Debt crisis

[Walsingham]

Sorry, gentlemen, but we were talking about the debt crisis.

 

I know it _might_ be down to politics. But to move the conversation on, surely there are other perspectives?

[Orogun01]

Sorry, gentlemen, but we were talking about the debt crisis.

 

I know it _might_ be down to politics. But to move the conversation on, surely there are other perspectives?

Damn you and your logic for interrupting a proper catfight.

 

Ok, the economy. Has anyone made peace with the fact that this might be the dusk of our economical establishment?

From this point forward it comes to who can adapt to a changing market while securing the contracts with the emerging markets. The US is in a prime location to supply Brazil, although I don't see them getting off their high horse and admitting that they are on the downwards slope from superpower.

[Walsingham]

I'll take that and ante up:

 

If this is the dusk of our economic establishment, why organise ourselves on national grounds at all? If not national, then what? Arguably the very rich have been doing this for ages. They're nomadic.

[Enoch]

Euro-debt thingy:

 

Essential problem: Some countries in the currency union have attained debt levels beyond their reasonable ability to repay, abetted primarily by core-Euro and US banks (who lent to them despite clear evidence of a lack of ability to repay) and core-Euro governments who didn't bother policing sovereign debt when admitting new currency-union members because they couldn't wait to get more markets for their exports that were within their mercantilist control.

 

Somebody has to pay for this. The candidates:

 

1) The governments that accumulated the debt. Satisfying in a knee-jerk political sense, but probably not practical, given economic and political realities.

 

2) The banks that made the loans and whoever else holds the paper now. Doing so so soon after shocks of 2008 presents a distinct chance of causing a number of major financial industry failures, and probable further bailouts by the taxpayers and central banks. Also, there is some fear (probably promoted by the banks currently holding Greek debt) that even some managed default would spread fears of non-payment to other Euro-users, resulting in sharp market devaluation of the currency.

 

3) The governments of the rest of the Eurozone. A really tough sell to the voters, even if they have been unwittingly benefiting from the fruits of intra-Euro mercantilism for the past few decades.

 

4) Everyone who holds Euros, via central bank devaluation.

 

5) Some combination of the above.

 

Other alternatives:

 

A) Continue to play for time and hope that miraculous economic growth bails everybody out of this. Extraordinarily unlikely to succeed, but this is the most politically expedient course and appears to be the strategy that most government types are going with.

 

B) Kick the worst offenders out of the currency union, and let them devalue their replacement currency to deal with their debts. Logistically difficult, and may have the same effects as #2 above.

 

 

From this point forward it comes to who can adapt to a changing market while securing the contracts with the emerging markets. The US is in a prime location to supply Brazil, although I don't see them getting off their high horse and admitting that they are on the downwards slope from superpower.

Even if trends continue as present, it would take decades for Brazil (about $1.6T in annual GDP) to be on the same economic playing field as the US (over $14T in annual GDP).

[Walsingham]

So then, by your analysis - and unreserved apologies if I've misunderstood - we are destined for some sort of crash. Because the politicos are gambling on economic resurgence. Which won't happen.

 

So what happens then? How bad will it get?

[Guard Dog]

I've been saying for a few years now (and practicing what I preach) the smart move for all of us as individuals is to reduce or even eliminate all investments that represent a liability for someone else (stocks, bonds, etc) and focus on something with real value like commodities, real estate, etc. In 2008 I sold off all my stocks and mutual shares and bought gold. That has turned out to be a smart move to say the least. Gold is way over priced now. In reality it is worth about $900USD give or take. It's trading at $1700 and hit $2k last month. The reason it is doing this is unlike currency it was intrinsic value. The US dollar, Euro, Yen may all become worthless someday. Probably not but possibly yes. Gold will never be worthless so it is a safety hedge as well as an investment. The same is true of Silver, Copper, or any other real commodity.

 

 

Yes a collapse will come and it will be bad. But a recovery will follow assuming we don't start fighting each other again. Devaluaing currency as a means of monetizing debt is a recipie for disaster and that does appear to be the way Greece, Ireland, and others may go if the other EU members cannot or will not bail them out. But even bailing them out is throwing good money after bad if they continure the same flawed economic model. The truth is, if we want our way of life and standard of living to survive then all governments in the EU and the US will need to embrace some serious austerity measures. We need to ask our governments for less. And then they need to tax business and investment less. That will encourage the one thing that WILL save us all, economic growth.

[Nepenthe]

Abolish lobbying now !!

But then I would be out of a job!

[Enoch]

So then, by your analysis - and unreserved apologies if I've misunderstood - we are destined for some sort of crash. Because the politicos are gambling on economic resurgence. Which won't happen.

 

So what happens then? How bad will it get?

Well, I'm not a big fan of "destiny." There might be a way to manage this, under the "a little bit of everything" scenario. Balance the harm such that everybody suffers somewhat, and hope that the worst outcomes can be averted. Macroeconomies are slow-moving beasts, generally, and they're more resilient than the skittering about done by financial markets and politicos. And the delaying tactics that central banks can pull out of their bag of tricks can be powerful. Crashes are emotional events, and difficult to really project. But, at the same time, it is very difficult to see what could happen that would improve things measurably in the next few years. If you're making projections, decade of stagnation is probably a safer projections than a crash is.

 

 

 

Longer term, there needs to be some leadership and recognition in the financial sector of the economy of the big western powers. The point of a banker is simple-- to decide which enterprises to fund with the collective wealth of a society. A financial sector in a primarily-private-enterprise-driven economy is in a hugely powerful position, and one that requires a great trust by the rest of the populace-- there are a thousand opportunities for a banking industry to decide that the best place a society's money should be invested is, well, in the financial industry (or in short-term gimmicks that do little other than create opportunities to charge nice fees), rather than those productive enterprises that offer strong real rates of return. And, over the past few decades, the competitive and regulatory forces checking this kind of behavior have fundamentally broken down, in Europe and in America. Ultra-concentrated financial companies, colluding openly with one another. Regulatory capture. The political-economy philosophy that gives bankers the widest possible latitude being accepted as plain truth by both relevant American political parties.

 

Banking didn't used to be sexy. It fundamentally shouldn't be. It is a very somber responsibility to decide where the collected wealth of a society should be put to use. When it works well, a competitive capitalist banking system totally kicks the ass of capital allocation decisions in more centrally planned economies. But it hasn't been working well for at least 25 years now, which has resulted in some huge fundamental misallocations of capital (Greek public employees; American sub-prime mortgages; Irish real estate; Iceland) that are going to take some serious pain all around to work out.

Edited October 22, 2011 by Enoch

[Humodour]

I've been saying for a few years now (and practicing what I preach) the smart move for all of us as individuals is to reduce or even eliminate all investments that represent a liability for someone else (stocks, bonds, etc) and focus on something with real value like commodities, real estate, etc. In 2008 I sold off all my stocks and mutual shares and bought gold. That has turned out to be a smart move to say the least. Gold is way over priced now. In reality it is worth about $900USD give or take. It's trading at $1700 and hit $2k last month. The reason it is doing this is unlike currency it was intrinsic value. The US dollar, Euro, Yen may all become worthless someday. Probably not but possibly yes. Gold will never be worthless so it is a safety hedge as well as an investment. The same is true of Silver, Copper, or any other real commodity.

 

 

Yes a collapse will come and it will be bad. But a recovery will follow assuming we don't start fighting each other again. Devaluaing currency as a means of monetizing debt is a recipie for disaster and that does appear to be the way Greece, Ireland, and others may go if the other EU members cannot or will not bail them out. But even bailing them out is throwing good money after bad if they continure the same flawed economic model. The truth is, if we want our way of life and standard of living to survive then all governments in the EU and the US will need to embrace some serious austerity measures. We need to ask our governments for less. And then they need to tax business and investment less. That will encourage the one thing that WILL save us all, economic growth.

 

Alternatively to purchasing gold, you could simply invest in Australian companies. If Australia's economy ever ends up tanking, then that implies it's probably not a world where gold or money will mean anything again for a long time anyway.

[Walsingham]

With a degree of humility I'd ask if you're both wrong about gold AND Australia. Both of those objects are overvalued. Which is - unless I'm mistaken - your point about them being good to have invested in. Raw material prices are a subject to overpricing due to artificial or temporary shortages. Australian companies still face grave questions about whether Australia is a good location for production in a world of rising transport prices. Just to name a couple of arguments.

 

~~

 

Ench, I see your point about Fate etc etc. Personally I'm hoping that the larger problems can be averted simply by the transition occurring at a slow enough speed. If various financial institutaions can watch the changes occurring and have time to pre-empt the hits maybe just maybe they can mitigate the damage through frenetic self-seeking cowardice.

[Humodour]

Australian companies still face grave questions about whether Australia is a good location for production in a world of rising transport prices. Just to name a couple of arguments.

 

Oh yeah? That's the first time I've ever heard someone make that claim, and it sure as heck isn't reflected in the market (Rio Tinto, BHP, et al).

 

Anyway, I would say Australia is pretty damn close to the economies that actually matter when considering exporting and importing PHYSICAL goods, wouldn't you?

 

No recession in 20 years, 4 of the worlds 9 remaining AAA rated banks, fibre-to-the-home Internet, wealthiest country in the world, beautiful beaches and babes! Come on mate, hop on a plane and come visit!

[Walsingham]

Tell me, do you actually possess physical pompoms, or am I just imagining them?

[Nepenthe]

Tell me, do you actually possess physical pompoms, or am I just imagining them?

Nope, they are green and gold.

[Gorth]

No recession in 20 years, 4 of the worlds 9 remaining AAA rated banks, fibre-to-the-home Internet, wealthiest country in the world, beautiful beaches and babes! Come on mate, hop on a plane and come visit!

Only until the Chinese growth flatlines and the resource sector crashes and burns. It's the only thing generating anything worth writing about and the rest of Australia, from retail to whathaveyou is struggling to make ends meet. Australia may have made itself "independent" of trade with UK/Europe and the US to some degree, but they are now completely depending on Chinese sustained economic growth, which the Aussie economy is piggy-backing upon.

[Guard Dog]

With a degree of humility I'd ask if you're both wrong about gold AND Australia. Both of those objects are overvalued. Which is - unless I'm mistaken - your point about them being good to have invested in. Raw material prices are a subject to overpricing due to artificial or temporary shortages. Australian companies still face grave questions about whether Australia is a good location for production in a world of rising transport prices. Just to name a couple of arguments.

 

No I definitely would not recommend buying gold now. At some point the price WILL correct (as long as the world economy does not collapse) and it will finally settle back around $900 or so. What I was driving at was the value of investments that have worth independent of currency fluctuations and do not represent a liability that may not be repaid. If I bought US savings bonds and the dollar collapses, those bonds are worthless and the investment is lost. If I bought stocks and the company goes bankrupt, odds are the investment is a total loss. A commodity will never be worth zero. Thats why their trading price skyrockets in times of economic crisis. When GW Bush began talking about massive cash infusions to banks in 2008 I knew the wheels were about to fall off.

 

Don't get me wrong, I do not think the US or any other country will implode, we will all see the back side of this if, and only if, the governments of the world realize the root cause of the issue and correct their business model. Winston Churchill once said "Americans will always do the right thing, once they've tried everything else" I think that will prove true of all of us.

 

My focus has been on how to protect my own assets during whatever comes and that has been behind the advice I've given here, and elsewhere.

 

Now, Krezack has been harping on the wonders of the Australian economy, and it is one of the strongest in the world. Why? They are a worlds leader in export of raw materials and have a very small (by comparison to the other big nations) industrial market that exports finished goods. So the value of their resources is the key to their success. Their main exports are wheat, gold bullion, iron ore, tin & nickel. What are these things? Commodities, which as we have discussed are heavily traded and a little overpriced. Not a bad thing for the folks down under. However, they are also running a deficit in the 50-60B, range because their government is spend happy too. A manageable deficit in good time can be a crippling one in tough times and something like 69% of all Australians are employed in a service industry (which suffer dispropotionaly during economic bad times) so there is potential there for trouble. Their national debt is still only like 8% of GDP so while it is something they need to watch but nothing to be concerned about now. For the moment they are doing a good job running their house.

 

Of course Australia will always be a prime location for tourisim and that never hurts. Heck I'd like to go one of these days.

[Walsingham]

Just underlining my argument, but not contradicting GD about a commodity not reaching zero:

 

1) Australia is a major copper exporter, and has benefited from high copper prices

2) Much copper is being used by China

3) In fact a lot of copper is being used in China to circumvent lending controls, driving a totally non-practical price escalation. This is falling apart like wet cake. Apparently.

4) So you can lose a lot of a mineral's price if its is too far inflated, and get very badly stung

5) You can also lose a lot if a mineral becomes technologically obsolete. For example if someone creates alternatives to germanium in electronic circuits

6) You can also lose badly if a material is recognised as unsafe, such as asbetos. Fantastically useful. Utterly illegal in many countries.

[Guard Dog]

Just underlining my argument, but not contradicting GD about a commodity not reaching zero:

 

1) Australia is a major copper exporter, and has benefited from high copper prices

2) Much copper is being used by China

3) In fact a lot of copper is being used in China to circumvent lending controls, driving a totally non-practical price escalation. This is falling apart like wet cake. Apparently.

4) So you can lose a lot of a mineral's price if its is too far inflated, and get very badly stung

5) You can also lose a lot if a mineral becomes technologically obsolete. For example if someone creates alternatives to germanium in electronic circuits

6) You can also lose badly if a material is recognised as unsafe, such as asbetos. Fantastically useful. Utterly illegal in many countries.

 

1) Big time

2) The majority of the worlds manufacturing so there is a lot of demand

3) Which also drives up the price of the finished goods and consequently the mark up percentage

4) This will happen. To quote Aristotle "Nature always finds the mean" this is true in investing as well. There are two kinds of commodity investor, real speculators who are following the demand and yeild, and those like myself who are hedging against instability elsewhere. Once the markets and national economies even out the prices of these things will drop as buyers rediversify. The trick is to understand when to buy in and when to get out.

5) True but if you are taking your research seriously this really should not sneak up on you.

6) Always a danger. Investing is inherently unsafe and not for the faint of heart.

[Enoch]

There's a fun diagram in Sunday's New York Times, setting out the web of debt exposure between the major players. Although the most serious part is probably the second subheading under the point numbered 7-- there is no reliable information on who is holding how much indirect exposure to the debt of these countries, via defaul swaps and other derivatives.

 

It's All Connected: A Spectator's Guide to the Euro Crisis

[Morgoth]

All this media exposure about the so called "Euro crisis" really starts to tire me. There is no Euro crisis, there is a fundamental crisis in how the whole global financial system is setup. But of course nobody dares to talk about that.

At least let's shift the attention to the US maybe for a change, which is just as deep **** in debt.

[Gfted1]

Whats the plan after rescuing Greece? Arent Spain and Ireland circling the drain too? Will they have to be bailed out too? Honest question.

[Morgoth]

Whats the plan after rescuing Greece? Arent Spain and Ireland circling the drain too? Will they have to be bailed out too? Honest question.

Greece is beyond rescuing. But of course Barosso & Co are not gonna publically admit that, they might get ridiculed. As for the rest of the PIIGS, same old story, only bigger (bailout fund increase).

 

Goddamn...

[Enoch]

Whats the plan after rescuing Greece? Arent Spain and Ireland circling the drain too? Will they have to be bailed out too? Honest question.

Greece is the one having trouble keeping its head above water. The key metric for these purposes is being able to pay your debts as they come due. As their outlays and incomes currently stack up, Greece is the only one that is seriously worried about making next month's interest payment or about having difficulty rolling over expiring debt. Ireland, Italy, Portugal, and Spain aren't presently in that situation, but could be right there if future developments cause their borrowing costs to rise.

 

The particular future development that could do so and is now on everybody's mind is a major default on Greek debt that signals to markets that the ECB and the German government have reached the end of their tolerance for bailing out Eurozone members. This is why much of the focus of the present efforts by the ECB and the various finance ministers has been to contain the problems to Greece. If the Greek situation is managed without disappointing markets too much, based on available information, there isn't a whole lot of reason to worry about default from those other countries. But if Greece defaults, markets start worrying about Portugal and Italy. If Portugal goes, they worry about Spain. If Spain and Italy go, they worry about France. If France goes, everybody worries about everything.

Edited October 24, 2011 by Enoch

[Walsingham]

You know, I must read about three articles on this every day, and Enoch's the only bastard I can actually understand.

[Enoch]

Well, I am over-simplifying in that I have mostly omitted the other complicating factor that is the condition of the banks, as well as the backdoor-bailout that is the ECB's netting cross-border payments system.

 

There are 2 primary mechanisms by which these problems spread from country to country. The first, as discussed in my prior post, is the price that markets are willing to pay for government debt-- a loss of confidence in one Eurozone country tends to bring a loss of confidence in other similarly situated Eurozone countries. The second is the financial condition of the banks. European banks are directly exposed to any sovereign default within the Eurozone to a rather great degree. (In short, one of the key benefits that came with a nation joining the Euro was access to ECB "repo" lending. A nation could sell sovereign debt to a bank, and that bank could use that debt as collateral at the ECB lending window to get ECB financing. This meant that the nation got to issue debt cheaply, relative to what markets would otherwise demand, and the bank got to profit off of the spread between the short-term sovereign bond rate and the ECB lending rate. The win-win nature of this transaction is largely how sovereign debt levels got so high in the first place.) One estimate stated that the whole Euro banking system's exposure to PIIGS debt is equivalent to about 150% of its aggregate tangible common equity. So, in the event that Greece is allowed to default, and if other nations follow due to the pressures I described earlier, the other Eurozone nations are going to find themselves back at the same decision point they saw in 2008-- either allow the financial system to collapse, or commit tax revenues to bail out the banks.

 

 

The cross-border netting system is what most likely comes under pressure if there isn't some default allowed. This is a little more outside my confort zone, but I'll give it a shot. When a 3rd-world country has bank failures and sovereign defaults, it generally does so because markets will only lend to it or to its banks in currency it doesn't control (usually Dollars, but occasionally Euro or Yen) and the flight of private capital from the country has left it without sufficient foreign currency reserves with which to pay. Peripherial Eurozone countries are experiencing capital flight-- domestic banks are the ones buying up their home country's sovereign debt (they figure that they're already screwed in event of a sovereign default, so they need to support the system for as long as they can), while foreign banks limit their exposure and domestic businesses and individuals find places to put their money that are outside the domestic banking system (mattresses, commodities, Swiss accounts, etc.).

 

But because the Eurozone countries are on the same currency, the ECB nets out cross-border transactions with lending. Thus, when money flows out of an Italian bank and into a German bank, there is an automatic corresponding lending transaction from the Bundesbank to the Italian central bank. In theory, there is no limit to this, and although these balances could be paid off with hard assets, in practice they aren't. And governments can use their domestic banks to take advantage of this system and get Bundesbank funding. If the at-risk nations aren't allowed to restructure their debt in some manner, pressure on this system is going to keep rising. Under ECB law, if a central bank defaults, all the other Eurozone central banks are required to recapitalize the Euro, in accordance with their relative share. And if any constituent central bank decides to stop recognizing the claims of another central bank, the Euro is functionally over-- rather than keep piling up central bank debt that they know wouldn't be repaid, the Germans would exit. This is very similar to how the Ruble died as the cross-national currency of the former Soviet states-- it became worth a different sum in Minsk than it was in Moscow.

Edited October 25, 2011 by Enoch

[Nepenthe]

So. Greece is going to put accepting the new support package to popular vote. Currently 60 % oppose all the bailout programs. This could get really interesting, Greece's exit from Euro has never seemed more likely than now.