Bunga, Bunga is back!

The return of the undead

Berlusconi to return to Italian politics. Mario Monti to quit (and return to Goldman Sachs for a annual honorarium of $50,000,000). The Italian long bond to go to 600 basis points over bunds. Investors to notice that Italy is still in the position of having massive debts and a completely stagnant economy. Panic to break out (again).

The bursting of the bubble

London property has been wearing anti-gravity boots for years now. Hey, the market has become so frothy that know-nothing footballers have been turning themselves into property developers (a sell signal if ever there was one.) But those anti-gravity boots are starting to lose their potency. Stand by for a massive fall in London prices. Property elsewhere in the UK will have a sympathy fall too.

Japan to have stable leadership

After too much calamitously indisciplined and indecisive leadership, Shinzo Abe has a real chance to holding onto power for a good stretch. He’s got massive problems to contend with. A structurally weak economy, massive debts and a prickly neighbour to the west. But just possibly, Abe-san is the man for the job. We’re wishing him luck: he’ll need it.

Francois Hollande to become most unpopular French President …

… since the last one. Hollande came to power on the back of anti-austerity promises, as though Sir Taxalot and his good steed Spend-Some-More was going to get France out of trouble. By now, Hollande has started to notice that France is in a fiscal mess, with chronically weak banks and far too much government spending. Will the French public enjoy Hollande’s conversion to the path of fiscal probity? We’re thinking non.

English middle classes to subsist on potatoes

Er, unless porridge is cheaper. As food inflation continues to skyrocket – beef up 75%,  lamb up 55%, fruit up 26% – and real wages continue to stagnate, more and more people will be forced to trade down to the cheapest (and least healthy) foods simply to get by. Oh, and as fuel prices continue to surge, we’re going to see a whole lot more people burning their floorboards to keep warm. But there is good news. The bankers are OK, people! And corporate profits are great! So you don’t need to worry about the FOGOs (Friends Of George Osborne). They’re all going to be fine.

The LIBOR scandal to grow

Three minnows arrested so far in the LIBOR scandal while the whales remain at large. That number’s going to rise faster than the yields on Spanish debt. If we’re lucky, we’ll start to see the stirrings of similar enquiries into the market for US Treasuries market. That market is stitched up tighter than Tony Soprano’s waste management business … and involves less savory individuals.

London Whale a "tempest in a teapot"

More of the same

Ever noticed that central bankers – ivory-tower academics for the most part – have been wrong about virtually everything for thirty years? Ever noticed that the same old advisors (take a bow Larry Summers) are recycled again and again, making the same failed policy prescriptions? Yep, well, 2013 is the year of no change at all. Same faces, same policies, same failures. Our big tip for the next big appointment: J.P. Morgan’s Dimon will smash the Goldman-only rule in Washington politics by leaving Wall Street for public service (that is: looking after his friends on Wall Street at the expense of everyone else.)

‘Triple-dip’ to become phrase of the year

If 2012 was the year of double-dip in the UK, 2013 has every chance of making it a recessionary hat-trick. Of course, the phrase is a con: it suggests that another recession now will be like some kind of temporary setback before the economy’s inevitable resurgence. But we had ten years of growth built on debt. Now we’ve got ten years of stagnation as we pay that debt back down. Triple-dip? How does quintuple-dip sound?

Civil unrest in Spain

Super Mario Draghi saved the world in 2012 (by promising to buy shoddy debt without limit for as long as needed.) We can’t even think what’s wrong with that policy … but here’s our bet: that Spain hits another crunch in 2013. Catalonian unrest grows. Unrest among those 50% of youth unemployed grows. And all of a sudden those – totally understandable – expressions of discontent force a financial, political and economic crisis. How will you escape this time, Mario?

Wanting to be head of the EU......

Merkel to be re-elected with 99% of the vote

Angela Merkel is Ms Reliable in German politics. Unfortunately she’s achieved that position by shirking every major decision in the Euro crisis, as a result of which the continent has racked up massive, unsustainable Ponzi-ish debts aided and abetted by lying bankers and southern European politicians who are either corrupt or incompetent. (Or, Silvio, both.)

Gold to hit new highs

What’s bad for money is good for gold. After a long bout of profit-taking, we expect gold, silver and other commodities to hit new highs. Meantime overvalued tech companies (we’re looking at you, Farcebook) will continue to lose value. And Exchange Traded Funds will increasingly be exposed as the new subprime market. Stand well back if you don’t want to be hurt.

Problem solved

The US fiscal cliff? OK, here’s what’s going to happen. The Democrats will sit down with Republicans. Both sides will call attention to the fact that the US fiscal gap (taking into account the oncoming medical and social security express train) is among the worst in the world. Both sides will set aside party differences and put together a plan which will be based on serious revenue increases and major cutbacks to entitlements. None of these things will be popular, but leaders from both parties will explain the logic truthfully and dispassionately to their electorates. Another US recession avoided. Also, pigs will fly.

Need a compact guide to the crisis?

Fortunately we have one for you: Mitch Feierstein’s Planet Ponzi. If only George Bush and Gordon Brown had had a copy …

If he had only read Planet Ponzi...

Four More Years

Obama’s an accomplished individual. Smart, cool, in control. But his standout quality is probably his ability to create euphoria. Create it, sustain it, ride it. Watch the people celebrating with him at his victory rally in Chicago and you could easily believe that the USA had just won a war or beaten a recession.

Unfortunately for Obama, reality doesn’t have much time for speeches. The economy was dire going into the election. Coming out of it, you can almost hear the engine failing.

Let’s take the first indicator of failure – the stock market. The market mood darkened in September and October, then dropped abruptly as news of Obama’s victory sank in. I don’t actually think that’s because Wall Street hates Obama. I think it’s more that as the election hoopla dies away, investors realise how little they can expect from the government, how bad the economic situation really is. And, for that matter, how bad the political situation is. The House remains solidly Republican, the Senate comfortably Democrat – and the whole divisive status quo guaranteeing gridlock for another four years.

Over the next few weeks, you’re going to hear a lot about the fiscal cliff. In January 2013, a whole lot of things happen together. George W. Bush’s tax cuts expire. A payroll credit expires too. Some automatic spending cuts are imposed across the board. (These last cuts, of course, aren’t thanks to some outbreak of sanity in Washington, but a bad compromise cobbled together in the course of 2011’s debt ceiling crisis.)

The fiscal cliff is huge, and real. Its impact is potentially around 5% of American GDP. By contrast, George Osborne’s fiscal tightening amounts to little more than 1% a year. If you want to get your head round what a comparable tightening would imply in the British context, then just imagine that the basic rate of tax increases by 10 pence in the pound overnight. Or that spending in the NHS is halved, again overnight.

No economy is strong enough to take that kind of punishment. The British economy is struggling to come out of a double-dip recession even with its own weak-as-milk pace of tightening – and, indeed, I think a triple-dip recession is highly probable. The fundamentals of the US economy are in some ways better than ours (less reliance on the finance sector, less proximity to European travails) but a 5% cut in economic demand overnight? The result will be crippling.

Although the US jobless rate has improved slightly in recent months, that’s only because dispirited workers have left the jobs market altogether. The US employment rate is a horror story. Piling a massive fiscal shop on top of those weak fundamentals, and you’re going to see a massive rise in unemployment. (If you look at U6 unemployment data for the US it’s hovering close to 15%, a shocking stat.)

You might think that the solution is obvious. If the fiscal cliff is so bad, then simply decrease the slope. Go for a slow-but-sure Osborne-style tightening so the budget deficit floats gently lower. And sure enough, there are plenty of economists, living comfortably in their ivory towers, who suggest just such a solution.

But that solution is not available. The IMF – hardly a sensationalist organisation – says that the elimination of America’s long run fiscal gap requires both a 35% increase in all taxes and a 35% cut in all entitlements. The fiscal gap is heinous, but it’s only the first step. It doesn’t even take America where it needs to go.

It gets worse. If fiscal policy can’t save America, how about monetary policy? Alas, and just like in Britain, monetary policy is all out of gas. Interest rates can’t go any lower. quantitative easing (QE) has reached its limits. (And, in any case, QE is little more than a way to rescue Wall Street at the cost of inflation for the rest of us.) The worst thing that could happen to America is that Ben Bernanke, the unelected Chairman of the Federal Reserve, tries to rescue things. The best thing that could happen is that he goes on holiday for four years, having left his Blackberry in the office.

The Princeton Professors Economic Experiment

In short, America’s problems are profound and there is no way to deal with them except one that imposes huge short-term costs on the economy and the people. I don’t think it’ll get quite as bad as it has done in Greece – the US economy has a lot, lot more about it than that – but most of the pain still lies ahead.

And in matters of finance, everything is circular. So the government needs to raise taxes and slash spending to sort out its debt problems. The result: a huge reduction in demand and heavy job losses. The result: countless homeowners being unable to service their mortgages and a huge rise in ‘jingle mail’, as homeowners send their house keys to the foreclosing banks. The result: an already weakened banking system sinking further under a tide of ill-advised boom era lending. And of course, as all this happens, the economy will shrink, which means that the US government has to slash spending yet further in a desperate effort to keep its deficit reduction efforts on track.

These words might seem apocalyptic, but I’ve been saying these things for a while. (My book, Planet Ponzi, has the whole story, and it’s out in paperback now.) What’s more, we’ve already seen disaster scenarios such as these come true in well-managed countries of the developed West. Spain had a much lower debt to GDP ratio than the US. It had better supervised banks and less casino-banking. But we all know the state that Spain is in: a death-spiral that even Germany may not be able to help with.

And the signs are everywhere in America. Go-go stocks have lost their lustre. Facebook trades at little more than half its IPO price. Apple, for so long a do-no-wrong stock market darling, is down more than 20% from its recent highs. Businesses are hoarding cash, because they don’t dare invest it, don’t dare return it to shareholders.

I don’t suppose Mitt Romney thinks of it like this, but you could argue that the 2012 election was a heck of a good one to lose. America has outrun financial reality for decades now. Debt-fuelled, government-funded. The future bought on the never-never.

But the debts are falling due. Reality is knocking at the door. And the fiscal cliff is only the start.

Meantime, over the same weekend, another rescue act took place. This ‘rescue’ involved €100 billion of taxpayer money (though not yours, fortunately) and is intended to bail out the worst Spanish banks whose balance sheets have been looking desperately fragile in recent months.

Global stockmarkets have been so relieved by the transaction that they leaped almost 2% on opening for business today. Let’s see how long that lasts…

Bailout: Eurozone finance ministers agreed to lend Spain up to $125billion to help its battered banks

Only, what actually has been rescued?  There are at least four problems with the Spanish economy at the moment. One, too much debt. Two, not enough growth. Three, a government austerity programme that’s been forced on the country by the first issue but which is severely worsening by the second. You can add a fourth issue to this list: a housing bubble that’s burst so badly, the construction and other ancillary industries will be decimated for at least a generation.

The first three of these issues aren’t just Spanish problems; they’re European ones. Germany itself is normally spoken of as an exception, but if so it’s a very partial one. The fact is that the Spanish government is less indebted than the German one. German growth which, despite everything, has been relatively healthy since the financial crash has started to stutter badly. And no wonder: it’s hard to sell to people without money.

Criticism: Spanish Prime Minister Mariano Rajoy has been slammed by Greece for the deal

But go back to that list of Spanish problems. Spain has just borrowed a further €100 billion. Forgive me for stating the bleeding obvious, but you cannot spend your way out of debt by borrowing more money. And let’s assume – a generous assumption this one – that Spain uses that money with prudence and wisdom, that it cleans up its dodgy banks, that it removes dead assets from their balance sheets, that good management is installed, that lending procedures are overhauled, that their capital base is made strong, that boards and shareholders learn to oversee their charges with intelligence and care.

Truth is, you only have to write that list to know that those things are never going to happen. The banks that got intro trouble did so by being incredibly stupid, badly run and forgetting every rule of sober banking. They aren’t about to turn themselves overnight into some shining examples of financial wisdom.

But, I’m an optimist, let’s assume a miracle happens and the banks come good. What then?

Well, so what? The burden of debt that Spain has to bear is still €100 billion greater than it was. The banks are hardly going to act as the engines of a new Spanish economy for two reasons. First, Spain is acutely short of credible international businesses to lend to. Secondly, the Spanish economy is shrinking not growing. Under such circumstances, intelligent bankers should be doing all they can to preserve their capital and avoid making risky loans. 

And how credible is the Spanish government as a borrower? We know what the international financial markets think: they think Spain is dangerously at risk. That’s why Spain borrows at some six and a half percent, when German can borrow at less than one and a half.

To be sure, this ‘rescue loan’ isn’t coming from the financial markets. It’s coming from ‘Europe’. I put ‘Europe’ in inverted commas, just to make it clear that the cash doesn’t come via any recognizable electoral or democratic process. Politicians and unelected officials have essentially conspired to make these decisions without the assent of their peoples.

 

Pain in Spain: You cannot spend your way out of debt by borrowing more money and banks are simply not going to act as the engines of a new Spanish economy

Would Germans, if given a vote, want to lend €100 billion to Spain? Would the Dutch? Would the Finns? And what would these people say if asked to give their verdict on the European Central Bank’s ‘LTRO’ programme, under which it has lent €1 trillion or more to European banks? Truth is, everyone knows what the outcome of any referendum would be. That’s why the people are never asked. That’s why these bailouts are effectively based on the theft of taxpayer funds.

Optimistic: Spain’s Minister of Economy Luis de Guindos said he hoped that companies would have more solvent banks as a result of the bailout

But back to the question. Spain is being lent €100 billion by baffling European institutions, without democratic oversight. Normally when loans are made under these circumstances, international lenders insist that some tough eligibility criteria are enforced, but in this case – no criteria.

It would be nice to think that Spanish politicians had proved their mettle to such a degree that no such criteria were required. But this is a government that has already missed its fiscal targets. That has long claimed no banking bailout was necessary. That has, in fact, already engineered one failed bailout (the one that led to the creation of Bankia and it’s shares are down 70%) and is now desperately seeking another. That has 55% youth unemployment, a shrinking economy, deep popular dissatisfaction and no proven ability to control its spendthrift regions. Oh, and one of the largest housing busts in the world. That’s the government which has just been given a no-strings-attached loan.

Britain, thank goodness, stands on the edge of all this. And of course, every new bailout, every new loan, every new increase in the tidal wave of debt, defers the problem a little longer. Deferring these problems isn’t smart, of course. Adding to the debt mountain only makes the fundamental problem worse. But that’s fine. Politicians only care about the next election. About keeping one step ahead of their voters.

Spain did enjoy a rescue act at the weekend, but it came from Fabregas’ boot. The faux European bailout has just made things worse.

This was published in todays Daily Mail.

Shhhhhhhh!

But wait up. A hundred billion Euros? Lent secretly? On unknown terms and conditions? And the entire operation conducted by a bunch of unelected officials and scarcely reported in the media.

Please don’t think that these things happen in Europe but could never happen in the United States. They happen here all the time and on a colossal scale. Remember that Bloomberg fought the Federal Reserve all the way to the Supreme Court in order to establish that the Fed lent over $1.2 trillion to the US banking system and that those loans went ahead unbeknownst to and unauthorised by Congress. Oh, and although I say ‘the US banking system’ what I really mean is ‘any bank that puts its hand out for some cash.’ So the Federal Reserve considered it appropriate to hand over some of your dollars to such not-very-American institutions as the Royal Bank of Scotland, the Belgian bank Dexia, Credit Suisse, Deutsche Bank, the Italian Unicredit, and too many others to name.

Yet nothing happens. When Bloomberg broke its story about the Fed’s secret lending programme, a few other news outlets picked it up, but nothing changed. The same people are in charge of the Federal Reserve. They don’t think they did anything wrong. No central banker thinks that the ECB did anything wrong by handing a hundred billion euros to the collapsing banks of a failing country. It’s just the way these guys do business.

Just to be clear, though, there are alternative ways to do business. You might, for example, think that we should follow the following elementary rules: the central bank should avoid printing money and generating inflationary pressures which affect us all; bankers should lend money prudently and with proper due diligence; if those loans go bad, the banks should lose their money; and, over time, those banks are either left to go out of business (if they’re dumb) or encouraged to shape up and improve (if they’re not.) That system even has a name. It’s called capitalism. We had it in America once.

But not any more. We live in a world where moral hazard reigns supreme, where acts of gross stupidity seem to lack consequence. Where central bankers print money and no one cares. Where banks make dumb loans and get bailed out. Where politicians just want to get re-elected and know that the media is going to analyse the spin down to the very last molecule and leave the substance well alone.

Take some other recent news items. Facebook’s IPO saw its shares trade up to $45 before falling back to as little as $31, a fall of some 31%. It is alleged that Morgan Stanley, one of the banks running the stock offering, revealed data to its institutional clients that it did not share with its retail clients – data that, in effect, called into question whether Facebook’s high valuation could be justified. Morgan Stanley insists it followed every dot and comma of the relevant regulations, and perhaps it did. But retail investors have still lost a shedload of money. And Morgan Stanley and its peers have still made a huge amount in fees. If Morgan Stanley truly did follow procedures, those procedures are plainly inadequate.

Or take JP Morgan’s recent $2 billion trading loss. That arose in a bank which prides itself on its careful risk management. Which has lobbied vociferously against regulations which would prohibit the kind of activities which led to that loss. A bank which is surely ‘too big too fail’ – and in my eyes, therefore, also too big to exist.

Yet nothing changes. Just ask yourself these questions. Will the Fed never again extend secret loans to dodgy banks? Will Wall Street firms never again run an IPO that destroys billions of dollars in value for retail investors? Will Wall Street so clean up its act that it never again reports billion dollar losses because of dumb-but-greedy trades?

You know the answers. Nothing changes. In Europe at the moment, a calamity is unfolding. The Spanish bank, Bankia, has had its shares suspended as it seeks to apply for yet more state aid. The Spanish government, terrified by the way the ground is moving under its feet, is beseeching the Germans to help them borrow more money, so they can pass that money on to the same unreconstructed banks that lost it all in the first place. And meantime government deficits go on adding to the ever-less-supportable mountain of debt.

The United States is not yet in that position, but the preconditions are all here. An uncontrolled deficit. An out-of-control banking system. And politicians who would rather defer any problem than tell the truth about the mess we’re in.

This article was published in todays Huffington Post

But although the horizons are red with fire and every new day brings news and rumours of further catastrophe, you need to realise that we’re on the brink of something bad. We’re not actually in it.

So what comes next? It’s a question that you may reasonably ask (worried about job, savings, wages, inflation). But it’s also the question which is being asked across Europe: in the governments of Greece and Spain, those of France and Germany, by the central banks, by the banking industry – and indeed, by every private sector entity which touches those things, which is to say absolutely everyone and everything.

Expect a messy exit: A paint-spattered protester outside the European Central Bank

And no one knows. Or, to be precise, no one knows the exact way events will unfold, but there are some broad predictions which we can make with some confidence.

Prediction One: Greece will leave the euro. The ‘bailout’ offered by the EU was help of absolutely the worst sort. It was generous enough (just!) to prompt a beleaguered government to accept it. But the terms were so parsimonious that it left Greece still just inches from the financial disaster zone. It was as if the EU saw a starving man and chose to give that man just enough food to keep him from death, but not enough to permit recovery. If the Greek people are rebelling against the terms they were offered, they have my sympathy. I think they’re right.

Prediction Two: as Greece falls, the other weak countries of the Eurozone will come under intense pressure – worse than anything we saw even in the dark days of last autumn. Ireland (with its fundamentally strong, flexible and low-tax economy) will probably be OK. But the countries of southern Europe face some terrifying problems: weak growth, a woeful lack of flexibility, dodgy banks, and no fiscal room for anything except more austerity.

And the thing is, if you take a reasonably decent economy – Ireland, Britain, Germany – and impose austerity, it’ll be painful (it always is) but you know that the economy will, sooner or later, spring back into growth. The situation in the south of Europe isn’t like that at all. Italy, despite years of easy money, grew by just 2.5 per cent between 2000 and 2010. That’s not 2.5 per cent a year, it’s 2.5 per cent a decade.

The storm clouds are gathering: Greece’s departure from the Euro will place Spain and Italy under intense pressure

Or take Spain. Spanish growth looked good, but it was boosted by an utterly unrealistic reliance on construction – an industry which accounted for one sixth of the entire economy at its peak. Since Spain is now grossly overbuilt, that one-sixth is now pretty much dead and will never come back. Toss some brutal austerity measures onto these horrible starting conditions along with massive unemployment and it’s little wonder that the bond markets are nakedly terrified that they won’t get their money back. (Oh, and if you read that sentence and think, “serves the damn bankers right”, you might just want to remember that your pension fund is probably invested in those markets.)

Prediction Three, then: the failure of the euro won’t stop at Greece. It’s hard to say from here which country will be first to follow its lead, but I personally wouldn’t buy Spanish, Italian, or Portuguese bonds at anything more than 20-30 per cent of face value. (And that’s being nice: Greek bonds have lost much more than that.)

French President Francois Hollande was elected on an anti-austerity platform – but may struggle to keep his promises

Thus far, my predictions would be fairly widely shared among financial experts. Thereafter, it’s hard to read the future. Take, for example, the ‘simple’ question about what happens if Greece quits the Euro. Any business (and any bank) will have its liabilities denominated in euros, not drachma. Foreign creditors won’t want to be repaid in devalued drachma instead of the promised euros, so a wave of bankruptcies seems likely. Not just the government, but probably all of the banks, and countless businesses too. Naturally the Greek government will want to pass laws that reconstitute those businesses in double-quick time, but the scale of the task is Herculean. And the Greek government isn’t exactly noted for economic and administrative prowess.

Since the imminent failure of Spain and Italy would create problems far larger in magnitude, the ripple effect could be enormous. In fact, can you scratch that term ‘ripple effect’. There are no ripples here, only tsunamis. Just think for example, how France would be affected by the collapse of Spain and Italy. The French economy is deeply entwined with those two and their failure would bring the financial storms right to the steps of the Quai D’Orsay. Francois Hollande may have been elected on a no-austerity platform, but he might as well promise an end to gravity. So, Prediction Four: the French are about to endure a savage austerity programme of their own. And bonne chance in explaining that one, Monsieur.

Thereafter, what to say? The central banks won’t take any blame for creating more than a decade and a half of loose money and massively inflated asset prices. Politicians will continue to prefer comforting lies to brutal truths. No bankers will go to jail, even though they’ve done more than anyone else to create this mess. Germany will be fine. Britain too, in the long run, though it’ll be a long, slow slog: longer and slower than any of the official forecasts had predicted. And when even Ed Balls is still mulling the possibility of a British referendum on Europe, who knows how far the whole European project might yet unravel?

But these are big questions and perhaps distant ones. What about you? Your job, your savings, your pension? Well, I honestly hope and pray you’ll be OK. These are rough waters we’re entering. We ain’t seen nothing yet.

My article was published in todays Daily Mail