Brown proposes EU action plan to stabilise money markets
Who would have thought that Gordon Brown would emerge from this crisis as Europe’s one and only true leader? A day after proposing what is by the far the most impressive rescue scheme we have had so far, Le Monde has now obtained a letter he sent to all EU leaders yesterday calling for a concerted action to guarantee interbank credits and reinstall confidence between banks. In the letter he wrote that the medium term interbanking market is frozen on the entire planet with potentially grave consequences. Brown writes that the guarantee should only apply to new credits and should be evaluated at market rates: to benefit from it banks need to pay. The measure should be limited in time, non discriminatory and non distortive. Member states are to conduct their operations at home but in a concerted manner with other member states. The article goes on arguing that guarantees at national levels can become too costly for one country, a guarantee of a group of nations, the EU or the G7 could be much more efficient.
The idea is focusing entirely on providing insurance for the interbanking market, rather than a grand European bailout scheme. This is a very innovative way forward, and is gaining momentum.
Writing in FAZ, Manfred Neumann yesterday had a similar idea. He proposed that the German government negotiates a mutual insurance scheme with the banks to cover each other for failures in the interbanking market, since the problem there appears to be a lack of trust. He says it can be done without any state guarantee whatsoever. In a second step, this scheme might be extended to the rest of Europe. (We think this goes in the right direction, but there two specific problems with this proposal. It is national – and for that reason alone unlikely to work. More seriously, that this scheme would not work if a sufficient number of banks were insolvent so that this insurance cannot be met. Who pays the insurance if the entire system collapses, and this tail risk certainly is certainly a consideration in the banks’ decision to shun the interbanking market. We would need the state in this case. So Gordon Brown’s proposal is the way to go in our view)
Global central banks yesterday agreed a co-ordinated cut interest rates, by half a percentage point, which appeared to least to put an end to the five-day market crash. Yesterday, seven central banks (Fed, ECB, BoE, plus the central banks of Switzerland, Sweden, Canada and the UAE) cut rates. The ECB decided in addition that as from Wednesday, the ECB will offer euro area banks unlimited weekly funds at the repo rate. This is a major escalation in its liquidity policies. The hope is that this would reignite the interbanking-market. At the same time, the ECB is getting close to exhaust its policy toolkit, according to the Wall Street Journal. The WSJ also reports on speculation that the Fed might cut again in three weeks (back to 1%!). The bad news from the US is that the funding needs for AIG are significantly higher than previously thought, almost $40bn, which is very typical. The same happened with Hypo Real Estate, IKB and others in need of a sudden cash injection.
Britain leads the way
Gordon Brown is the man of the moment, and currently the world leader with the most consistent approach to this crisis. His recapitalisation plan for the British banking sector, where the state will invest in the banking sector in return for preference shares, has easily been the most intelligence response to this crisis we have seen so far. Paul Krugman is rightly full of praise for the British prime minister. It could be a model for the US to emulate. In a separate article, Krugman argues that the Brown plan is a little cheaper as a percentage of GDP than the Paulson plan, but likely to be much more effective. Gillian Tett, writing in the FT, also makes the point that after a series of bad policy decision, the UK plan might actually work.
Overnight there were rate cuts from Taiwan, South Korea and Hong Kong, which led to an overall increase in stock prices. In Europe, the rate cuts failed to reignite the markets, as Germany’s Dax was at 5000, down 5%, the DJIA at 9250, down 2%, but it appears now that this particular bear attack is over, for now.
Willem Buiter says that he expected a move by central banks, but nothing on this scale. This was truly impressive. He also pointed out that the BoE will continue to repo at 3-month maturity – and at 1-week maturity for dollars.
Perhaps we are comparing this to the wrong Great Depression
Douglas Muir, in a Fistful of Euros, dug out a very interesting article in the Chronicle Review, which says that comparisons with the 1930s Great Depression are totally misleading as this was cause factors that are no longer present today (such as Germany’s inability to pay back war debt, high inventories, etc.) A far more appropriate Great Depression to compare this to is the Great Depression of the early 1870s, which started a boom due to massive US imports, as Europeans overestimated their own growth potential. There was an important boom, a mortgage boom, and a construction boom, a genuine property price bubble. America then played the role of China today. After a four-year boom, the crash came in 1873.
How the crisis is shifting Europe to the Left
Europe’s Socialists hope that the financial crisis could give them a big lift. Franz “locust” Muntefering, the designated SPD leader, wants to use the crisis to campaign for a bigger welfare state in next year’s general elections, according to FT Deutschland. Never a man to miss a popular trick, this gamble may well pay off, though some political analysts say the main beneficiary of the crisis will be the far left.
French Socialists, meanwhile, also seek to define their policy response to the financial crisis. First ambitions are to bring the debate t to a European level. The election campaign in June 2009 will be dominated by the question on how to regulate the markets and the role of public authorities in it. The party is still divided by those who consider the current crisis as an accident and those who consider this a defeat of liberalism. But they see it as an opportunity that banks are currently nationalized to ask what the public gets in return. Of course this debate also puts the independence of the ECB on the table.
FAZ on the political implications of the crisis for Germany
Berthold Kohler in Frankfurter Allgemeine argues that the crisis has hit Germany at a bad political moment, when the country was already shifting towards the left. These events will do more than just accelerate this trend. They will shift the entire coordinate system of German politics to the left with very serious consequences for all aspects of economic policy.
Spain’s 2009 recession
El Pais focuses on the Spanish section of the IMF’s latest World Economic Outlook, which is forecast a soft landing for the euro area as a whole, but not exactly for Spain, which according to the IMF will fall into recession in 2009, the first recession since 1993. El Pais notes that the downward revision is large for Spain than any other country, including the UK.
Some positive news from the US housing market
The US housing market is a key to resolving the crisis, and we are watch it closely. Yesterday we have had some good news. While prices are still falling, one forward look indicator is now showing some stabilisation. Calculated Risk reports that pending home sales have risen strongly in August, and the index now stands at its highest level since June 2007. Existing home sales are expected to follow the same trend. In a separate, and very interesting analysis, the blog looks at how far we have come from the peak of the housing boom, in various categories, such housing starts, new home sales, price to income, and other measures. While the analysis concludes that price still have further to fall, there is now an end to the housing market recession in sight. (though this view critically assume that there will be no significant overshooting on the downside. That in turn will depend whether the global banking system gets going again. At the moment we would not bet on a no-overshoot forecast).
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