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April 2020
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A Documentary on European Crisis

WSJ crew came out a nice documentary on European crisis – something to put in your archive.

ECB’s liquidity injection: game changer, or not?

According to WSJ, the ECB last week rushed out emergency support for the euro-zone banking system, laying out an unprecedented €489 billion at its first-ever three-year lending operation.

The amount of money parked by euro-zone banks in the ECB’s 0.25% deposit facility surged to another new record of €452.03 billion Tuesday (Dec.27) , up from €411.81 billion over the Christmas break and well above the previous record high of €384 billion.  News that euro-zone banks are parking more and more cash at the ECB’s low-yielding, but safe, deposit facilities adds to evidence that banks are more concerned with seeing out the year in safety than with putting it to work in the real economy or the euro-zone debt markets.


Watch this interview of Bob Mundell –  he thinks this is the game changer, a blockbuster event.


Dennis Gartman seriously doubted it. In his recent investment newsletter, Gartman describes how Europe has arrived at its own “Lehman moment.”

The problem in Europe is that we’ve arrived at Europe’s own “Lehman-moment” when banks and institutions are wholly unwilling to lend money to anyone, anywhere. They are willing to draw down their lines of credit from the ECB, but they are re-depositing those borrowings back to the ECB itself. Initially we thought this reasonable. Initially we thought that the banks drew down their lines from the Central Bank and re-deposited them with the Bank awaiting investment elsewhere. We thought this normal. Now, however, we consider it disconcerting for it shows the utter sense of confusion and the even more utter sense of fear that has engulfed the banking system in Europe. Rather than viewing these new credit lines from the ECB as a source of funding for investment, the banks in Europe are viewing those ECB-created funds as a source of “fear capital” to be used should worst-come to-worse on the continent. Fear rather than optimism is driving the banking system.

We fear then that worse is about to happen, for the very core of things banking and economic depend upon trust and trust is now wholly lacking in Europe.



When debt contagion arrives…

Now it looks like no matter what Europeans are trying to do, and how many summits politicians rush to put together, things just keep getting worse.

If PIGS (Portugal, Italy, Greece and Spain) were to ‘fly ‘, and debt contagion were to spread, and Europe’s Lehman moment finally to arrive, you probably want to at least have a slightest hint of where the next domino is likely to fall. That’s the purpose of this short post.

The following four charts are from researchers at BIS, including my former Brandeis teacher Steve Cecchetti.  I suggest that everybody take a minimum of five minutes going through these tables. For nerds like me, I stick them on the wall in my office.

All debt:

[singlepic id=17 w=240 h=180 float=]

Government debt:

[singlepic id=19 w=240 h=180 float=]

Household debt:

[singlepic id=20 w=240 h=180 float=]

Corporate debt:

[singlepic id=18 w=240 h=180 float=]


Why German bond yields are rising?

From WSJ, what it signals when the German bond yields are rising:

Yields on German 10-year government bonds have risen 0.25 percentage point in the past week to 2.15% even as the euro-zone crisis has deepened. Until now, whenever the crisis has intensified, German yields have fallen and the yield premium for southern European bonds has risen. This shift is a sign the end-game is approaching.

The difference is that buyers of U.S. and U.K. debt can be certain which country’s debt they are getting—and what currency it is denominated in. The euro-zone crisis is becoming binary. One possibility is greater integration, such as common bond issuance, which implies greater costs for Germany and fiscal dilution. The other is break-up, which implies costs for every country but which may favor short-dated German paper given the possibility of currency appreciation.

Euro = Failure

“You are all in denial. By any objective measure the euro is a failure. And who exactly is responsible, who is in charge out of all you lot? The answer is none of you because none of you have been elected; none of you have any democratic legitimacy for the roles you currently hold within this crisis.”



What’s Euro’s endgame?

Chris Wood shares his insights on what’s likely the endgame of European sovereign debt crisis.

He predicts it will be either a move from monetary union to fiscal union, or a complete breakdown of the Euro. He thinks the first scenario is more likely and Germany will eventually budge.


Then, Jim Rogers comes in with his thoughts:

Summit after Summit

Summit after summit – this seems to be what Europeans are best at.  So are Europeans just delaying the inevitable? Europe’s Lehman moment.

Watch this insightful analysis from FT:

(click to watch the video)

Who owns Greek debt?

Greece has total debts of €346.4bn. About a third of this debt is in public hands (34.8% is attributable to the IMF, ECB and European governments), roughly another third is in Greek hands (28.8%, essentially for banks) with the remainder (36.4%) held by non-Greek private investors.


Can ECB prevent an European contagion

So far, ECB has been using the wrong tools to fix a very urgent crisis.  Bailout and debt monetization won’t solve the problem.  Either way, it puts too much pressure on Euro.

(click on the graph to play the video; Source: FT)

John Cochrane at U. of Chicago thinks the right approach is to have a bailout with precondition of debt restruction.

If European governments want to bail out their banks, let them do so directly and openly—not via the subterfuge of country bailouts. Then they should face the music: How is it that two years after the great financial crisis, European banks make so-called systemically dangerous sovereign bets, earn nice yields, and then get bailed out again and again?

European bank regulators should announce that sovereign debt is not risk-free, and that their banks need capital against sovereign loans, or they need to buy insurance (credit default swaps) against sovereign exposure. Will taking this step hurt bank profits? Well, yes. Sorry. That game, at taxpayer expense, is over.


The big culprit in all of this is short-term debt. There would be no crises if governments had issued long-term debt to match long-term plans to repay that debt. If investors become gloomy about long-term debt, bond prices go down temporarily—but that’s it. A crisis happens when there is bad news and governments need to borrow new money to pay off old debts. Only in this way do guesses about a government’s solvency many years in the future translate to a crisis today.

There are two lessons from this insight. First, given that the Europeans will not let governments default, they must insist on long-term financing of government debt. Debt and deficit limits will not be enough. Second, the way to handle a refinancing crisis is with a big forced swap of maturing short-term debt for long-term debt. This is what “default” or “restructuring” really means, and it is not the end of the world.

What’s behind Euro’s sharp rebound?

The biggest banks are unwinding their short positions against Euro.  Whenever a large number of negative bets on a currency is closed, that currency climbs.

Story from WSJ:

Some of the world’s most prestigious foreign-exchange banks are ripping up their gloomy forecasts for the rallying euro.Several of the top banks in the business are backtracking on their previously dire predictions for the single currency, most of which were formed when the European monetary union itself seemed in peril during April and May this year.

Some believe this is nothing new, a natural consequence of the market’s stabilization after an extraordinary run of events for major currencies this year. However, some industry veterans say that the market is now beholden to new forces that few if any market watchers yet fully understand.

…On Monday, Switzerland’s UBS AG —the world’s second-biggest bank in foreign exchange—tore up its forecast for the euro to be trading at $1.20 against the dollar in the next month. It now expects to see the currency at around $1.28—a 6% revision.

In a separate research note, the bank described the euro as “exasperating,” adding that the currency’s rally from under $1.19 in early June to over $1.30 by late July had “wrong-footed many in the currency market.”

Other banks caught off guard include Credit Suisse, another top-10 operation, which in late July upgraded its three-month forecast for the euro’s level against the dollar to $1.30 from $1.16, citing, in part, “a more rapid than anticipated recovery in euro-area policy credibility.”

BNP Paribas SA, whose analysts have held some of the gloomiest views of any in the market, took a similar step towards the end of July. “We still expect the euro to trade lower against the dollar, but the trough should be near $1.10 rather than $0.97,” the bank said.

European regulators’ stress tests on the region’s banks have played a big role. The generally upbeat results were roundly criticized when they were released July 23, but longer-term, the tests have rebuilt confidence in Europe’s financial sector and eased nerves over the euro area’s government bonds.

In addition, concerns that the U.S. may slip back into recession, and that the U.S. Federal Reserve may be drawn into further bond purchases to support the economy, took many in the market by surprise, and hit the dollar hard.

“We don’t often get extremes of pessimism like we had in April and May. It was dangerous,” said Marshall Gittler, a director and chief strategist at Deutsche Bank Suisse SA in Geneva, who has been watching the currencies market since 1998.

“We have gone from an Armageddon scenario, where some people thought the euro really might break up, to euphoria, or at least a return to normality, in a very short time,” he said.

Mr. Brown at Mitsubishi said that the sorts of hefty revisions banks are making now are a common part of the market’s rhythm. “My broad view is that it’s no harder to predict currency movements than it ever was,” he said.