A rate cuts seems imminent now
The ECB yesterday came a lot closer to a rate cut than Jean-Claude Trichet’s statement suggests. We hear that it was not the most harmonious governing council meeting that has ever taken place. Trichet gave a clear signal that rate cuts are ahead. (We will argue in a forthcoming ECB Watch that rate cuts are going to happen earlier than markets currently expect, and that they will be steeper. The ECB is clearly frightened at the prospect of large European bank failures, and their impact on the economy.) The euro, meanwhile, fell to $1.37, as markets are now confronting a new situation. As Trichet was saying, the ECB could move at any time.
What to expect on Saturday
The French have grossly mishandled the run-up to the big country summit in Paris tomorrow, according to FT Deutschland. By proposing a €300bn bailout fund, the French have provoked a public German No even before they had the chance to discuss this idea. The reports say that Sarkozy yesterday publically backtracked both on the €300bn, the supposed size of the fund, and even the idea of a fund itself. “I deny the sum and the principal,” he said. (Yeah right. This will do much to bolster his credibility.)
Les Echos reports that the French have been taken aback by the virulence of the German response, which they consider inappropriate and a sign of a lack of confidence. (You bet!). This is a fine mess of European intergovernmental diplomacy. The FT reports that a possible face-saving initiative could be agreement on common standards for bank deposit insurance. Greece on Thursday became the latest EU country to propose more protection for savers. (Big deal, and hardly a solution to the problem). The country that is pushing hardest for a European-wide bailout is the Netherlands, which according to one French government official, quoted in the Les Echos report, who to socialise the losses they incurred in the Fortis bailout. (This is a textbook exercise of how not to handle crisis diplomacy.) Almost certainly on the agenda is how to handle Irish-style bailouts. Since the Irish are not invited, it is doubtful that this summit is going to produce anything of substance on this issue, though EU leaders will have an opportunity to show their indignation.
After Ireland, now the Greeks are insuring their banking system
This is like domino. After Ireland, Greece became the latest EU country to provide a state insurance of all savings in the domestic system, amid signs that Greek savers were getting nervous. From what we read, this is merely an extreme form of deposit insurance. It does not go quite as far as the Irish bailout, which includes guarantee to bondholders as well.
Putting the boot into the Irish
Willem Buiter has a characteristically robust criticism of the Irish bailout plan, which he calls unlawful, short-sighted, and beggar-thy-neighbour. His conclusion is that bailout out large parts of the banking system is short-sighted, and amounts to a huge transfer of wealth from the taxpayer to the shareholders. The most likely outcome is for the European Commission to trample all over the Irish to impose some limits. (We are not so confident given that everyone in Europe is playing a “be nice to the Irish” game ahead of a second referendum. In the interim, the Irish can pretty much do what they like.)
More Money Market Meltdown
And by the way, the stock market almost crashed yesterday, with the S&P down 4% despite expectations that the latest version of the bailout package is going to succeed. European markets were also down. Germany remains closed today. The FT writes that this change of sentiment reflects a shift of intention among US investors to the real economy.
But the real horrors are in the money markets, where the crisis become a lot worse yesterday, with the TED spread now at 3.62% - this is the difference between 3-month US Treasury Bills and 3-month money on the interbanking market. Effectively this the spread of 3-month dollar money market rates over the risk-free rate, and as such an indicator of stress in the money market. Another indicator is the OIS spread, which measures the difference between the 3-month dollar money market rates over the overnight indexed swap rate, which is a bet on the future Fed funds rate. The OIS spread yesterday widened to a record 260 basis points, the highest ever. Bloomberg reminds us that the OIS was 197bp a week ago, and 79bp a month ago. This is how fast the situation on the money market has deteriorated. The Fed, we understand, is looking at the OIS, but in any case, the picture is not pretty.
UK house price decline at fastest levels since 1991
The UK housing market has now enter the same virulent downwards trajectory as the US housing market, with house prices now down 1.7% in September alone, and a 4.6% decline during Q3, according to the latest data from the Nationwide house price index, as reported in the Financial Times. There is an awful lot of doom and gloom in the UK at the moment, and most of the experts expect house prices to decline a lot further.
A helpful Brit
Nick Clegg, the leader of Britain’s Liberals, the only party in that country not entirely anti-European,
proposes a five point plan for this weekend’s summit. In an editorial the paper makes the point that the Irish are behaving disgracefully through their beggar-thy-neighbour guarantee of six Irish banks, which is exactly what the EU should now avoid. Here is the list: 1. Find a similar level of investor protection. 2. agree on the application of state aid and competition rules. 3. agree a common approach to credit rating agencies. 4. propose a redesign in the architecture of the financial system. 5. sketch out a systemic approach to banking crises. (This is not bad, but to get us through the next couple of weeks will be a big challenge, so point no. 5 will take all the effort.)
Eurointelligence wishes to thank the Collegio Carlo Alberto for their support to help us maintain eurointelligence.com afree public service.