The Fight Over the Euro and the Increasing Deficit in Washington

I think I am with Rufus, somewhat bewildered by what happened in Washington in the last two days. Boiled down we have a new stimulus plan that will add at least another $1 trillion to the deficit, the same deficit that was ending the world two weeks ago.

The stock market loved it till about lunch time and then took another look at Europe and lost its courage. Obama gave one of his bizarre talks and may have helped the downturn. Oil keeps going up as Obama keeps shutting oil wells down. No surprise there. What is also no surprise is the depth of their stupidity. Let me see if I have this straight.

WE have added another trillion to the deficit in a coordinated effort to create employment. At the same time we are shutting down high paying energy jobs in the gulf area by restricting oil drilling. The restriction is driving up the cost of imported oil which adds to the trade deficit. The higher price of oil is in fact a foreign tax on the American consumer and is another net job killer. This is being done for environmental reasons but foreign drilling in the same waters off Cuba continues.

rufus said...

Well, the votes are in. It's Overwhelming. A Landslide. I'm an idiot. The dumbest asshole in America. The Dumbest Asshole in the world!

I haven't a clue what's going on in DC. This is like a trip to "The Twilight Zone."

I'm not "sad." I'm not "glad." I'm bemused. I feel like I've gone to sleep, and awoke in the middle of a "Chinese Metaphysics" class.

Either I'm having a nervous breakdown, or the rest of the world is.

I feel like I'm watching that goofy Kenny Rodgers flick where the guy folds a Royal Flush (and, the rest of the world is standing around going, "that's all he could do." Huh?

Maybe I'll think about it in the morning. And, maybe not.

Mensa Ain't Us.

Dummer'n Doornails is Us.

Tue Dec 07, 10:05:00 PM EST

Meanwhile the fight between international financiers and the European Central Bank continues. The Euro goes down, the dollar goes up and the market gets depressed. Where this leads is very clear to someone, I hope.

_______________________________


Central Bank and Financiers Fight Over Fate of the Euro
By GRAHAM BOWLEY and JACK EWING
Published: December 7, 2010
NY Times

On one side is the European Central Bank, which is spending billions to prop up Europe’s weak-kneed bond markets and safeguard the common currency.

On the other side are hedge funds and big financial institutions that are betting against those same bonds and, by extension, against the central bank, that mighty symbol of Europe’s monetary union.

The war keeps escalating as traders position themselves for what some believe is inevitable: a default by Greece, Ireland or perhaps even Portugal.

The strains grew Tuesday, when European finance ministers made no pledge to increase the emergency fund that the European Union has put in place to help protect the euro. The head of the International Monetary Fund, meantime, urged Europe to take broader action to fend off speculators.

“The game now is one now of cat and mouse,” said Mohamed A. El-Erian, chief executive of the bond giant Pimco.

Since May, when the Greek debt crisis exploded, the European Central Bank has bought an estimated $69 billion of Greek and other government bonds. It has also indirectly injected hundreds of billions dollars into weak banking systems in Greece and Ireland.

But the speculators keep coming back. After the bond purchases fell to zero in October, the central bank waded back into the market aggressively last week, buying about $2 billion of debt securities, mostly Irish and Portuguese securities, traders said. The bank, based in Frankfurt, has yet to disclose the size and scope of the purchases late last week, when its intervention was the most intense.

While the bank appears to have backed off this week, traders are waiting for the official accounting of its latest purchases. The data are due Monday — and will provide some idea of just how aggressive the central bank has been.

Already, the central bank owns about 17 percent of the combined debt of Greece, Ireland and Portugal, Goldman Sachs estimates. Yet in the bank’s mano a mano with the bond market, psychology could be more important than money. No single hedge fund, after all, can hope to outgun the central bank.

The bank also has the element of surprise. By emphasizing that the central bank is “permanently alert,” Jean-Claude Trichet, its president, has raised the risk for speculators who might try to profit by selling short Greek, Portuguese or Irish bonds.

But the amount of intervention so far is far smaller than many investors and economists think is necessary to calm markets. These people assert that the central bank, its assurances aide, is concerned about taking on so many bonds of peripheral European countries — and being forced into what would be a de facto bailout of overextended government borrowers and the banks that bought their bonds.

And the markets continue to probe that discomfort. Pimco, for example, sold the vast majority of its holdings of Greek, Irish, Portuguese and Spanish government bonds late last year and early this year, although it continues to hold German bonds, considered Europe’s safest.

Pavan Wadhwa, head of European rates strategy at JPMorgan Chase, one of the main dealers in European government debt, said many clients had been eager to sell bonds of peripheral European nations to the central bank and would do more if the bank continued to buy, reflecting a belief that one or more countries were headed for insolvency.

“If the E.C.B. wants to buy, I would still be recommending to sell into the demand,” he said.

Mr. Wadhwa said in its latest operations the central bank had hoped investors would hold onto their bonds, encouraged by its presence in the markets. Instead, many had taken the opportunity to sell.

The chief investment officer of a large New York-based hedge fund, who spoke on the condition of anonymity because he was not authorized to comment publicly, said his fund and others had shorted Portuguese and Irish government bonds during the summer. They had done so by selling bonds in the cash market directly but mainly by buying protection against default in the market for credit-default swaps, a type of derivative.

“That trade was profitable,” this money manager said. But he said the fund had closed its position because the trade had no further to run — the market was now discounting a strong likelihood that Ireland would be forced to restructure its debt in four or five years.

Even after the central bank’s intervention last week, speculators have been maintaining large positions in credit-default swaps on Spanish bonds and on the debt of Spanish banks.

According to JPMorgan’s calculations, the credit-default swaps market implies around a 15 percent probability in any year of a Spanish default for the next five years.

Still, traders and analysts say the central bank is a sophisticated market actor. It conducts many trades via the Bundesbank and other national central banks, which in turn act through a circle of commercial dealer banks.

Mr. Trichet is known to keep a data terminal on his desk and speak frequently with the bank’s 20 in-house bond traders. He also occasionally visits them on a lower floor of the bank’s headquarters.

For the central bank, the timing of the latest flare-up was, in a way, convenient. Bond trading typically tapers off at the end of the year as fund managers close out their positions. So trading was thin and the bank was able to move the market with relatively small sums, traders said.

“It may be that the E.C.B. could have moved spreads a long way without buying that many bonds,” said Steven J. Major, global head of fixed income research at HSBC in London.

By placing a lot of orders with numerous banks, the central bank also created buzz in the market, which helped exaggerate the effect of its bond buying.

But according to many traders, the bank has so far not intervened in the markets for Spanish or Italian debt, which would be harder to influence because of their relatively large size.

Stephen Castle contributed reporting.

Now Italy?...the worst single day in Mediterranean markets since the launch of monetary union.

They seemed so confident only yesterday

Contagion strikes Italy as Ireland bail-out fails to calm markets

The EU-IMF rescue for Ireland has failed to restore to confidence in the eurozone debt markets, leading instead to a dramatic surge in bond yields across half the currency bloc.

Telegraph

By Ambrose Evans-Pritchard, International Business Editor 8:15PM GMT 29 Nov 2010

Spreads on Italian and Belgian bonds jumped to a post-EMU high as the sell-off moved beyond the battered trio of Ireland, Portugal, and Spain, raising concerns that the crisis could start to turn systemic. It was the worst single day in Mediterranean markets since the launch of monetary union.

The euro fell sharply to a two-month low of €1.3064 against the dollar, while bourses slid across the world. The FTSE 100 fell almost 118 points to 5,550, while the Dow was off 120 points in early trading.

"The crisis is intensifying and worsening," said Nick Matthews, a credit expert at RBS. "Bond purchases by the European Central Bank are the only anti-contagion weapon left. It needs to act much more aggressively."

Investor reaction comes as a bitter blow to eurozone leaders, who expected the €85bn (£72bn) package for Ireland agreed over the weekend to calm "irrational markets".

While the Irish rescue removed the immediate threat of "haircuts" for senior bondholders of Irish banks, it leaves open the risk of burden-sharing from 2013 on all EMU sovereign bonds and bank debt on a "case-by-case" basis. Traders said bond funds have been dumping Club Med bonds frantically to comply with their "value-at-risk" models before closing books for the year.

Yields on 10-year Italian bonds jumped 21 points to 4.61pc, threatening to shift the crisis to a new level. Italy's public debt is over €2 trillion, the world's third-largest after the US and Japan.

"The EU rescue fund cannot handle Spain, let alone Italy," said Charles Dumas, from Lombard Street Research. "We may be nearing the point where Germany has to decide whether it is willing take on a burden six times the size of East Germany, or let some countries go."

Italy distanced itself from trouble in the rest of southern Europe early in the financial crisis, benefiting from rock-solid banks, low private debt, and the iron fist of finance minister Giulio Tremonti. But the crisis of competitiveness never went away, and the country has faced a political turmoil for weeks.

If Portugal and Spain have to follow Ireland in tapping the EU's €440bn bail-out fund – as widely feared after Spanish yields touched 5.4pc – this will put extra strains on Italy as one of a reduced core of creditor states. The rescue mechanism has had the unintended effect of spreading contagion to Italy, and perhaps beyond. French lenders have $476bn of exposure to Italian debt, according to the Bank for International Settlements.

In Dublin, Fine Gael, Labour and Sinn Fein have all vowed to vote against the austerity budget in early December, raising doubts over whether the government can deliver on its promises to the EU.

Echoing the national mood, Sinn Fein leader Gerry Adams said it was "disgraceful" that the Irish people should be reduced to debt servitude to foreign creditors of reckless banks. "The costs of this deal to ordinary people will result in hugely damaging cuts," he said.

One poll suggested a majority of Irish voters favour default on Ireland's bank debt. Popular fury raises the "political risk" that a new government elected next year will turn its back on the deal.

Premier Brian Cowen said there was no other option. "We are not an irresponsible country, " he said, adding that Brussels had squashed any idea of haircuts on senior debt. Irish ministers say privately that Ireland is being forced to hold the line to prevent a pan-European bank run.

There is bitterness over the EU-IMF loan rate of 5.8pc, which may be too high to allow Ireland to claw its way out of a debt trap. Interest payments will reach a quarter of total revenues by 2014. Moody's says the average trigger for default in recent history worldwide has been 22pc. "The interest bill is enormous. The whole process lacks feasibility," said Stephen Lewis, from Monument Securities.


Olli Rehn, the European economics commissioner, said Ireland is in better shape than it looks, recording the EU's strongest growth in industrial output in September as the IT and drug industries boost exports.

"Ireland's real economy has not gone away. It is flexible, open, has strong fundamentals, and has the capacity to rebound relatively rapidly. The Irish are smart, resilient, stubborn people, and they will overcome this challenge," he said.

Every bank safe deposit box in Germany is filled with Silver and Gold

There does not seem to be to an ending to the banking and debt crisis contagion in Europe.

On Friday, the gap in yields between German and Spanish 10-year government bonds hit a record high of 2.63%. This, before there is a firm agreement on the Irish problem. Spain’s budget deficit is 11.1%

The yield premium to buy Italy’s 10-year debt over German bunds reached a euro-era record 1.9% on Nov. 12, yet Italy is in itself doing a better job than either Ireland or Spain. Ireland’s deficit of 14.3% in 2009 was almost three times Italy’s deficit of 5.3%.

Keep in mind that European rules dictated spending deficits of under 3%.

Greece is still a problem and the Bundesbank chief Axel Weber claimed the EU had set aside enough money to cover the borrowing needs of the euro zone's worst debtors -- Greece, Ireland, Portugal and Spain -- but could muster more if needed.

Oh, really? Where is all that money going to come from? Germany?

___________________________________


EU rescue costs start to threaten Germany itself

The escalating debt crisis on the eurozone periphery is starting to contaminate the creditworthiness of Germany and the core states of monetary union.


By Ambrose Evans-Pritchard 6:00AM GMT 26 Nov 2010
Telegraph

Credit default swaps (CDS) measuring risk on German, French and Dutch bonds have surged over recent days, rising significantly above the levels of non-EMU states in Scandinavia.

"Germany cannot keep paying for bail-outs without going bankrupt itself," said Professor Wilhelm Hankel, of Frankfurt University. "This is frightening people. You cannot find a bank safe deposit box in Germany because every single one has already been taken and stuffed with gold and silver. It is like an underground Switzerland within our borders. People have terrible memories of 1948 and 1923 when they lost their savings."

The refrain was picked up this week by German finance minister Wolfgang Schäuble. "We're not swimming in money, we're drowning in debts," he told the Bundestag.

While Germany's public and private debt is not extreme, it is very high for a country on the cusp of an acute ageing crisis. Adjusted for demographics, Germany is already one of the most indebted nations in the world.

Reports that EU officials are hatching plans to double the size of EU's €440bn (£373bn) rescue mechanism have inevitably caused outrage in Germany. Brussels has denied the claims, but the story has refused to die precisely because markets know the European Financial Stability Facility (EFSF) cannot cope with the all too possible event of a triple bail-out for Ireland, Portugal and Spain.

EU leaders hoped this moment would never come when they launched their "shock and awe" fund last May. The pledge alone was supposed to be enough. But EU proposals in late October for creditor "haircuts" have set off capital flight, or a "buyers' strike" in the words of Klaus Regling, head of the EFSF.

Those at the coal-face of the bond markets are certain Portugal will need a rescue. Spain is in danger as yields on 10-year bonds punch to a post-EMU record of 5.2pc.

Axel Weber, Bundesbank chief, seemed to concede this week that Portugal and Spain would need bail-outs when he said that EMU governments may have to put up more money to bolster the fund. "€750bn should be enough. If not, we could increase it. The governments will do what is necessary," he said.

Whether governments will, in fact, write a fresh cheque is open to question. Chancellor Angela Merkel would risk popular fury if she had to raise fresh funds for eurozone debtors at a time of welfare cuts in Germany. She faces a string of regional elections where her Christian Democrats are struggling.

Mr Weber rowed back on Thursday saying that a "worst-case scenario" of triple bail-outs would require a €140bn top-up for the fund. This assurance is unlikely to soothe investors already wondering how Italy could avoid contagion in such circumstances.

"Italy is in a lot of pain," said Stefano di Domizio, from Lombard Street Research. "Bond yields have been going up 10 basis points a day and spreads are now the highest since the launch of EMU. We're talking about €2 trillion of debt so Rome has to tap the market often, and that is the problem."

The great question is at what point Germany concludes that it cannot bear the mounting burden any longer. "I am worried that Germany's authorities are slowly losing sight of the European common good," said Jean-Claude Juncker, chair of Eurogroup finance ministers.

Europe's fate may be decided soon by the German constitutional court as it rules on a clutch of cases challenging the legality of the Greek bail-out, the EFSF machinery, and ECB bond purchases.

"There has been a clear violation of the law and no judge can ignore that," said Prof Hankel, a co-author of one of the complaints. "I am convinced the court will forbid future payments."

If he is right – we may learn in February – the EU debt crisis will take a dramatic new turn.

European Debt Contagion

Contagion hits Portugal as Ireland dithers on rescue

The EU authorities have begun to vent their fury against Ireland over its refusal to accept a financial rescue, fearing that the crisis will engulf Portugal and Spain unless confidence is restored immediately to eurozone bond markets.

Ambrose Evans-Pritchard- Telegraph

_____________________________________________

November 15, 2010

Europe Fears That Debt Crisis Is Ready to Spread

By LANDON THOMAS Jr. and JAMES KANTER

LONDON — European officials, increasingly concerned that the Continent’s debt crisis will spread, are warning that any new rescue plans may need to cover Portugal as well as Ireland to contain the problem they tried to resolve six months ago.

Any such plan would have to be preceded by a formal request for assistance from each country before it would be put in place. And for months now, Ireland has insisted that it has enough funds to keep it going until spring. Portugal says it, too, needs no help and emphasizes that it is in a stronger position than Ireland.

While some important details are different, the current situation feels eerily similar to what happened months ago in Greece, where the cost of borrowing rose precipitously.

European authorities stepped in with a rescue package, expecting an economic recovery and the creation of new European rescue funds to fend off future panics by bond investors whose money is needed by countries to refinance their debt.

But with economic conditions weakening, markets are once again in turmoil. Rescuing Ireland may no longer be enough.

Stronger countries and weaker countries using the common currency of the euro are being pulled in different directions.

Some economists wonder if unity will hold or if some new system that allows countries to move on one of two parallel financial tracks is needed.

Despite the insistence of Irish officials that only its banks need additional help, investors continue to bet on an Irish rescue, driving down the bond yields on that country’s debt against a benchmark again on Monday.

Portugal’s yields increased to 6.7 percent, underscoring the emerging concern in Brussels, the administrative center of the European Union, that it would be irresponsible to adopt a plan to prop up Ireland without addressing the possibility that turmoil could ultimately engulf Portugal, or even Spain. Like Ireland, Portugal has struggled to grow under the fixed currency regime of the euro. Though Portugal has raised enough funds of late from bond markets, its budget deficit is 9 percent of its gross domestic product, much higher than the 3 percent limit for countries in the euro zone. With its weak government and slow growth, investors have grown fearful that Portugal, too, will eventually run out of funds.

While Ireland has largely impressed European officials with its commitment to austerity, Portugal has been lagging in this regard, according to European officials. One official in Europe, who asked for anonymity because he was not authorized to speak publicly, said that the budget recently presented by the government in Lisbon did not contain the type of far-reaching changes proposed by other countries, like Spain.

“If Ireland were to ask for aid, then you’d have to look at what’s going on in Portugal as well,” the official said, putting forward a view rescuing Ireland alone would not keep speculators from other vulnerable countries.

José Manuel Barroso, president of the European Commission, said on Monday that Ireland had not requested aid. “We have all the instruments to address the problems that may come either in the euro area or outside the euro area,” he told reporters in Brussels.

The Portuguese finance minister, Fernando Teixeira dos Santos, said Monday evening in Brussels that the situation in Ireland was creating dangers for all countries using the euro.

“If things are getting worse in Ireland, for instance, that will have a contagion impact on the other euro zone economies and particularly on those that are under closer scrutiny of markets, like Portugal,” he said. Asked if Ireland should accept a bailout to stem the contagion, Mr. Teixeira dos Santos said, “It’s not up to me to make that assessment.”

Even so, Mr. Teixeira dos Santos emphasized that his country was not preparing to ask for a rescue package.

Mr. Teixeira dos Santos also said his government was preparing a robust budget that would cut wages, freeze pensions and raise taxes. “We are really committed to meet our targets,” he said. “I think we deserve that the market gives us the chance to show that.”

The bureaucratic machinations in Brussels highlight one of the main concerns that grew out of the establishment earlier this year of a rescue fund of 500 billion euros (about $680 billion at today’s exchange rate) by the European Union after the Greek budget crisis: What happens if, in the next crisis, multiple countries need aid at the same time?

Months later, it remains unclear how, in practice, countries like Ireland and Portugal would tap the rescue money.

Of paramount concern to policy makers in Europe is Spain, which is struggling to close its own deficit of 9 percent of G.D.P. at a time when unemployment is more than 20 percent and the economy is failing to grow.

Just as the growing inability to get a precise reading on Ireland’s banking losses has propelled the Irish crisis, the extent of Spain’s own banking vulnerabilities — which, like Ireland’s, originate from a real estate boom and bust — remain unclear.

Until now, a series of austerity measures has allowed Spain to escape investor scrutiny. But late last week the spread, or risk premium, between Spanish and German bonds widened to a record high of 2.3 percentage points, underscoring investor fears.

Worries about the banks have peaked recently in light of data showing that distressed loans are now 5.6 percent of total Spanish bank loans — the highest level since 1996.

In Ireland, banking troubles lie at the root of what many in Europe are now calling a solvency crisis, reflecting long-term concern over Ireland’s ability to repay its debts, as opposed to the lack of short-term funds that forced the Greek rescue last spring.

“This policy of saving banks at the cost of breaking the back of entire countries is a disaster,” said Daniel Gros, director for the Center for European Policy Studies in Brussels. “Ireland is beyond fiscal plans as long as one cannot see the bottom of the losses in the banking sector,” he said. The only way to “stop the rot,” he added, “would be to let the Irish banks go under” and then use the European funds to “tide over the government until markets and the economy recover.”

Ireland is unlikely to let its banks fail, but it has been unable to accurately forecast its banking losses — or say whether bondholders will pay part of the bill.

Irish banking losses are estimated at up to 80 billion euros ($109 billion), depending on the forecast used, or 50 percent of the economy. As long as housing prices continue to fall, these losses cannot be capped.

Landon Thomas Jr. reported from London and James Kanter from Brussels. Stephen Castle contributed reporting from Brussels, Jack Ewing from Frankfurt and Raphael Minder from Geneva.

New York Times