Euro area hits zero bound for economic forecasts
There seems to be a gentlemen agreement by forecasters not to predict recessions, for fear of creating self-fulfilling prophecies. But this also means that, as the economic situation worsens, forecasters a constrained by a zero bound. In the euro area, we have reached that position yesterday, when the European Commission forecast exactly zero rates of growth for Germany, France and Italy, -0.2% for Spain, and 0.1% for the euro area as a whole. The forecast is clearly not good, and yet too optimistic, as credit constrains work their way through into a fall in real economic activity.
Joaquin Almunia called on member states, Germany in particular, the use the available room for manoeuvre in fiscal policy, which caused hysterical reactions in the German media (more below).
FT Deutschland focuses on the comments by Almunia that the Commission is concerned about the rise in bond spreads. Almunia said that the problems in EMU will grow unless we get this problem under control. In recent weeks, government debt of Greece, Portugal, Italy and Spain has been down-graded by the markets, making debt financing more expensive for governments. The article quotes Jean Pisani-Ferry as saying the eurozone was paying a price for the fragmentation of its bond markets. Daniel Gros said that Greece could become among EMU countries what Lehman was among banks.
A good comment from Willem Buiter…
Willem Buiter uses the Mundell-Fleming model to argue that in open economy, a national fiscal stimulus has no domestic effect, it is an “enrich-thy-neighbour” policy, as the fiscal stimulus is crowded out by an appreciation of the real exchange rate. He says a $500bn stimulus, as currently discussed in the US, would be welcomed by the rest of the world, but would do hardly anything for the US, where this would increase risk premia on government debt. He said fiscal expansion should be undertaken by countries with sustainable fiscal positions, i.e. not the US and the UK, but Germany, which is only considering a measly €5bn “stimulus”.
… and a pathetic comment from Germany
We are normally trying to keep a straight face when summarising comments with which we disagree, but Frankfurter Allgemeine´s hysterical comment about Almunia´s cautious endorsement of counter-cyclical policies is a good example of Germany´s current toxic mindset. It accuses the Commissioner of transgressing his responsibilities by encouraging Berlin to raise deficits. Other countries would imitate the decision, as if part of a conspiracy, and Germany would end up as the paymaster general for the entire EU. The commentator appears to have a problem with the term “automatic stabilisers”, which he confuses with a “progressive income tax”. Quite pathetic, but that is the level at which Germany´s most prestigious newspaper debates economic policy.
Spain rescues mortgage holders
Spain has taken a big and good decision yesterday in the attempt to stabilise the economy, by supporting cash-strapped households with a two-year bridging loan to stop foreclosures. The scheme will be effective for the two years, 2009 and 2010, will cover half the monthly mortgage payments up to €500 per month, or €12,000 for the two-year period, and will have to be repaid in the subsequent ten year period. (This is in our view exactly the kind of innovative scheme you need in a crisis. It provides immediate relief. It minimise moral hazard. It does not meddle with house prices, which have to fall a lot further. And it is limited in scope.) See El Pais for more details.
Some thoughts about house prices
The Spanish bail-out is an example of an approach target at borrowers ability to pay, while refraining from policies to interfere with the housing market itself. In the US, a consensus seemed to be building that it is necessary to stabilise house prices. Barry Ritholtz of the Big Picture says this is not a good idea at all. “This is incredibly misguided. Prices are still terribly elevated, and until they revert back to levels that are affordable and clear out the massive excess inventory of new and existing homes, there can be no stabilization.” He makes the point (with which we agree) that prices have to get back to a sustainable level (in terms of rent-to-income and other ratios) for any form of stabilisation to occur.
Commerzbank taps recap fund
A real bank has actually tapped the government’s recapitalisation fund. Commerzbank wants €8.2bn in new capital, and gets a further €15bn in new loan guarantees. The bank said this exercise would cost the bank €500m per year. Now the argument for those aids is illuminating, and must be alarming for the EU competition authorities. According to Frankfurter Allgemeine, The bank said the step became necessary to keep up with other banks in the US, France and the UK, which were recapitalised by force. The board of Commerzbank would, as a result of the state intervention, have to accept some draconian salary cuts.
The German government was so relieved that, finally, a real bank would tap the fund, they got the spokesman of the finance ministry to say a big thank you.
In a separate article the paper reports that in the US, 1800 banks have been applying for state aid, as they fear that the better capitalised banks might not survive.
Fillon angry about French banks´ credit crunch policies
Les Echos reports that PM Francois Fillon yesterday warned the banks to do expand their credits to the private sector, or otherwise the state would be breathing down their necks. A mediator appointed to oversee the continued flow of credit to small and medium sized companies, has reported to have received 300 complaints within 10 days, and the government is in a state of alarm.
Le Monde writes in an editorial that it is principally a good idea for the state to insist that banks keep up the flow of credit to the private sector, but there are two concrete dangers associated with the policy as currently applied. The first is lack of realism. It cites Gordon Brown´s demand that mortgage lending should return to 2007 levels, which is totally irresponsible. And there is also the danger of excessive state involvement.
In defence of local savings banks and mutuals
The German finance expert Wolfgang Gerke, writing in the Financial Times, says that Germany´s three pillar banking system, consisting of private, state and mutual banks, has proved strong during this crisis. What matters is not the ownership structure, but the business model. Small local savings banks and mutuals have pursued much more focused strategies than several of the large Landesbanken or private banks, which have tried to compensate their general business model weaknesses by taking on too much risk.
US recession watch
Election day in the US, and a reminder of what awaits the new president. Here is a selection of economic news from Calcuated Risk
General Motors: Light vehicle sales down 45.1% yoy during October
Ford: Auto sales down 30% yoy during October, the 23rd month of decline
ISM Manufacturing index down from 43.5% to 38.9%
Fed reports significant tightening of lending standards in the last three months
There was a pickup in non-residential construction – at a low level – and further decline in residential construction spending
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