Credit Writedowns

So what is a safe haven you might ask? Well I certainly don’t have the final answer, but I would suppose it should as many as the following characteristics as possible.

While the ECB may certainly now buy as many peripheral bonds as it wishes if it deems convertibility risk to be a real issue money is already trickling into cash strapped peripheral economies through the arcane tool of emergency liquidity assistance (ELA)

This post highlights a brilliant piece of journalism by Bloomberg reporters Sharon Smyth, Neil Callanan and Dara Doyle. The story takes us to Spain and Ireland and the former’s denial with regards its housing market. A passage that was particularly staggering was the comments by Miguel Angel Garcia Nieto, mayor of Avila (a town showcased in the article), that this is just an interim soft spot as a result of the crisis and that oversupply and overcapacity will eventually be absorbed. Hope, as they say, springs eternal.

In this first post of a series of 3-5 posts, I try to present the building blocks of the argument as I see them and answer the question of why the traditional view on the liquidity trap does not apply in the current situation.

Despite comparisons with Greece, Portugal is not in entirely the same situation, at least not yet it isn’t. Crucially, Portugal is currently under no obligation to deal with international or national creditors to increasing government debt issuance courtesy of joint aid programme administered by the EU and the IMF. So far so good. Portugal has time and while I am as certain as an economist can be that the country will need debt restructuring, the time between here and there may still prove crucial.

So far, we must give Chinese authorities the benefit of the doubt and it is almost certain that they will now turn from a focus on inflation to a focus on growth. This is particularly the case as inflation has come down significantly in China and while base effects will be an important part of this story, the sharp retrenchment of liquidity will also have mattered.

The ECB and BOE have shown their intent with their recent aggressive balance sheet expansions and the Fed is trying hard to keep the door open for more QE even as the data in the US continues to defy the general global slowdown.

In Asia however sticky inflation in India, a desire to nail property developers to the wall in China and a belief in a post earthquake in Japan have kept the big Asian central banks from providing additional easing. Even in Australia where the economy has been teetering on the brink of a recession for 6 months, the central bank has refrained from any decisive moves.

n the short term, one of the only remaining stumbling block in the form of the ongoing default proceedings in Greece seem to be no match for the ongoing positive animal spirit of the equity market. Only a week ago, we got news that talks in Greece had stalled, but most recently we have been reassured that talks are back on track.

It is my view that the ECB is now the only thing between the economy and widespread bank failures, but I also concur that the consequence of this is a permanent outsourcing of the interbank market in Europe to the ECB’s balance sheet and, quite possibly, Fed’s USD swap lines.

The rumour mill is grinding particularly fast at the moment. Germany and France seem to be working on the famous nuclear solution, Spain plays tough on outsiders, the IMF is rumoured to be preparing an aid package for Italy not to mention Hungary and Austria (just like Belgium) has entered the rating agencies’ cross hair.

So, what to believe?

By Claus Vistesen (see source of image at end of post) I have recently spent a few days in New York talking to clients as well as sneaking in a bit of marathon watching and a visit to the Guggenheim museum. Flying across the big pond also means that there is plenty of time to catch up on movie watching. [...]

The auxiliary objective of QE by the Fed is to weaken the USD. Herein lies the rub. Quite simply, with the recent announcement by the BOE of another round of QE worth £75 billion, with the ECB now willingly or unwillingly being forced into increased support of peripheral debt markets and with the BOJ also pledging more stimulus, the Fed is starting to look like the conservative central bank in the G4. Even if Merkel and Sarkozy, and rightly so, appear most concerned with putting pressure on Italy, the most significant issue remains Greece which is now in default a fact that was un-sanctimoniously confirmed by the leaked bailout document which has the Troika admitting that the medicine they were mandated to administer would only make the patient worse and not better.