began to improve well before the contraction in GDP ended- click to enlarge.

 

 

lithuania-government-budget

The budget deficit as a percentage of GDP. Lithuania is already getting close to the Maastricht ratio again – click to enlarge.

 

 

Conclusion:

There are ways and means to deal with a major bust and fiscal troubles. None of them are painless, but some make more sense than others.

    



 
Weekend Developments: Signal and Noise
Sunday, 28 April 2013 13:42
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The weekend has produced five talking points. The leaked French Socialist draft document that was critical of Germany (and the UK) and the Bundesbank’s letter to the German Constitutional Court objecting to the ECB’s Outright Market Transactions do not really reveal anything new and we do not expect them to influence trading in the new week.

The Iceland election and the formation of a new Italian government are important. (Read more…) An Austrian weekly is claiming that national central bank estimates that to wind down a nationalized bank by the end of this year as the EU is demanding would cost the government 14 bln euros or ~4.5% of GDP. We recognize this as potentially important, but not immediately a market factor.

That in private moments the French Socialists are critical of Germany and Merkel is a dog bites man story, even if the Financial Times thought it worthy of front page coverage over the weekend.   The tensions between the French Socialists and the conservatives are not new or unilateral.  No where in the FT’s coverage, for example, is one reminded that Merkel campaigned, as much as a German Chancellor could, for Hollande’s rival, Sarkozy.  Nor is there any reference to the recent German criticism of the weakness of the French government, with claims among other things that French finance minister had to be woken at a recent crisis gathering.

The fact of the matter is that Germany is acting like a creditor and France is acting like a debtor.  When the situation was reverse, France acted like a creditor and Germany a debtor.  It was France that Germany was critical off for “selfish intransigence” and only thinking about French savers, which is the French Socialists accusation of Merkel.

France wants to blame Merkel on one hand, and UK’s Cameron, on the other hand, for the strains in the “European project”.  There is enough blame to go around, but Hollande and the French Socialists should recognize the responsibility of France as well.  Hollande has failed to articulate a clear and viable alternative to Germany’s vision.  A large part of the reason for this is France’s failure to enact structural reforms to ensure the continued competitiveness of its economy.

While we have often warned of the tragedy of France–that it is being squeezed from Germany above and now from the reforms and falling unit labor costs in the periphery form below–we recognize that French bonds continue to trade like slightly higher yielding German bunds.    This removes some  sense of urgency, though rise to record levels of French unemployment, may become a more explosive political force.    

That the Bundesbank is opposed to the ECB’s Outright Market Transaction has been known since the OMT was first unveiled over the German ECB members objections.  OMT requires an agreement on conditionality  with the EU, means that OMT is not a unilateral tool of the ECB.

Moreover, interest rates in the periphery, especially Spain and Italy, have subsequently fallen more than one would have imagined they might should OMT have been triggered.  Indeed, with the EU signaling that it will 1) give some countries, including Spain, more time to reach the fiscal goals and 2) that it will place more emphasis on structural rather than cyclical deficits, there is a good chances that OMT is not triggered.  

The BBK’s objections have formally been presented to the German Constitutional Court.  The Court is scheduled to make a ruling on the legality of OMT on June 12.  This is the most recent issue on the broader issue of European integration that has been brought before the court.  The Constitutional Court walks a fine line, allowing for the integration but at the same time preserving an important role for the German parliament.

This is what happened last September.  The court ruled in favor of the European Stabilization Mechanism, but limited German participation to 200 bln euros and required German parliamentary consent of any distribution of funds (which is why the German parliament voted on the package for Cyprus, though the Cypriot parliament did not).

The weekend election in Iceland result in a resounding defeat for the Social Democratic Alliance that has led the country over the past four years.  The Independent Party and the Progressive Party, which oversaw the overreach of the banking sector and the crisis have been returned to office on a populist agenda of cutting taxes, writing down mortgage debt and opposition to EU membership.

Monetary sovereignty and the ability to devalue has not been the panacea that many those advocating that one or more of Greece, Cyprus, Portugal, Spain or Italy should leave EMU and devalue have seemed to suggest.  This might also be one of the take-aways from the UK’s experience.  Though its economy did surprise on the upside last week, with a 0.3% expansion in Q1, the ability to pursue an independent monetary policy does not appear produced superior economic results or even stronger exports.  

An estimated 80% of Iceland’s household debt it linked to inflation.  This means that the higher inflation that the country has experienced has not helped the debtors.  Moreover, unemployment is twice what it was prior to the crisis.   Capital controls, instituted in 2008, remain in place.   Perhaps the most telling sin of the outgoing government was in its choice of friends.  The IMF supported the Social Democratic Alliance.  

The Icelandic election is a cautionary tale and is consistent with the swing in the pendulum away from the austerian agenda.  It warns other European countries that they must deliver better economic conditions or face the wrath of voters.   It is a reminder that there are no easy answer, like simply exiting from the EMU.  

After nearly two months since the election, Italy has a new government.  Not just any government, but a coalition government with the center-right, center-left, centrists and a couple of technocrats.  Grillo’s 5-Star Movement is where it is most comfortable, in opposition, and is joined there by the far right and far left.  

The government is bolder than any one anticipated.  It is younger and more female.  The average age of the cabinet fell a full decade to 53 years and a record 7 ministries will be run by women.  There is the first African in the cabinet, as well.  

The new cabinet will have two technocrats and 3 centrists.  Berlusconi’s center-right will be represented in 5 ministries and the center-left in 9.  Although Berlusconi’s ally, Alfano will be the deputy prime minister, as had previously been tipped, he did not get the Justice ministry as Berlusconi had insisted upon.  Instead, Alfano got the interior ministry portfolio.  Draghi’s ally and Director General of the Bank of Italy, Saccomanni will be the Economic and Finance Minister.  Emma Bonino will be the new Foreign Minister.  

Many observes quickly judged Berlusconi to be the big winner.  If this is true, it is largely because, once again, his opposition shot themselves in the foot.  Bersani ran a poor campaign to begin with and then dismally failed to rally his own party behind not one but two presidential candidate.  The fissure in the center-left are the primary reason that the tenure of the Letta government rests largely in the hands of the center right.  

There are two important agenda items, which, once they are implemented, puts the government at the mercy of Berlusconi’s political calculations as was the Monti government.  First, is to get rid of the terribly unpopular tax imposed by Monti on primary residence.   Berlusconi’s demand that past tax payments be returned is not practical or very likely, but the elimination of this tax could help household finances and may underpin consumption.  If this were to happen, a decline in revenues from the property tax may be blunted by an increase in VAT collection.  

The second issue is electoral reform.  There is nearly universal recognition of the need for reform, the disagreement is over the shape of the reform.  It is a tricky issue and partisan interests will run high.  Polls show if an election were held today, Berlusconi’s center-right would win.  With the left in disarray, Berlusconi appears as the only force that can check Grillio and the 5-Star Movement.   The center-left has at least a few months to try to heal its wounds, otherwise they risk Berlusconi picking their bones.  

Contrary to the numerous and repeated claims of the demise of the political elite in Italy, it seems very much alive.    Grillo dismissed the new government as an elite coup d’etat.  It is not coincidence that Letta’s uncle is a close advisor to Berlusconi.  The broader, younger and more representative cabinet speaks to the elite’s ability to draw new blood and ideas.  Saccomanni at the finance ministry will soothe some anxiety Europe and the EC.    

An Austrian weekly paper will reported reveal tomorrow that according to the Austrian central bank the cost of winding down the nationalized Hyper-Alpe Adria Bank International would cost the government as much as 4.5% of GDP.  The implication is that this amount could force Austria to see assistance from the ESM.   The EU may be persuaded to give the government more time to sell off the viable parts of the bank, but even then the central bank estimates that it could cost 5 bln euros or 1.6% of GDP.  

We have recognized that the crisis has bled into the core from the periphery in Europe. France, the Netherlands, and Luxembourg  have come under scrutiny.  Austria’s bonds trade as a smaller premium than French over Germany.  It five-year CDS finished last week below 40 bp, the third lowest in the monetary union after Finland and Germany.    While the situation is surely worth monitoring, we do not think the report will spark much of a market reaction.   

    



 
Overnight Ramp Driven By Higher EURUSD On Plethora Of Negative European News
Thursday, 25 April 2013 05:57
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A peculiar trading session, in which the usual overnight futures levitation has not been led by the BOJ-inspired USDJPY rise (even as the Nikkei225 rose another 0.6% more than offset by the Shanghai Composite drop of 0.86%), which actually has slid all session briefly dipping under 99 moments ago, but by the EURUSD, which saw a bout of buying around 5 am Eastern, just after news hit that the UK would avoid a triple dip recession with Q1 GDP rising 0.3% versus expectations of a 0.1% rise, up from a -0. (Read more…)3% in Q4 (more in Goldman note below). Since the news that the BOE will likely delay engaging in more QE (just in time for the arrival of Carney) is hardly EUR positive we look at the other news hitting around that time, such as Finland saying that the euro can survive in Cyprus exits the Eurozone, and that Merkel has rejected standardized bank guarantees for the foreseeable future, and we are left scratching our heads what is the reason for the brief burst in the Euro.

Said scratching only gets stronger once we learned that Italy’s left-wing Vendola, a former Bersani ally, and president of Apulia, said his party would not support a Letta coalition government, even as Berlusconi himself – the key support of a new government – said parliament backing for a new coalition is not granted, and that it is not important who leads the government but programs that are key, a development which is hardly stability positive.

The scratching gets even stronger once we consider that Spain just announced Q1 unemployment which rose to an even record-er high of 27.2%, up from 26.02%, and “beating” estimates of a 26.5% increase. This too does not strike us as very euro positive.

Finally, the scratching concludes in frustration, following the rise of Spanish and Italian 10 Year yields wider by 10 bps, which most certainly can not explain the move higher in the EURUSD, whose only purpose, we are left to conclude, is to ramp US futures as high as possible on today’s disconnect from reality, and that today the DE Shaw ES-trading algos will be following EURUSD signals, while the USDJPY will be off.

Finally, gold is back, baby, and was trading just why of $1450 at last check, $125 higher than the recent “shock and awe” plunge lows.

Various other highlights, in bulletin format courtesy of Bloomberg:

  • Japan investors are net sellers of overseas debt a sixth straight week through April 19, MOF data shows today, the longest streak since Jan. 2010.
  • Central banks, guardians of the world’s $11t in forex reserves, are buying stocks in record amounts as falling bond yields push even risk-averse investors toward equities
  • Spanish unemployment rose to 27.2%, more than forecast, the highest in at least 37 years
  • Silvio Berlusconi, the three-time prime minister and two-time convicted lawbreaker, won a path back to power in Italy by outmaneuvering rivals during an eight-week political stalemate
  • The yuan climbed to a 19-year high as the central bank set a record reference rate amid growing usage of the currency for worldwide trade and investment
  • BofAML Corporate Master Index OAS holds at 147bps; $16.55b priced yesterday. Markit IG narrows to 80bps from 81bps, YTD low 78bps. High Yield Master II OAS narrows to 466 from 471bps; $600m priced yesterday. CDX High Yield rises to 104.89 from 104.73
  • Global sovereign yields mostly higher, led by U.K. and Italy; EU sovereign spreads to Germany widen
  • Nikkei +0.6%; other Asian stock markets mixed, with Shanghai down 0.9%. European equity markets decline U.S. index futures gain. Energy futures, gold, copper gain

For those curious, here is Goldman’s take on the UK’s last minute “triple-dip” evasion.

Bottom line: According to the ONS’s preliminary estimate, UK GDP rose 0.3% qoq (+0.6% yoy, +1.2% qoq annl.), stronger than consensus expectation of a lower rise (Cons:+0.1% qoq, GS:+0.2% qoq). This was primarily driven by strong services sector output, which rose 0.6% qoq and contributed +0.47ppt to qoq growth.

 

1. The Q1 GDP reading of +0.3% qoq was 0.2ppt above the consensus estimate of a +0.1% qoq rise, and 0.1ppt above our forecast of +0.2% qoq growth. The estimates of economists surveyed by Bloomberg ranged from -0.3% qoq to +0.3% qoq, which reflects the significant uncertainty over the preliminary estimate of GDP. The ONS noted that the preliminary estimate is based on around 44% of the total information that will compromise the final output based GDP data. Consistent with this, the average absolute revision to the preliminary GDP estimate in the ten years to 2010 was +/-0.43ppts.

 

2. The sectoral breakdown shows a +0.6% qoq rise in services output, which contributed +0.47ppt to qoq growth (Table 1). This was offset slightly by a 2.5% qoq fall in construction output, which reduced headline growth by 0.17ppts. Production rose 0.2% qoq, contributing +0.03ppt to growth. Within this figure, mining and quarrying rose 3.2% qoq, as the maintenance which reduced oil and gas output in Q4 was reversed. Agricultural output fell 3.7% qoq, contributing -0.02ppt to qoq growth.

 

3. The ONS noted that the snowfall and cold weather during Q1 appears to have had a limited impact on growth. While retail sales in January and March seem to have been negatively affected, this was offset by higher demand for electricity and gas during February and March.

 

4. As part of the preliminary estimate, the ONS estimates industrial production and service sector output for March using early survey responses. The ONS estimates that industrial production rose 0.3% qoq in March, while service sector output edged up 0.1% qoq.

 

5. There were minimal revisions to previous quarters. The most notable was an upward revision of Q4 2011 from -0.3% qoq to -0.1% qoq. In time we expect further upward revisions to GDP growth such that the ‘double dip’ seen between Q4 2011 and Q2 2012 is revised away (Q1 2012 GDP growth is currently estimated at -0.07% qoq).

DB’s Jim Reid recaps the balance of news:

We’ve been discussing how the artificially low default world (a theme of last week’s annual default study) looks set to be re-inforced by Japanese QE. Global fixed income has just got a new and large marginal buyer and one which may actually force other regions to either commence QE (Europe at some point in the medium-term future?) or continue with it for longer. Indeed we think that if and when the FED do stop QE it may actually lead to a sharper appreciation of the Dollar which may not be welcome and thus might increase the chance of QE returning again in the US. So we feel that Japan has likely extended the life of Global QE (via a slow currency war) rather than accelerated its demise. For credit this means the technicals are likely to remain strong and defaults stay lower for longer. On the negative side this continues to interfere with the creative destruction forces that tend to be good for longer-term growth and instead locks in a sub-optimum allocation of resources in many developed economies. So lower defaults but lower trend growth. Its not a survival of the fittest world.

Right back to markets it was more of the same for European equities (DAX +1.32%, IBEX +1.21%) as hopes of an ECB easing continue to build along with further data weakness. Yesterday’s disappointing German IFO surveys, which dovetails the PMI weakness the day before, added further support to this theme. Recent negative readings for Germany are difficult to ignore and our European economists are now calling for a 25bps rate cut by the ECB next week (2nd May).

The Q1 Euro area Bank Lending Survey noted modestly improved lending standards (although demand for credit remains low), which led our European economists to think that a rate cut might be more appropriate than a new unconventional policy at this point.

The data flow on the other side of the Atlantic was also far from being spectacular. Durable goods orders in March were disappointing, with the headline reading falling more than expected (-5.7% v -3.0%). Ex-transports and the core reading also came below market consensus. The effects of sequestration is starting to be felt with new orders for defence goods down 29.3% in March, leaving the nominal defence spending amount at its lowest level since January 2006. For markets the price action in equities was uninspiring. The S&P 500 closed the day virtually where it started (at 1579) although we note that Gold is catching a bid after the woeful sell-off last week. The precious metal is now up 9% from the recent intraday lows of $1322/oz. Gold coin sales by the US Mint are reportedly at a 3- year high as the recent price moves have sparked an interest in physical holdings.

At the micro level, 48 S&P 500 companies reported yesterday with 36 of them beating EPS expectations. Top line performance remains sluggish at best with only half of those beating estimates. So the broad theme of top line underperformance in the US remains. European numbers were much worse yesterday as revenue and EPS beat:miss ratios were very weak at 36%:64% and 46%:54%, respectively.

Overnight we are seeing Asian equity markets generally in the green across the region, except for China. The Nikkei, KOSPI and the Hang Seng are up +0.3%, +0.5% and +0.6% as we type. Korea’s GDP came in better-than expected which is perhaps adding some support. The Shanghai Composite (-0.4%) is led lower by banks and developers. Taiwan yesterday confirmed its first H7N9 Avian flu infection. In credit markets, Korea sovereign CDS has recovered from its recent widening and is now back to flat against China’s sovereign at 73bp for the 5-year.

The UST 10-year is holding steady overnight at 1.706%. In fact yields have barely budged this week despite a 1.5% rally in the S&P 500.

Back to Europe, the center-left politician Enrico Letta was nominated by the President to be Italy’s next prime minister. Letta said he would start talks to form a broad-based coalition on today and it is likely to go to parliament for a vote of confidence by early next week. Reuters noted that the PM designate is expected to select a group of ministers, likely to be a mixture of politicians and technocrats. The new government will be backed primarily by Letta’s center-left and the centerright PDL party led by Berlusconi.

Away from Italy, Fitch yesterday downgraded Bank of England’s credit rating to AA+/Stable from AAA. This follows on from its downgrade of the sovereign rating last week.

Indeed today’s Q1 UK GDP will be a notable release in Europe. Bloomberg poll is suggesting a +0.1%/+0.4% qoq/yoy rise versus -0.3%/+0.2% in the previous quarter. Spanish unemployment number for Q1 is also due today and the market is expecting a further nudge up to 26.50% from 26.02% in Q4 last year. In the US, initial jobless claims will be the key print to watch. Reporting wise we have 59 S&P 500 and 29 Stoxx600 companies lined up today.