Yakima Valley, Washington. Shacktown community, mostly families from Kansas and Missouri. This family has five children, oldest in third grade. Rent $7 per month, no plumbing. Husband earns Work Projects Administration wages, $44 per month
Ilargi: Is it merely an ironic twist of fate, or is it more, to see the New York Times feature Robert Prechter prominently over the weekend? Prechter, after all, is the man whose economic theories are based to a very large extent on public mood and herding behavior. Does the paper's sudden attention for him then indicate a major mood swing by itself?
When you see that the new UK government plans to cut its spending by up to 40%, you’d be inclined to think so. The fact that some 750.000 Americans simple dropped out of the work force in June, a near record, -while 100.000 entered- can also serve as a sign of a changing public perception of the economy and their lives in general. As can the 30% plunge in pending home sales that was announced recently.
While US states and counties need to cut $180 billion, or even more, over the next year. Illinois comptroller Daniel W. Hynes says his state owes $5 billion to schools, rehabilitation centers, child care, the state university — and it’s getting worse every single day. [..] "This is not some esoteric budget issue; we are not paying bills for absolutely essential services. [..] That is obscene." And there is nothing that points to improvement. So Illinois will have to go where Britain is going: massive cuts to essential services, which always and inevitably will hit the weakest citizens first.
There are now 9.2 million unemployed Americans who don’t get a penny in financial help, says Jeff Weniger at Harris Private Bank. If they all have one dependent, that’s nearly 20 million people in the US with no means of even bare survival other than charity. Moreover, those massive cuts will mean massive additional lay-offs, which through positive feedback mechanisms will lead to more lay-offs and more budget cuts. This will happen in Illinois, in California, in Greece, Spain, Italy, and eventually all over the world.
I was going to address the upcoming bank stress tests results in Europe, but reading about them made me realize that it would be a waste of time. The European stress tests are just as much of a joke as the American ones were. The fact is that there is no president or prime minister in the present western world who would volunteer to actually look at what's in bank vaults, simply out of fear for what they might find.
Grandiose posturing and equally grandiose bail out schemes, whether secret or public, are far easier and much less risky for political careers. If you let your banks fail, odds are your time in power is over too. And so they continue to talk about recoveries and returns to economic growth, even as the numbers by now make blatantly clear that there is no such thing on the horizon, and as the politicians force those who voted for them into ever deeper and darker holes.
Market analyst Ralph J. Acampora says about Robert Prechter:
"I don’t want to agree with him, because if he’s right, we’ve basically got to go to the mountains with a gun and some soup cans, because it’s all over."
Sounds like it can't be true because I don’t want it to be...
Prechter himself implies that it is already over. We just don’t see it yet, but what's coming cannot be avoided. It's all been temporarily papered over, but that can't last. Not if you leave tens of millions in the US alone in a ditch without any kind of assistance.
Prechter has never shied away from addressing the issue of social unrest that must rear its head as a society winds down. Me, I increasingly have the impression that there are new ruling forces out there in for instance the US and UK who would like nothing better than a series of seriously violent riots, with lots of blood and lives lost, so they can install a clamp down regime and a police state in which civil liberties are eroded at 100 times the speed at which they were obtained, often also with loss of blood and lives.
And the -seemingly- strange thing is, as Stoneleigh here at The Automatic Earth has pointed out before, that many people will be so afraid of what comes that they will actually welcome such regimes. Like sheep herded by dogs. It will feel like we're traveling back in time, both financially and as societies, to 1932 Germany. There is one thing that even Americans who don’t have a penny left to scratch their asses will still have lots of: guns. That and a ruling class that knows this very well.
The typical answer has always been: expand, go conquer nations, find Lebensraum, and rally the people around the troops. In both the US and in China there's a palpable danger that the respective regimes may choose to go that way. The UK may side with America, but continental Europe lacks the political cohesion to join in. Pakistan, India and Russia may either feel forced to take sides or see opportunities for themselves. We’re well on our way towards a far more volatile world, both domestically and internationally. As Prechter would confirm.
Ilargi: As I said a few days ago, the transfer of The Automatic Earth to its new home is going slower than we had hoped. Limited means and all that, and only 24 hours in my days like in yours. One of the things we will add to that new home is a Preparation section, which has still to crystallize out in its full shape and form. Stoneleigh is working hard on that.
Someone who will join us in that, you may well know her already, is Sharon Astyk. And may I say I’m very happy that she agreed to come on board. In what exact statuts, we’ll figure out as we go along. What we do know now is that we wish to go beyond saying that it’ll all be dire, and offer readers at least some options for coping with it all. Sharon is an expert in growing and preserving food, and she's running classes in these topics right now, for which you can find information here, or email her at email@example.com.
Our intention is too cover a broad base of subjects in the Preparation segment (anyone know a better term?), and, well, this is the first.
As an aside: there have been problems with the Blogger comments functionality for the past, say, twelve hours. If anyone’s comment hasn't shown up, apologies, but it was (or perhaps still is) beyond our control.
A Market Forecast That Says ‘Take Cover’
by Jeff Sommer - New York Times
With the stock market lurching again, plenty of investors are nervous, and some are downright bearish. Then there’s Robert Prechter, the market forecaster and social theorist, who is in another league entirely. If Robert Prechter is right, one market analyst said, "we’ve basically got to go to the mountains with a gun and some soup cans." Mr. Prechter is convinced that we have entered a market decline of staggering proportions — perhaps the biggest of the last 300 years.
In a series of phone conversations and e-mail exchanges last week, he said that no other forecaster was likely to accept his reasoning, which is based on his version of the Elliott Wave theory — a technical approach to market analysis that he embraces with evangelical fervor. Originating in the writings of Ralph Nelson Elliott, an obscure accountant who found repetitive patterns, or "fractals," in the stock market of the 1930s and ’40s, the theory suggests that an epic downswing is under way, Mr. Prechter said. But he argued that even skeptical investors should take his advice seriously.
"I’m saying: ‘Winter is coming. Buy a coat,’ " he said. "Other people are advising people to stay naked. If I’m wrong, you’re not hurt. If they’re wrong, you’re dead. It’s pretty benign advice to opt for safety for a while." His advice: individual investors should move completely out of the market and hold cash and cash equivalents, like Treasury bills, for years to come. (For traders with a fair amount of skill and willingness to embrace risk, he suggests other alternatives, like shorting the market or making bets on volatility.)
But ultimately, "the decline will lead to one of the best investment opportunities ever," he said. Buy-and-hold stock investors will be devastated in a crash much worse than the declines of 2008 and early 2009 or the worst years of the Great Depression or the Panic of 1873, he predicted. For a rough parallel, he said, go all the way back to England and the collapse of the South Sea Bubble in 1720, a crash that deterred people "from buying stocks for 100 years," he said. This time, he said, "If I’m right, it will be such a shock that people will be telling their grandkids many years from now, ‘Don’t touch stocks.’ "
The Dow, which now stands at 9,686.48, is likely to fall well below 1,000 over perhaps five or six years as a grand market cycle comes to an end, he said. That unraveling, combined with a depression and deflation, will make anyone holding cash "extremely grateful for their prudence." Mr. Prechter is hardly the only market hand to advocate prudence now, but nearly everyone else foresees a much rosier future, once current difficulties are past.
For example, Ralph J. Acampora, a market analyst with more than 40 years of experience, said he moved entirely out of stocks and into cash late last month. Now a partner at Alverita, a wealth management firm in New York, he said recent setbacks suggested that the market would drop another 10 or 15 percent, probably until September or October, before resuming another "meaningful rally." Over the next several years Mr. Acampora expects an "old normal market," characterized by relatively short-lived swings that will provide many opportunities for smart investors — one that resembles the markets of the 1960s and 70s. "I’ve lived through it," he said.
Like Mr. Prechter, he is a past president of the Market Technicians Association, the leading organization of technical market analysts, and he said that his colleague has done "some very good work." But Mr. Acampora doesn’t agree with Mr. Prechter’s long-term theories, either intellectually or emotionally. The "mathematics don’t work," Mr. Acampora said, because such a big decline would imply that individual stocks would need to trade at unrealistically low levels.
Furthermore, he said, "I don’t want to agree with him, because if he’s right, we’ve basically got to go to the mountains with a gun and some soup cans, because it’s all over." Still, on a "near-term" basis, he said, "We’re probably saying the same thing." Similarly, Larry Berman, who co-founded ETF Capital Management in Toronto and recently ended his term as the president of the technicians association, says he sees a "classic" short-term negative market trend developing now. But he doesn’t use the Elliott Wave theory, saying Mr. Prechter is trying to "measure the market in decades, which is too long a time frame for practical trading purposes or for risk management."
Mr. Prechter, 61, lives in Gainesville, Ga., where he runs Elliott Wave International, a forecasting and publishing firm. He graduated from Yale as a psychology major in 1971, dabbled as a singer, drummer and songwriter in a rock band and became a technical analyst for Merrill Lynch. He became fascinated by Mr. Elliott’s writings, which suggest that the market moves in predictable if complex patterns. Along with A. J. Frost, Mr. Prechter wrote "Elliott Wave Principle," a 1978 book that predicted the emergence of a great bull market — a forecast that was largely fulfilled.
By 1987, he was widely regarded as an expert in technical analysis. Articles in The New York Times said he was known as "the market’s leading technical guru" — and more. An article in October that year said he had "emerged as both prophet and deity, an adviser whose advice reaches so many investors that he tends to pull the market the way he has predicted it will move." He has far less day-to-day influence now, after years spent developing a theory he calls "socionomics," which holds "social moods" as the cause not only of market cycles but also of economic and political events. A grand cycle is ending, he says, and the time for reckoning is near.
In 2002, he published "Conquer the Crash," which predicted misery ahead. Even so, he said in 2008 that the market would soon rally sharply — then said late last year that stocks were about to fall and that the great decline would resume. Since 1980, the advice in his investing newsletters, when converted into a portfolio, has slightly underperformed the overall stock market but has been much less risky, losing money in only one calendar year, according to calculations by The Hulbert Financial Digest.
Mr. Prechter said he disagreed with the methodology used in these measurements, but offered none of his own. For his part, Mr. Acampora says that the Elliott Wave has some validity as an indicator but that "it’s only part of the story" of technical market analysis, which also needs to be buttressed by economic and fundamental research. Mr. Prechter says his unifying theory, socionomics, is a "young science." "We’re quantifying it," he said. "We’re working on it." In the meantime, he contends, it has enabled him to "look around the corner" and prepare for a dangerous future.
UK ministers told to prepare to slash their budgets by 40%
by Andy McSmith - Independent
Treasury ministers were accused yesterday of being "alarmist in the extreme" by announcing that they are instructing all but a few government departments to plan for 40 per cent cuts in their budgets. Cuts on that scale would exceed anything ever done by a democracy and result in hundreds of thousand of public employees losing their jobs and a severe drop in the quality of public services. So long as the figure of 40 per cent sticks in people's minds, when they learn that the worst-affected departments are having to cut their budgets by 30 per cent or more, it will sound as if they have been spared the worst.
Today, the Chief Secretary to the Treasury, Danny Alexander, is expected to announce cuts totalling £1.5bn, with £1bn to be slashed from the Department of Education budget. That means scrapping plans to rebuild 700 schools, and cutting back on youth clubs and projects such as Sure Start. Philip Hammond, the Secretary of State for Transport, who was responsible for planning budget cuts when the Tories were in opposition, said yesterday that telling departments to budget for 40 per cent cuts was a way of making sure that the real target of 25 per cent on average was reached.
"I don't expect any departments will see a 40 per cent cut but some departments may see cuts a bit higher than 25 per cent," he told BBC1's The Andrew Marr Show. "Some departments may then see cuts a bit lower than 25 per cent." He admitted that taking even 25 per cent out of a departmental budget would be "challenging". The health and overseas aid budgets are being spared, and two departments – education and defence – have been told they need to plan for 10 to 20 per cent cuts.
The news that Mr Alexander is writing to departments telling them to plan for 40 per cent possible cuts was denounced as a "scare story" yesterday by his fellow Liberal Democrat MP Bob Russell, who has already broken ranks with the coalition by voting against the decision to increase VAT. "We know how this works, and all governments do it," he said. "You say things are going to be worse than they actually are so that when the real news comes through it doesn't seem so bad.
This is a softening-up process. It's alarmist in the extreme, and coming from people who won't experience the effect of the cuts at first hand." Ed Balls, Labour's former Secretary of State for Education, said that the 40 per cent figure would "send a chill down the spines of millions of public sector workers and millions of people who rely on our vital public services". He added: "The Tories are trying to whip up a sense of crisis ... to soften the ground and provide cover for what they've always wanted to do."
Public sector unions warned of fierce resistance from employees, even if the 40 per cent figure proves to be exaggerated. Mark Serwotka, the general secretary of the Public and Commercial Services Union, said: "We are already drawing up plans with other public sector unions to ensure that if the Government attacks our pensions, our jobs and public services, they will face resistance the like of which we haven't seen in this country for decades. We will see not just co-ordinated industrial action by unions but campaigns in every community." Paul Kenny, the general secretary of the GMB general union, warned: "We said at the time of the Budget that the new coalition Government had taken an almighty gamble when they announced they were slashing public services as savagely as this."
The Home Secretary, Theresa May, whose department allocates more than half its spending on the police, has already announced she will scrap targets set by the Labour government to save the administrative cost of checking whether they have been met. But the former Home Secretary, Alan Johnson, warned that it is "fantasy" to think that the Home Office can meet even its real target, let alone a target of 40 per cent, without running the risk of an increase in crime. "The idea that you can cut the budget in the Home Office by 25 per cent, 33 per cent [or] 40 per cent – that you can do that to a budget of £10bn and you won't affect front-line policing, is a fantasy land," he said.
Yvette Cooper, the shadow Welfare Secretary, accused the coalition of drawing up financial plans that are the "worst for women since the creation of the welfare state". She said analysis showed almost three-quarters of the Budget burden would fall on women. One item of expenditure that has under scrutiny is the £250,000 reputedly spent on expenses for the team of bodyguards who accompany the former prime minister, Tony Blair, everywhere he goes, including on trips abroad, when they stay in first-class hotels. According to the Mail on Sunday, this included a two-week holiday in Borneo, where the bodyguards ran up a bill of more than £20,000.
The Foreign Secretary, William Hague, told Sky News yesterday: "Former prime ministers, whoever they are, whichever party they are from, do need to be protected. But we have to make sure that is as cost-effective as possible, that it doesn't cost any more to the taxpayer than is absolutely necessary." The former director of public prosecutions Sir Ken Macdonald who is to be made a Liberal Democrat peer, told BBC1: "There is certainly a feeling that something has gone awry when all of these unfortunate protection officers have to stay in five-star hotels and get paid while they're sleeping."
The United States is an empire "on the edge of chaos"
by Scott Condon - The Aspen Times
The Aspen Institute never promised that all the big notions aired at its popular Aspen Ideas Festival will be full of hope and inspiration. The sixth annual festival opened with a sobering vision of the future from financial historian and Harvard professor Niall Ferguson, who declared that history indicates the United States is an empire "on the edge of chaos." "My working assumption is that the financial crisis that began in the summer of 2007 has accelerated a fundamental shift in an economic balance of power," Ferguson told a near-capacity audience in the Greenwald Pavilion, which holds 750 people.
Even before the crisis, Goldman Sachs predicted that China would overtake the United States as the world's economic superpower by 2027, according to Ferguson. "The financial crisis has unquestionably hit the U.S. much harder than China," he said. And American politicians don't have a sense of urgency, Ferguson contended. They feel the country can limp along for another 20 years or so in its current financial health without making tough decisions about fiscal policy. He believes they are wrong.
The federal government's debt has grown so large in the past decade that the United States will inevitably devote an increasing amount of taxes to it. Meanwhile it's facing a greater burden through the Medicare and Social Security programs as Baby Boomers age. It's also currently fighting two wars. All that while revenues have plummeted in the recession. "If you really want to see when an empire is getting vulnerable, the big giveaway is when the costs of serving the debt exceed the cost of the defense budget," Ferguson said. That will happen in the United States within the next six years, he predicted.
Ferguson has engaged recently in bitter philosophical battles over public fiscal policy with the Nobel Prize-winning economist Paul Krugman. Krugman, a New York Times columnist, wants the Obama administration to spend more to stimulate the economy and concentrate in a longer term to reduce the federal debt; Ferguson believes it is imperative to reduce the debt as quickly as possible.
There were some audible challenges among audience members to Ferguson's vision, but also enthusiastic cheers. Journalist David Gergen interviewed Ferguson in an opening presentation at the Ideas Festival. Magazine editor and real estate magnate Mort Zuckerman was also on the panel. Zuckerman said he believes America still possesses the world's most innovative and hard-working private sector. There is also a substantial amount of money available for investment. Therefore, the United States can still emerge from the recession as a strong country, he said.
"We will recover the energy we frankly have lost in the last year or 18 months," Zuckerman said. But, like Ferguson, he said he was concerned about government fiscal policy. "We really have, I think, some of the worst public policies in place today," Zuckerman said. He said there is outright "hostility" to the business culture that helped build the country. Zuckerman said he believes private-sector business leaders and workers understand the competitive situation America is in and are willing to adapt.
The public sector is the problem, he claimed. He accused elected officials, in general, of being more concerned about short-term gains for political careers than the long-term health of the country. "Public policy could drown everything. This is where I think we're going to come closer to the edge than I ever thought we could," Zuckerman said.
To add to the doom and gloom, Ferguson said the collapse could come much quicker than people realize. "Most empires collapse fast," Ferguson said. "They're complex systems. They exist on the edge of chaos. It doesn't take much to tip them over, and when they tip over, they fall apart really quickly." He cited the Soviet Union as an example and noted Rome's collapse happened in just a generation.
If the United States fades as a world economic and military superpower, Ferguson sees dire consequences, regardless of whether China replaces it. One result of the U.S. loss of power, he predicted, is the greater Middle East "spiraling out of control." Ferguson said America can finding solid fiscal footing by making tough decisions — soon — on federal deficits. He also advocated easing taxes on small companies and corporations to spur investment and hiring.
With the US trapped in depression, this really is starting to feel like 1932
by Ambrose Evans-Pritchard - Telegraph
The US workforce shrank by 652,000 in June, one of the sharpest contractions ever. The rate of hourly earnings fell 0.1pc. Wages are flirting with deflation. "The economy is still in the gravitational pull of the Great Recession," said Robert Reich, former US labour secretary. "All the booster rockets for getting us beyond it are failing. "Home sales are down. Retail sales are down. Factory orders in May suffered their biggest tumble since March of last year. So what are we doing about it? Less than nothing," he said.
California is tightening faster than Greece. State workers have seen a 14pc fall in earnings this year due to forced furloughs. Governor Arnold Schwarzenegger is cutting pay for 200,000 state workers to the minimum wage of $7.25 an hour to cover his $19bn (£15bn) deficit. Can Illinois be far behind? The state has a deficit of $12bn and is $5bn in arrears to schools, nursing homes, child care centres, and prisons. "It is getting worse every single day," said state comptroller Daniel Hynes. "We are not paying bills for absolutely essential services. That is obscene."
Roughly a million Americans have dropped out of the jobs market altogether over the past two months. That is the only reason why the headline unemployment rate is not exploding to a post-war high. Let us be honest. The US is still trapped in depression a full 18 months into zero interest rates, quantitative easing (QE), and fiscal stimulus that has pushed the budget deficit above 10pc of GDP. The share of the US working-age population with jobs in June actually fell from 58.7pc to 58.5pc. This is the real stress indicator. The ratio was 63pc three years ago. Eight million jobs have been lost.
The average time needed to find a job has risen to a record 35.2 weeks. Nothing like this has been seen before in the post-war era. Jeff Weniger, of Harris Private Bank, said this compares with a peak of 21.2 weeks in the Volcker recession of the early 1980s. "Legions of individuals have been left with stale skills, and little prospect of finding meaningful work, and benefits that are being exhausted. By our math the crop of people who are unemployed but not receiving a check amounts to 9.2m."
Republicans on Capitol Hill are filibustering a bill to extend the dole for up to 1.2m jobless facing an imminent cut-off. Dean Heller from Vermont called them "hobos". This really is starting to feel like 1932. Washington's fiscal stimulus is draining away. It peaked in the first quarter, yet even then the economy eked out a growth rate of just 2.7pc. This compares with 5.1pc, 9.3pc, 8.1pc and 8.5pc in the four quarters coming off recession in the early 1980s.
The housing market is already crumbling as government props are pulled away. The expiry of homebuyers' tax credit led to a 30pc fall in the number of buyers signing contracts in May. "It is cataclysmic," said David Bloom from HSBC. Federal tax rises are automatically baked into the pie. The Congressional Budget Office said fiscal policy will swing from a net +2pc of GDP to -2pc by late 2011. The states and counties may have to cut as much as $180bn.
Investors are starting to chew over the awful possibility that America's recovery will stall just as Asia hits the buffers. China's manufacturing index has been falling since January, with a downward lurch in June to 50.4, just above the break-even line of 50. Momentum seems to be flagging everywhere, whether in Australian building permits, Turkish exports, or Japanese industrial output.
On Friday, Jacques Cailloux from RBS put out a "double-dip alert" for Europe. "The risk is rising fast. Absent an effect policy intervention to tackle the debt crisis on the periphery over coming months, the European economy will double dip in 2011," he said. It is obvious what that policy should be for Europe, America, and Japan. If budgets are to shrink in an orderly fashion over several years – as they must, to avoid sovereign debt spirals – then central banks will have to cushion the blow keeping monetary policy ultra-loose for as long it takes.
The Fed is already eyeing the printing press again. "It's appropriate to think about what we would do under a deflationary scenario," said Dennis Lockhart for the Atlanta Fed. His colleague Kevin Warsh said the pros and cons of purchasing more bonds should be subject to "strict scrutiny", a comment I took as confirmation that the Fed Board is arguing internally about QE2.
Perhaps naively, I still think central banks have the tools to head off disaster. The question is whether they will do so fast enough, or even whether they wish to resist the chorus of 1930s liquidation taking charge of the debate. Last week the Bank for International Settlements called for combined fiscal and monetary tightening, lending its great authority to the forces of debt-deflation and mass unemployment. If even the BIS has lost the plot, God help us.
Wall Street's Answer to Unemployment
by Les Leopold - Huffington Post
Take a hard, cold look at June's tragic unemployment numbers. The Bureau of Labor Statistics rate is 9.5 percent, roughly where it's been for more than a year. The BLS jobless rate (U6) is 16.5 percent -- nearly 30 million people are without jobs or forced into part-time work. More than 6.7 million workers have been unemployed for more than 27 weeks. The administration can spin these numbers like a top, but Americans know in their bones that no one in Washington has a real plan to get our people back to work.
But Wall Street has a plan and a new logic that is quietly infiltrating the media and policy circles. It's called "structural reform." Although it is likely to involve some additional pain and suffering, it's being sold as the new the magic bullet for our ailing economy. The story goes like this:
- Banks and consumers took on too much debt during the housing boom (largely because of misguided government policies that enabled people who really couldn't afford homes to buy them).
- When the bubble burst, the government had to bail out the financial system to avoid a devastating collapse. This essentially moved debt from the books of private banks (and consumers) to the government (mostly the Treasury, the Fed, Fannie and Freddie).
- But there's a real limit to how much debt the government can absorb. Look how markets and voters around the world have reacted to rising deficits. (Think Greece, Germany, the Tea Party...)
- This signals that the Keynesian moment is over. The government just can't keep spending its way out of this mess by shouldering bank debt or passing huge stimulus programs.
- That leaves only one last viable option: Structural Reforms!
Structural reform is Wall Street speak for reducing what is often called the "social wage" for working people in every way possible: increasing the retirement age and cutting Social Security benefits, government employment and benefits, funds for public education, defined benefit pensions, and health care expenditures....and of course, extended unemployment benefits as well. (The Senate's refusal, yet again, to extend unemployment for 1.3 million laid-off workers comes straight from the "structural reform" playbook.)
Allegedly, the net result of these "reforms" is to reduce public debt while making the labor market more "supple" so that employment and wages can rise and fall quickly in response to shifting supply and demand. This "freer" labor market reduces the employer's cost of hiring workers, which is supposed to trigger a major jump in private sector employment. And if all that cutting doesn't cause a jump in hiring, then cut more. Like Ireland. It hasn't worked yet--but surely someday soon....
Political cannibalism is the new normal.
Unfortunately "structural reform" brings out the worst in us, with brothers and sisters turning on each other all across the land ("Don't cut us--cut them!"). And then there are those who've given up the fight altogether and now think austerity is a good thing, as Steven Greenhouse documents in his chilling piece in Monday's New York Times ("Labor's New Critics: Allies in Public Office"). Former labor leaders and labor friends, from LA's Mayor Villaraigosa to New York's Governor Paterson are going to war with unions ...and proud of it. These former allies believe that unions just have to face reality: revenues are down, so we've got to cut public workers' wages, benefits and jobs. Let's all join in the downward spiral, brothers and sisters!
In truth, "structural reforms" don't even touch the heart of the crisis--tragically, they'll only make it worse. The real heart of the problem is too much wealth in the hands of the few and too much power and wealth controlled by Wall Street. And unfortunately the new financial reform bill does little to limit this power and wealth. Our too-big-to-fail banks are still with us--and cockier than ever. Very few commentators or policy officials have the nerve to call for restoring taxes on the super-rich to the levels they paid from the 1930s through the 1970s. (Back then, their tax rate was up to 91%. Now they pay as little as 15% because they can claim their booty as "capital gains.")
The 10 leading hedge fund managers each "earn" an average of $900,000 an hour (not a typo). Public officials and pundits should be calling such wildly excessive incomes a disgrace to democracy--especially given that without taxpayer bailouts the financial elites would have earned nothing at all. Instead we are told to admire the robbery as if it were a sign of entrepreneurial genius.
The fiscal crisis is not an act of God.
Nope, it was caused by a reckless Wall Street gambling spree gone bad, and years of lost revenue from super-rich people who should have been paying taxes . Our already depleted public coffers are now running on empty because of bank bailouts and the cost of helping people who lost jobs in the Wall Street-induced collapse.
We do indeed need structural reforms, but not the kind that Wall Street is talking about. First, we need to reattach the truly wealthy to planet Earth. Right now the uber-rich live in their own cosmos where they just can't imagine what it's like for working people who struggle to make ends meet--or for jobless people who can't make ends meet at all. The super-rich truly believe that their debts are sacred and must be repaid at all costs, even if we have to bail out every major bank and lay off millions of workers to do it. Wall Street comes first. The investor comes first...always. Equality of sacrifice in hard times? Don't be a chump!
We need a structural reform that would make Wall Street pay reparations for the damage it has caused, kind of like the $20 billion compensation fund BP was forced to create, only bigger, much bigger. We allowed the financial wizards to waltz off with $150 billion in bonuses derived from taxpayer bailouts. Instead, we should have used a windfall profits tax to redirect that money into a fund help states and localities preserve and create jobs.
But we can't get from here to there unless we dramatically expand our sense of what is possible. We just can't be satisfied with a porous financial reform bill that doesn't even include a tiny tax on the big banks and hedge funds that have just milked us dry. And we can't keep pretending that the private sector is ever again going to provide sufficient, sustainable jobs for all who need them. We've got to face up to the obvious: Wall Street is at war with the rest of us. And the stakes include the most fundamental aspects of the economy and our democracy. It's about how we create and distribute wealth, how we create and distribute costs, and who should decide.
Is there a way out?
Maybe. But first we have to realize that minor policy fixes won't get us there. Let's stop fooling ourselves with this tinkering around the edges, passing watered down reforms and praying that the private sector will miraculously create millions of new jobs (and green ones!) - all on its own.
We'll need something close to a mass upheaval if we're going to get our political leaders to pay attention to us instead of the all-powerful market gods. That financial markets now have an instant veto over any and all economic policies is an insult to democracy. Whenever the politicians hear the distant rumble of unhappy bond markets they rush to the floor to vote for the latest austerity measure. And unfortunately, this isn't just an American affliction. A financial Catch 22 has engulfed the leadership of Europe, Japan and the US: If they fail to cut deficits, the markets will react badly. And if they do cut deficits and drive their economies further into the ground, the markets also will react badly. Escaping from this structural reform trap won't come easy.
Americans are growing more cynical by the day as we watch our elected leaders groveling before the gods of Wall Street. So far much of the anger has been channeled by the right, which tries to persuade working people that the no-government, no-taxes approach is actually good for them. But that's going to change. Sooner or later more and more of us will realize that the brave new world of "structural reforms" favored by Wall Street and the right really means that we'll be working longer, harder and for less -- if we're lucky enough to work at all. No one knows when that moment will arrive. But it will. And with it may come a new American progressive movement with the staying power to put our people to work.
Another View on the States’ Budget Plight
by by Michael Powell - New York Times
I had no sooner posted a piece on the Center on Budget and Policy Priorities report about states’ dire fiscal future than the Mercatus Center at George Mason University got in touch with its own take. The center is a policy research organization that leans libertarian and conservative (the Center on Budget and Policy Priorities leans liberal), and it has a tough-love argument.
The center says that the federal stimulus — or bailout, in its terms — has encouraged all manner of bad habits in state legislatures.
The Obama administration, in its view, has taken billions of dollars and papered over problems. In the words of a Mercatus report, stimulus has discouraged "long-term fiscal prudence," masked "underlying structural" problems in the states, and increased federal control over state budgets, thereby upsetting the constitutional balance between the federal government and the states.
So the battle is joined again, between liberal and conservative, between Keynesians and deficit hawks, and between those who view a robust government and a safety net as essential to a civilized society and those who see the same as infantilizing, not to mention a threat to freedom. Of late, the more conservative view is in ascendancy. Congress has declined to extend long-term unemployment benefits, even in the face of 10 percent unemployment.
Into this brier patch steps Matt Mitchell of Mercatus. In a post on the center’s blog, he makes the argument for letting profligate states swing in the wind, the better to focus minds on real solutions:The real question is: Intentions aside, does government spending actually stimulate the economy? Over the long run (when Lord Keynes said we were all dead) the answer is almost certainly "no."
Using international data, a number of peer-reviewed studies have examined the relationship between government size, somehow measured, and economic growth. Here is a sample: Barro (1991 and 1989); Folster and Henrekson (2001); Romero-Ávila and Strauch (2008); Afonso and Furceri (2008); Chobanov and Mladenova (2009); Roy (2009); and Bergh and Karlsson (2010). Each of these studies finds a strong, statistically significant, negative relationship between the size of government and economic growth.
What about the short run? Here again the evidence seems weak at best. Consider new research by Harvard’s Robert Barro and Charles Redlick. They find that for every dollar the government spends on the military (read: takes out of the private economy), the economy gains just 40 to 70 cents. Spending a dollar to obtain 40 to 70 cents does not a good deal make. Or consider another study by Harvard’s Laruen Cohen, Joshua Coval and Christopher Malloy. They rely on the fact that the federal government tends to spend more money in districts whose congressional members are chairs of powerful committees than in districts whose members are just rank-and-file. They find that firms actually cut capital expenditures by 15 percent following the ascendency of a congressman to the chairmanship. Moreover, firms seem to scale back employment and experience declines in sales.
It seems to me that by just about any measure, we are currently conducting a large-scale experiment in massive government spending. Moreover, I believe the results of previous experiments predict that this one will lead to slower growth and less economic opportunity. This is not the time to worry that perhaps we have spent too little.
It is certainly true that some states, like some banks and Fortune 500 corporations, can be profligate, and are not models of efficiency. In Illinois, for instance, liberals and conservatives alike agree that the state’s dysfunctional political class failed to use the breathing room granted by the stimulus money to restructure finances, raise taxes and cut programs where necessary.
But tens of thousands of workers in Illinois alone are facing the layoff axe — including teachers, child welfare investigators and mental health counselors (the state’s entire budget for residential mental health currently faces elimination). And so the distinction between tough love and untenable choices appears thinner with each passing month.
Illinois Stops Paying Its Bills, but Can’t Stop Digging Hole
by Michael Powell - New York Times
Even by the standards of this deficit-ridden state, Illinois’s comptroller, Daniel W. Hynes, faces an ugly balance sheet. Precisely how ugly becomes clear when he beckons you into his office to examine his daily briefing memo. He picks the papers off his desk and points to a figure in red: $5.01 billion. "This is what the state owes right now to schools, rehabilitation centers, child care, the state university — and it’s getting worse every single day," he says in his downtown office. Mr. Hynes shakes his head. "This is not some esoteric budget issue; we are not paying bills for absolutely essential services," he says. "That is obscene."
For the last few years, California stood more or less unchallenged as a symbol of the fiscal collapse of states during the recession. Now Illinois has shouldered to the fore, as its dysfunctional political class refuses to pay the state’s bills and refuses to take the painful steps — cuts and tax increases — to close a deficit of at least $12 billion, equal to nearly half the state’s budget. Then there is the spectacularly mismanaged pension system, which is at least 50 percent underfunded and, analysts warn, could push Illinois into insolvency if the economy fails to pick up.
States cannot go bankrupt, technically, but signs of fiscal crackup are easy to see. Legislators left the capital this month without deciding how to pay 26 percent of the state budget. The governor proposes to borrow $3.5 billion to cover a year’s worth of pension payments, a step that would cost about $1 billion in interest. And every major rating agency has downgraded the state; Illinois now pays millions of dollars more to insure its debt than any other state in the nation.
"Their pension is the most underfunded in the nation," said Karen S. Krop, a senior director at Fitch Ratings. "They have not made significant cuts or raised revenues. There’s no state out there like this. They can’t grow their way out of this." As the recession has swept over states and cities, it has laid bare economic weakness and shoddy fiscal practices. Only an infusion of federal stimulus money allowed many states to avert deep layoffs last year.
Cuts in Work Forces
The federal dollars are nearly spent. Last month, local governments nationwide shed more than 20,000 jobs. Should the largest struggling states — like California, New York or Illinois — lay off tens of thousands more in coming months, or default on payments, the reverberations could badly damage a weakened economy and push housing prices down still further. "You’re not seeing these states bounce back, and that could be a big drag on the national economy," said Susan K. Urahn of the Pew Center on the States. "It could be a very tough decade."
In Illinois, the fiscal pain is radiating downward. From suburban Elgin to Chicago to Rockford to Peoria, school districts have fired thousands of teachers, curtailed kindergarten and electives, drained pools and cut after-school clubs. Drug, family and mental health counseling centers have slashed their work forces and borrowed money to stave off insolvency.
In Beardstown, a small city deep in the western marshes, Ann Johnson plans to shut her century-old pharmacy. Because of late state payments, she could not afford to keep a 10-day supply of drugs. In Chicago, a funeral home owner wonders whether he can afford to bury the impoverished, as the state has fallen six months behind on its charity payments, $1,103 a funeral.
In Peoria — where the city faced a $14.5 million gap this year and could face an additional $10 million budget hole next year — Virginia Holwell, a trainer of child welfare caseworkers, lost her job when the state cut payments to her agency. She sits in her living room high above the Illinois River and calculates the months of savings left before the bank forecloses on her house. "I’ve got enough to last until the end of August," she says, matter-of-factly. "I’m 58 and I’m pretty good at what I do, and I got to tell you, I’m pretty devastated."
Public colleges and universities occupy a fiscal sickbed all their own. This year they muddled through without $668 million expected from the state; the University of Illinois has yet to receive 45 percent of its state appropriation. Legislators made no pretense of promising to pay this bill soon. Instead they authorized colleges to borrow against the expected state payments. "The big fear is that next year we’ll be down twice as much," said Randy Kangas, an associate vice president of the university. "No one knows how to make the cash flow work."
Illinois legislators tend to plead victim to economic circumstance, and the state’s maladies are considerable. In 2006, the Illinois unemployment rate stood below 5 percent; now it is near 11 percent, and the percentage of long-term unemployed exceeds the national average. Major manufacturers have eliminated thousands of jobs, and the state ranks in the top 10 nationally in foreclosures.
Five years ago, the Chicago suburb of Tinley Park issued about 650 home building permits; last year it processed one. The city of Rockford plans to close fire stations and lay off firefighters, and in Decatur, 180 impoverished seniors have lost their delivered meals. The lakeshore condo towers in Chicago bespeak affluence, but there are so many foreclosures on the bungalow blocks of southern and western Chicago that "for sale" signs sprout like sunflowers.
Few budget analysts are surprised to see Illinois, with a limping economy and broken political culture, edge close to the abyss. Two of the last six governors have served jail terms, and a third is on trial. "We are a fiscal poster child for what not to do," said Ralph Martire of the Center for Tax and Budget Accountability, a liberal-leaning policy group in Illinois. "We make California look as if it’s run by penurious accountants who sit in rooms trying to put together an honest budget all day."
The Community Counseling Centers of Chicago is another of those workaday groups that are like the stitches on a baseball, holding together poor and working-class neighborhoods. With an annual budget of $16 million, the agency tends to families torn by crime and violence as well as people who are psychologically stressed and abusing drugs. On any given Monday morning, the agency’s chief administrative officer, John J. Troy, 61, has no idea how he is going to keep its doors open until Friday. He said the state had not come through with an expected $2.2 million, which is about six months of arrears. He has laid off and recalled employees three times in the last two years.
"Two weeks ago, I had days to meet my $420,000 payroll and all I was looking at was a $200,000 line of credit from a bank," recalled Mr. Troy. "I drove down to Springfield and said, ‘Hey, you owe us $3 million.’ They said: ‘Oh, that’s nothing. We owe another agency $10 million.’ " "The fact of the matter is," he added, "I don’t sleep much these days."
Illinois’s fiscal practices are thoroughly fractured. Large agencies survive from one payday to the next. Small agencies seek high-interest loans from out-of-state finance companies. The state pension system is a money sinkhole and the most immediate threat. The governor and legislature have shortchanged the pensions since the mid-1990s, taking payment "holidays" with alarming regularity.
The state’s last elected governor, Rod R. Blagojevich, is on trial for racketeering and extortion. But in 2003, he persuaded the legislature to let him float $10 billion in 30-year bonds and use the proceeds for two years of pension payments. That gamble backfired and wound up costing the state many billions of dollars. Illinois reports that it has $62.4 billion in unfunded pension liabilities, although many experts place that liability tens of billions of dollars higher.
Legislators this year raised the retirement age and slashed benefits. Though changes apply only to future employees, the legislature claimed immediate savings. "Savings upfront and reforms down the road," said Mr. Hynes, the state comptroller. "It’s just bad habits and bad practices." More broadly, Illinois is caught between blue state convictions about social safety nets and a red state aversion to taxes. For years, the Democratic-controlled legislature has passed budgets that are, in effect, in deficit.
Lawmakers routinely skip around the state’s balanced-budget law, with few consequences. (Republicans are near monolithic in voting against any tax increases and borrowings. When one broke ranks to try to keep the pension solvent, he was stripped of a committee position, reducing his pay and pension.) "The pension move was Enron-esque," said Mike Lawrence, a press secretary to the former Republican governor Jim Edgar, who was the last governor to sign an income tax increase. "Blagojevich was not a tax-and-spend governor; he was a spend-and-borrow governor."
The state’s income tax burden is not terribly high — Illinois ranks in the bottom half of states — and its government is not terribly large. (The budgets in New York and California, per capita, are much larger). Even if the state cut out all family and human services spending, more than half of the budget deficit would remain. As comptroller, Mr. Hynes has trained his attention on the public and nonprofit agencies that rely on state money; he tends to roll his eyes at the notion that slashing alone is a solution. "Only the most delusional people think you can solve this without raising taxes," he said.
The legislature has a different instinct: to borrow. In good times, that leads to unsightly imbalances. In bad times, it becomes catastrophic. This year, leaders gave the governor authority to move money around and left town to campaign. "Each budget has gotten historically worse during this recession," said Laurence Msall, president of the Civic Federation, a policy research organization. "We’ve borrowed more and pushed larger unpaid bills into the future."
‘Everything Is Triage’
So where is the exit door from this crisis? In Illinois, it depends on whom you ask. The state representative Barbara Flynn Currie, one of the Democratic leaders in the statehouse, sees salvation in the economic cycle. "In the long run, we’ll muddle our way through," she said. Perhaps, but many analysts, liberal and conservative, warn of a potentially far grimmer reckoning — Greece by Lake Michigan. Borrowing costs are rising, nonprofits that depend on taxpayer money are dropping contracts, and the state’s pension costs and unpaid bills balloon each month.
Newspaper reports offer stories of hundreds of young teachers moving out of state. Sounding as if she had been punched in the stomach, Ms. Johnson, 53, the pharmacist in Beardstown, said she was going to work at Wal-Mart. Mr. Troy keeps logging on to the comptroller’s Web site to see whether money might soon flow to his counseling centers. And Ms. Holwell has joined Illinois People’s Action, which challenges banks and foreclosures. With a raspy voice, she talks of her irritation with "the people who just yammer." "We’ve helped save four houses," she said. "Now I wonder: can I save my own?"
For now, Illinois spends a minor fortune papering over its budget holes. Last year, the comptroller’s office paid $55.3 million just in interest on two short-term borrowings to pay the state’s bills. Mr. Hynes walked into his child’s elementary school recently and learned that kindergarten hours were being cut because of the state budget. "Everything is triage now," he said. "We work to avoid outright disaster."
In past years, when nonprofits needed credit lines to see themselves through tough budget times, the comptroller issued letters assuring banks that vendors would be paid. Not anymore. "I don’t feel comfortable doing that," he said, adding with a shrug, "I mean, who knows, right?"
Insufficient Jobs Set the Stage for Slowdown in U.S. Recovery
by Timothy R. Homan and Steve Matthews - Bloomberg
The U.S. recovery is poised to slow in the second half of 2010 after smaller-than-forecast growth in private payrolls for June capped a month of data indicating weakness in industries from housing to manufacturing. Employment fell by 125,000 workers, the first drop this year, reflecting government census cutbacks, while companies added 83,000 to payrolls, Labor Department figures in Washington showed yesterday. Reports last month showed a plunge inhome sales, a slump in consumerconfidence, cooler manufacturing and less growth in the first quarter. The lack of jobs will curtail consumer spending, which accounts for about 70 percent of the world’s largest economy, and restrain sales at retailers includingBarnes & Noble Inc.
The rebound from the worst recession since the 1930s faces risks from the European debt crisis and slower growth in China at the same time that fiscal stimulus measures fade. "Consumer spending will continue to be quite modest," said Nariman Behravesh, chief economist at IHS in Lexington, Massachusetts. "We are still paying the price for this big financial crisis we’ve been through. Credit is still tight and housing is suffering." The jobless rate fell to 9.5 percent, the lowest level since July 2009, from 9.7 percent in May. The decline reflected a 652,000 decrease in the size of the labor force. Economists called for the jobless rate to rise to 9.8 percent, according to a Bloomberg News survey.
The pace of hiring signals it will take years for the U.S. to recover the more than 8 million jobs lost during the recession that began in December 2007. Economists projected overall payrolls would decline by 130,000, according to the median forecast in a Bloomberg News survey. The government cut 225,000 temporary workers conducting the 2010 census. Private payrolls were forecast to rise 110,000. The U.S. faces headwinds from abroad as a slowdown in China and Europe threaten demand for American exports.
Goldman Sachs Group Inc. this week cut its forecast for 2010 growth in China to 10.1 percent from 11.4 percent as government restrictions on lending and real estate slow expansion in the world’s fastest- growing major economy. The European debt crisis and signs of a global slowdown are weighing on U.S. stocks. The Standard & Poor’s 500 Index dropped 12 percent from April through June, breaking a four-quarter winning streak that sent the benchmark gauge up 47 percent. The drop was the biggest since the last three months of 2008. Treasury securities soared, sending the yield on the benchmark 10-year note down to 2.93 percent at the close on June 30 compared with 3.83 percent on March 31.
Federal Reserve policy makers last month repeated their pledge to keep the benchmark interest rate near a record low for an "extended period" and warned that financial-market turmoil linked to the European sovereign-debt crisis may harm U.S. growth. Other countries are raising rates. India’s central bank increased its target rate for the third time this year in an unscheduled announcement yesterday as inflation pressures from faster economic growth outweighed risks from Europe.
Some economists, such as Jeffrey Frankel, a member of the National Bureau of Economic Research’s panel that dates U.S. business cycles, say recent data raise the risk of dipping back into a recession. "You cannot rule out a double dip, in light of Europe’s problems," said Frankel, who is also a Harvard University professor. "The biggest cloud on the horizon globally is the spillover of sovereign debt concerns from Greece. I think the next couple months of indicators will be more telling than the last couple months."
Manufacturing, which accounts for about 11 percent of the economy, helped lead the U.S. out of recession during the second half of last year. Those gains may slacken as the industry cools. A report this week from the Institute for Supply Management showed manufacturing expanded in June at the slowest pace this year as orders and exports cooled. "Everything we have seen in the last several weeks, plus the continued contraction in total bank credit and weak money supply growth, all suggest the economy is losing altitude," said Paul Kasriel, chief economist at the Northern Trust Corp. in Chicago.
"It is not that it will hit the deck; it is adjusting to an even slower rate of growth in the second half of the year." Best Buy Co., the world’s largest consumer-electronics retailer, last month reported first-quarter profit that rose less than analysts projected as some U.S. shoppers bought fewer games and movies. Declines in hours worked and earnings make it more likely consumers will pull back further.
The average work week for all workers declined to 34.1 hours in June from 34.2 hours the prior month, yesterday’s report showed. Average hourly earnings fell 2 cents to $22.53. "The risk of a double dip is still uncomfortably high, with little left in our arsenal of fiscal and monetary stimulus to fight it," said Diane Swonk, chief economist of Chicago- based Mesirow Financial Holdings Inc. "It is a bit like being stuck in a traffic jam. We are moving forward, but at such a slow pace it is causing more frustration and tension than sense of progress."
The economy, employment and the budget deficit are likely to be the main campaign issues leading up to the November elections that will decide which political party controls Congress. The Obama administration is already facing public pessimism about the state of the labor market. "Make no mistake, we are headed in the right direction," President Barack Obama said yesterday after the employment report. "We are not headed there fast enough for a lot of Americans. We’re not headed there fast enough for me either."
Goldman Sachs warns on global economic slowdown
by Jonathan Russell and Angela Monaghan - Telegraph
Fresh fears over a global economic slowdown were raised on Saturday after Goldman Sachs' chief economist warned that data from China and the US revealed that any recovery was facing a "challenging period" and that evidence from America was "troubling". As Britain enters a self-imposed period of austerity to deal with an historically large budget deficit, Jim O'Neill, one of the world's foremost economists, said that events beyond our shores could pose more of a problem than any domestic economic problems.
Writing in The Sunday Telegraph, Mr O'Neill, head of global economic research at Goldman, said: "What is clear is that a persistently struggling US, in addition to a major disappointment in China, would not be good news for the rest of us." Mr O'Neill, the man who first identified the BRIC economies of Brazil, Russia, India and China as the future for global economic growth and who has previously been bullish on the recovery, goes on to pinpoint growth in China as the main concern for the global economy.
He does say, though, that the present slowdown in China is to be welcomed as long as it is controlled. "If we are wrong (about estimates for growth in China) especially significantly, then the world will be a very challenged place, particularly for those living on self-imposed domestic austerity," he said. "What adds to the reality of this situation is that there appears to be growing evidence that China is slowing down."
The warnings come just days after Goldman downgraded its forecast for GDP growth in China this year from 11.4pc to 10.1pc. China is currently carrying out a difficult rebalancing operation of slowing its high speed economic growth without killing the global economic recovery. While China is still growing, the outlook in the US is "distinctly chilly", Mr O'Neill warns, and the country could be threatened by a period of deflation. "Despite our global optimism of the past year, we have remained rather cautious about the US, expecting the past problems of housing excess and domestic savings weakness to plague domestic consumption for some time," he writes.
"What is more troubling recently is that the housing market indicators have turned especially weak again." The other danger highlighted by Mr O'Neill is the concern that too many G20 economies undertaking austerity measures at the same time could reverse the global economy recovery. His view mirrors concerns voiced by President Barack Obama at the recent G20 meeting when he wrote to other world leaders expressing worries about the speed of budget cuts. "All G20 members tightening fiscal policy at the same time as the UK's tough stance would make it hard to deliver on improving growth for all, or possibly any," Mr O'Neill explains.
The gloomy outlook comes just days before the Bank of England's Monetary Policy Committee meets to decide whether to raise interest rates. The expectation is that members will vote to leave interest rates on hold at 0.5pc on Thursday amid the mounting concerns of a double-dip global recession. They are also expected to maintain its quantitative easing target at £200bn of asset purchases. Unlike the US, the MPC has been grappling over recent months with the twin pressures of above-target inflation and the risk that the fragile recovery under way in the UK could be derailed.
Mervyn King, the Bank's Governor, has already indicated that loose monetary policy will be required to offset the impact that the severe fiscal tightening announced in the Budget is likely to have on growth. The British Chambers of Commerce (BCC) urged the MPC to maintain its ultra- loose monetary policy stance. "While the recent tough Budget was an important step towards stabilising our public finances and protecting our credit rating, its scale and severity inevitably increases the danger of an economic setback," said David Kern, chief economist at the BCC. "Negative developments in the eurozone and signs of a slowdown in the US only add to the obstacles facing the UK economy."
However, one member of the committee, Andrew Sentence, voted for a 0.25 percentage-point rise in interest rates at the June meeting, citing "resilient" inflation. Mr Kern said: "We were disappointed and concerned that one MPC member voted for an interest rate increase at its last meeting. Raising interest rates too soon would be a major mistake. "It would heighten threats of a major setback, which are particularly acute at this early stage of the recovery."
Economists do not expect the MPC to increase rates in the immediate future. "We expect the MPC will keep rates on hold until year end and hike only slowly in 2011, but they may have to act more aggressively if above-target inflation destabilises inflation expectations," said Michael Saunders, economist at Citigroup.
Also on Thursday, data from the Office for National Statistics are expected to show manufacturing output and the broader industrial production measure both grew by 0.3pc in May, after falling 0.4pc in April. There are fears, however, that recovery in the manufacturing sector could lose steam if depressed demand among Britain's key trading partners in the US and Europe hits exports. The latest trade data on Friday will give a snapshot of export levels in May. The trade in goods deficit is expected to narrow to £7bn, from £7.3bn in April.
European shares hit 6-week closing low
European shares edged lower on Monday with miners weaker on a gloomier economic outlook, though a rise for BP helped stem losses in thin volumes as Wall Street was closed for a holiday The pan-European FTSEurofirst 300 index of top shares fell 0.2 percent to end the day provisionally at 967.35 points, the lowest close since May 25. Worries of a double-dip recession returned with data showing growth in the services sector in China, Britain and the euro zone slipped in June.
Mining stocks that suffered included Anglo American, BHP Billiton and Rio Tinto, down 1.8-2.2 percent. The index lost 4.3 percent last week, weighed down by persistent worries over the pace of global economic recovery. But some strategists said the recent sell-off was overdone. "You will see over the next two weeks some strong corporate earnings numbers and we should have some spectacularly good economic data from Germany and France partly because of the weak euro," said Bob Parker, vice chairman of asset management at Credit Suisse.
BP rose 4 percent on optimism that the plugging of the leaking well in the Gulf of Mexico was now only about a month away. Reports said BP was seeking a strategic investor to secure its independence, though major shareholders were skeptical and said this was unlikely.
China shares fall to 15-month low on slowdown fears
The Shanghai composite index has closed at a 15-month low after data pointed to slowing growth and rising inflation. The index dropped 19 points or 0.8% to 2,364 at the end of trading, its lowest close since April last year. Shanghai was one of the first markets to recover after the global financial crisis, but peaked in August last year. It has since fallen 32%. Growth in passenger car sales slowed in June, the latest sign that China's high speed economy may be cooling down.
Car sales rose 10.9% in June compared with a year earlier, down from a growth rate of 25% in May. On Thursday it was reported that the Purchasing Managers' Index (PMI), which gives an indication of the health of the manufacturing sector, fell to 52.1 in June from 53.9 in May. Anything above 50 shows expansion in manufacturing output. Then on Monday, HSBC announced that a similar index that it produces for the Chinese service sector fell to a 15-month low of 55.6 in June from 56.4 in May. "The Chinese stock exchange has had a pretty horrific year so far," said Dariusz Kowalczyk, China economist at Credit Agricole in Hong Kong. "The economy is still growing, but it is slowing very sharply," he explained to the BBC.
He said the slowdown had been evident for some time in "soft" data like the PMI surveys, which measure business sentiment. But the June car data release marks the first time that the slowdown has shown up in "hard" data that measures economic output. Mr Kowalczyk believes that the slowing pace of the economy is mainly down to a fall in government spending compared with last year. Beijing ramped up spending, particularly investment in new infrastructure, in response to the global recession.
But the current fiscal expansion programme is winding down, and will expire at the end of this year. Moreover, Mr Kowalczyk said that while the slowdown in the US economy had not affected China yet, it would probably hit Chinese exports in the second half of the year, slowing Chinese growth further. "I think it is inevitable that that there will be a new fiscal stimulus programme next year," he added.
But Beijing also faces a serious policy dilemma, thanks to accelerating inflation. The Consumer Prices Index (CPI) increased at an annual rate of 3.1% in June - above the Chinese central bank's official target of 3%. More worryingly, producer price inflation - the cost of goods leaving the factory gate - rose to 7.1% in June. "There is concern about inflation because of social reasons," says Mr Kowalczyk. Higher CPI inflation raises the cost of living for Chinese households and erodes the value of their savings.
Beijing's recent decision to allow more flexibility in the exchange rate of the Chinese currency should help slow inflation. A rising yuan lowers the price of imports and cools demand for Chinese exports. However, the Chinese authorities have only allowed the yuan to rise very gradually - the currency is up 0.9% against the dollar since the new more flexible policy was announced last month.
Other options to rein in inflation may include raising interest rates and ordering banks to further cut back lending. However, whatever the Chinese government chooses to do to address inflation, it will also inevitably involve constricting growth in the second half of the year. "They are hesitant about imposing higher borrowing costs on Chinese industry," notes Mr Kowalczyk.
Euro Worst to Come for Top Analysts as TD Sees Dollar Parity in 2011
by Matthew Brown - Bloomberg
The most accurate foreign-exchange forecaster says the euro will continue to weaken and may approach parity with the dollar as the European Central Bank buys more government bonds to support the region’s economy. Shaun Osborne, chief currency strategist at TD Securities Inc. in Toronto, said the euro will depreciate to $1.13 in the third quarter, $1.08 by year-end and may near $1 in 2011 before recovering. Osborne, whose predictions were within 4.1 percent of the mark on average, according to data compiled by Bloomberg, was echoed by the nine following most-accurate forecasters anticipating a lower euro in the next two quarters.
The euro weakened 15 percent against the dollar in the first half on speculation record budget deficits from Ireland to Portugal and Greece will force governments to cut spending and reduce economic growth. Bond yields among the euro-area’s so- called peripheral nations surged relative to German bunds even as European Union leaders crafted an almost $1 trillion aid package to avoid sovereign defaults. "It’s going to be an immensely challenging environment for these economies to try and regain competitiveness internally within the euro zone," said Osborne, 47, who has been head of currency strategy at TD Securities since he joined in 2006 from Scotia Capital. "The ECB is moving towards its version of quantitative easing. It suggests they’re going to be very late now to the tightening cycle."
The currency, shared by 16 European nations, rose 0.5 percent to $1.2596 as of 8:45 a.m. in London. It has gained 5.6 percent since hitting a more than four-year low of $1.1877 on June 7, after falling from 2009’s high of $1.5144 on Nov. 25.
The ECB began buying government bonds from some member nations on May 10, part of the EU rescue package, to cap yields and underpin the euro. The decline threatens to break up the region, former Federal Reserve Chairman Paul Volcker said in May, while central banks are putting more of their reserves into currencies other than the euro, data from the International Monetary Fund show.
"Reserve diversification, one of the drivers behind euro strength ever since the introduction of the single currency, is therefore unlikely to be euro-dollar supportive over the next few years," said Henrik Gullberg, a strategist in London at Deutsche Bank AG, the world’s biggest foreign-exchange trader and one of the five best predictors of the currency’s decline against the yen and the pound this year.
TD Securities, a unit of Canada’s second-biggest lender, Toronto-Dominion Bank, was also the most accurate forecaster for the dollar against the yen, second best for the euro versus the yen and the dollar-Swiss franc exchange rate. The firm’s predictions had the lowest margin of error in a survey of 48 forecasts for eight currency pairs in the past 18 months.
The firm surpassed second-ranked Standard Chartered Plc, whose margin of error was 4.37 percent, third-place Wells Fargo & Co., Credit Suisse Group AG in fourth place and Canadian Imperial Bank of Commerce in fifth.
Recent euro strength is a sign traders are trimming bearish bets after wagering correctly that the currency would weaken, rather than a change in sentiment, according to Callum Henderson, head of foreign-exchange strategy at Standard Chartered in Singapore.
"We do not think euro-dollar weakness is over," Henderson wrote in an e-mail. "Growth in the euro area will remain subdued for some time due to fiscal tightening. To be sure, euro weakness will benefit the exporters in north Europe." Henderson predicts a drop to $1.10 to $1.12 this quarter, before the euro recovers to $1.30 by 2012. CIBC, based in Toronto, predicts the euro will depreciate to $1.18 in the third quarter, before climbing to $1.20 by the end of the year and $1.24 by mid-2011. The next six months will be a "turning point" as traders focus on economic frailty in the U.S., said Avery Shenfeld, the chief economist at CIBC. The Toronto-based firm’s average margin of error was 5.19 percent.
Futures show a majority of traders don’t expect an interest-rate increase by the Fed until the second quarter of 2011 after the central bank said June 23 that "financial conditions have become less supportive of economic growth on balance, largely reflecting developments abroad." "There will be an absence of enough growth to prompt Fed tightening anytime soon, and a recognition that if domestic demand cannot sustain the U.S. expansion that a weaker dollar will be needed to allow trade to fill in for some of that," said Shenfeld, who joined CIBC 16 years ago and has been chief economist for a little more than a year.
The Fed has kept its benchmark interest rate at zero to 0.25 percent since December 2008, while the ECB’s main rate has been at a record low of 1 percent since May 2009. The most accurate analysts were identified using data gathered for Bloomberg’s Foreign Exchange Forecasts function. Firms were compared based on seven predictions: six forecasts as of the end of each quarter for the close of the subsequent quarter, starting Dec. 31, 2008, plus estimates as of a year ago for this year’s second quarter. Only firms with at least four forecasts were ranked in each currency pair, and only those that qualified for ranking in at least five of eight pairs were included in the overall best list.
The majority of analysts say the euro has further to fall against the dollar, dropping to $1.19 in the first quarter and ending 2011 at $1.21, according to the median of at least 26 forecasts compiled by Bloomberg.
Weakness ‘To Persist’
"Over the next six months, the market’s concern over the growth outlook is likely to persist," said Derek Halpenny, European head of global currency research in London at Bank of Tokyo-Mitsubishi UFJ Ltd., which ranked seventh overall, with a 5.55 percent margin of error. "The scenario for the global economy is deteriorating, and in those circumstances you’ve got to prefer the dollar over countries where they are implementing austerity programs."
The euro is most likely to weaken in the second half of this year against the Australian, New Zealand and Canadian dollars, said Nick Bennenbroek, 39, global head of currency strategy in New York at Wells Fargo, the biggest U.S. home lender. The bank had a margin of error of 4.76 percent across all currency pairs and was the top forecaster for the dollar against the yuan. "Our overall view is that the euro will continue to weaken and Australia, New Zealand and Canada will rebound over the next year," said Bennenbroek, who joined the bank in 2007, beginning his career in finance at the New Zealand Treasury in Wellington. "These are medium-term trades we believe people should be putting on now." The euro will end this year at $1.20 and conclude 2011 at $1.08, he said.
Currency forecasting became easier the past 12 months after the worst of the global financial crisis, sparked by Lehman Brothers Holdings Inc.’s collapse in September 2008, passed, said Niels Christensen, 49, chief currency analyst at Nordea Bank AB in Copenhagen. Nordea was the most-accurate forecaster for the euro-dollar exchange rate. "In March 2009, everybody was wondering whether we would get another Lehman, that the economy was extremely fragile," he said. "In December 2009, the wave of risk appetite was abating and currencies started to trade on fundamentals and rate differentials again."
The euro will trade at $1.25 through year-end before weakening to as low as $1.15 in 2011, according to Nordea. Ray Farris, head of foreign-exchange strategy in London at Credit Suisse, whose margin of error in the survey was 4.81 percent, said he wasn’t able to immediately comment. The European currency will rise versus the yen, climbing to 114 yen in the fourth quarter and 127 yen by the end of 2011, from 109.36 today, median forecasts show. The pound will fall to $1.44 this quarter, and strengthen to 81 pence per euro in the first quarter, the estimates show. Sterling was at $1.5202 and at 82.85 pence per euro today.
Roubini Says German, U.S. Debt to Be Havens in Face of Economic Fragility
by Francine Lacqua and Mark Deen - Bloomberg
Nouriel Roubini, the New York University economist credited with predicting the financial crisis, said that government bonds of countries such as Germany, Canada and the U.S. will represent a haven from increasingly volatile markets in coming months. "It is going to be a period of economic and financial fragility," Roubini said in an interview in Aix en Provence, France. "The short-term and long-term debt of countries not yet subject to sovereign debt concern will be havens," he said.
The global economy will slow in the second half as deficit- reduction measures, notably in Europe, sap demand, Roubini said. U.S. growth will ease to about 1.5 percent by the end of 2010, about half its potential, while the euro area’s expansion may stall, he said. As a whole, the world should avoid a double-dip recession, he said. "The next few weeks and months will be a time of volatility as the market surprises on the downside," he said. "It’s a pretty ugly picture. The macro news from the U.S., Europe, Japan and even China is disappointing. Credit spreads will widen."
Lagarde: Europe Will Pass Stress Tests
by Nathalie Boschat - Wall Street Journal
France hasn't made a choice between austerity and stimulus, Finance Minister Christine Lagarde said Sunday, describing the French economic policy as a mix of spending cuts and measures aimed at boosting demand. The robustness of the recovery and the ability of banks to survive a second downturn was a recurring theme at the conference. Ms. Lagarde said European stress tests will show European and French banks to be solid.
The European Union's internal markets commissioner, Michel Barnier, said he was confident Europe would have the tools to quickly deal with any problems exposed by the stress tests, which seek to show how a bank could handle extreme crises. Under pressure from the U.S, which was worried about the exposure of European banks to the sovereign debt of euro-zone countries such as Greece, Spain and Portugal, European leaders agreed at a recent summit to disclose the results of stress tests being carried out on European banks. These tests target around 100 of the Continent's largest banks and their results will be published on July 23, she said.
Ms. Lagarde straddled the two sides of the international debate on the necessity of stimulus measures to preserve the global recovery. Going into the Group of 20 summit in Toronto last month, nations were split on how fast to withdraw stimulus measures aimed at supporting demand and starting to cut deficits. The U.S. in particular urged its European counterparts, most of which have unveiled sweeping deficit-reduction plans in recent weeks, to take all necessary steps to safeguard growth. "There is no choice between austerity and stimulus," Ms. Lagarde said at an economic conference in Aix-en-Provence. "Our policy is a subtle mix between growth-friendly spending cuts and letting play out the remainder of our stimulus package," she said.
The French government has committed to reducing the public deficit as a percentage of gross domestic product from a projected 8% this year to 3% in 2013, and to this end has said it will freeze state spending for three years and cut operating costs 10% by 2013. The aim is to generate €100 billion ($125.61 billion) of savings by 2013, half of which will come from spending cuts and the closure of tax loopholes, and the other half from an increase in tax receipts due to the return of growth, according to the French government plan.
European Central Bank President Jean-Claude Trichet said at the conference Sunday that reducing deficits and putting in place sustainable fiscal policies are key to restoring confidence, which will in turn foster growth. "We are in a period when we have to manage budgets very cautiously.…You may call that austerity if you want, I call this rigorous fiscal policies," Mr. Trichet told reporters on the sidelines of an economic conference in southern France. "If you want sustainable growth, then you have to restore confidence and to do that you need to have balanced and sustainable fiscal policies in place," he added, stressing this would fuel household, business and investor confidence alike. "This is in the interest of long-term growth," he said.
Mr. Trichet ruled out the risk of a double-dip recession as a result of austerity plans being carried out in several European countries at the same time. "It is clear that we are experiencing a recovery at the global level, which is confirmed particularly in emerging countries but also in the industrialized world," Mr. Trichet said. He said the recovery shouldn't be taken for granted in developed countries and should be strengthened by structural reforms.
The French finance minister also expressed confidence that stress tests currently carried out on European banks will show European and French banks to be healthy. "You will see that banks in Europe are solid and healthy," Ms. Lagarde said, adding: "I am not worried about my banks." Mr. Barnier said the tools currently put in place by the EU to strengthen regulatory oversight in Europe will enable governments to deal with any problems revealed by stress tests. "It will also be time to use the set of tools developed by the European commission to enhance supervision and risk management and to create resolution funds.…You have a set of tools to correct [potential problems]," Mr. Barnier said.
The commission wants member countries to set up a tax on banks in order to finance funds to help the orderly failure of troubled financial institutions. Mr. Barnier said he was confidence a compromise would be found between European governments regarding the bloc's new regulatory framework. The commission wants to set up three European supervisors—one for banks, one for insurers and another one for securities markets—which would have the power to issue binding regulation for these industries in Europe.
But some countries like the U.K. fear this might diminish the power of national supervisors. "What we are saying is, that on a continent where half of the banks in one country belong to other countries, there could be a systemic risk due to cross-border financial institutions…and that therefore you need a European radar that can rely on national supervisors," Mr. Barnier said. He added that he trusted the new European supervisors would be in place early next year.
Ms. Lagarde said that banks' capital buffers must be increased and their quality improved in order to prevent future crises, but she warned that this shouldn't be done at the expense of credit growth. She said France favors instituting a tax on banks to reduce risk over a capital surcharge, adding that such a tax should target banks' riskiest activities.
Bank Balance Sheets Could Torpedo Recovery
by Beat Balzli, Markus Dettmer, Armin Mahler and Christian Reiermann - Der Spiegel
Germany's economy is booming thanks to a rapid recovery of global exports. But Europe isn't out of the woods yet. Few know exactly what nasty surprises might be lurking on bank balance sheets across the Continent -- and stress tests might not be enough to reveal them. Strict confidentiality is the order of the day when the elite of the German financial world gather. No pictures were taken of the memorable meeting which took place on Wednesday of last week. Only a laconic press release, nine lines long, informed the public of the event -- after it was all over.
The CEOs of the largest banks had accepted an invitation extended by Axel Weber, the president of Germany's central bank, the Bundesbank, and by Jochen Sanio, the head of Germany's Federal Financial Supervisory Authority (BaFin). Deutsche Bank CEO Josef Ackermann didn't attend personally, but he sent a representative -- Chief Risk Officer Hugo Bänziger. It was a fitting choice. Tops on the agenda for the meeting were the risks currently faced by Germany's largest banks. They are to be assessed in a stress test -- and then made public. In a subsequently released statement, the bankers in attendance declared "their fundamental willingness" to back this plan.
Still, it remains highly controversial whether such a course of action is a good idea, and the gathered bank representatives hotly debated the issue last Wednesday. Stress tests are designed to enhance transparency and engender trust. But they can also expose new risks -- or reveal old hazards that the public has since chosen to ignore. A high-profile stress test of German banks could thus mean even more stress for an industry that currently needs mutual trust and tranquility more than anything. It could bring a renewed sense of insecurity to the financial markets, which already act with hypersensitivity to every fresh news report.
The insecurity can easily be seen in the rapid yo-yoing of the markets in recent weeks. Risk premiums for Greek and Spanish government bonds are rising, even though euro-zone countries have committed themselves to securing the financing of ailing member states. Stock markets often vacillate within hours from depression to optimism and back again. Every bit of not entirely positive news from the US or China is seen as an indication that the world economy could suffer another relapse and the surprisingly rapid recovery won't last. Since the beginning of this year alone, the price of gold has risen by 13 percent.
Gold is always in high demand when confidence in economies and currencies flags. The precious metal is seen as a safe haven in times of uncertainty. Positive news has it rough in such times -- it's hardly even noticed and quickly forgotten. And yet there is good news. It comes from companies and from the labor market, and it tells of astonishing growth rates, full order books and new jobs -- particularly in Germany. Economic pundits are looking to the near future with increasing confidence. Recently the Kiel Institute for the World Economy (IfW) significantly revised upwards its growth forecast for this year.
The experts in Kiel now anticipate a growth rate of 2.1 percent for 2010. Similar predictions have been made by the German economic research institute RWI in Essen. The German Chambers of Industry and Commerce (DIHK) even expect growth of 2.3 percent. Economic advisors to Chancellor Angela Merkel's government have also been infected by the wave of optimism. In April, Berlin predicted 1.4 percent growth. That forecast has not been officially revised, but there is broad realization that it will ultimately be quite a bit higher. "Everything points to a figure of 2 percent, perhaps even slightly above that," says one government economic advisor.
Opposite Has Occurred
Even the pundits have been caught off guard by how quickly the German economy is finding its feet again. Only a few months ago, they were predicting that Germany's export-driven economy would lag behind other countries for years. But the opposite has occurred. The global economy will grow by 4 percent this year, and global trade will even soar by 7 percent. The big winners are precisely those companies in Germany that focus on exports. "We have to be part of this -- and we will be part of this," says Economy Minister Rainer Brüderle of the business-friendly Free Democratic Party (FDP). While other countries like France and the UK are still struggling to pull out of the recession, Germany has become the motor for economic growth in Europe.
Researchers also don't appear concerned that the German government's austerity program could strangle the recovery. Next year, when the measures go into effect, they expect an effect on growth of just two-tenths of a percentage point, and perhaps lower than that. German Chancellor Angela Merkel of the Christian Democratic Union (CDU) also feels that the concerns are unfounded. She says that the austerity program only makes up a fraction of the federal government's overall budget of some €300 billion ($375 billion).
In addition, Merkel points out that Germany's financial policy remains expansive. Her proof: Next year the German government will take on new debts to the tune of €57.5 billion. This is the figure proposed by the government's draft budget, which the cabinet intends to approve on Wednesday. The chancellor feels that there are no grounds to fear that the government is saving money at the expense of economic recovery.
The current sense of optimism is driven by developments on the labor market. The German job machine is revving up again, as if the downturn of the past two years were nothing more than an economic blip and not the worst global financial crisis in decades. When orders for core sectors of German industry plummeted by over 40 percent in the wake of the Lehman Brothers bankruptcy, there were already predictions of impending mass unemployment. Month after month, the anticipated onset of this horror scenario had to be postponed because unemployment rose only slightly -- if at all.
Billions of euros spent on government-funded programs to reduce worker hours -- known as short-time, or Kurzarbeit in German -- helped as a buffer. Now the labor market is recovering with surprising strength. In June of this year, 3.15 million Germans were out of work, more than a quarter of a million fewer than a year ago. This is the lowest figure since December 2008. The upward trend is particularly strong in eastern Germany, where there were 977,000 unemployed in June -- the lowest figure of the past 19 years.
The situation is "significantly better than expected in view of the overall economic conditions," says Germany's Federal Employment Agency. All signs indicate that the number of unemployed could drop below three million in the coming months. Other numbers are equal cause for celebration. The number of those with gainful employment in Germany has risen to 40.28 million. The figure for the months of may was "the highest number since German reunification," Germany's Federal Statistical Office said last week. Experts offer a range of explanations for the German job miracle: the large-scale use of short-time programs during the crisis, the rapid increase in exports and the weaker euro, which makes German goods cheaper abroad.
More than anything else, though, trade unions have practiced wage restraint for many years, which has helped enhance Germany's competitiveness. Unions and employers have agreed to differentiated and flexible working hour systems. The Hartz reforms introduced under the coalition of Social Democrats and Greens led by then-Chancellor Gerhard Schröder stripped much of the structural rigidness from the German labor market. Over the past decade, this has resulted in one of the most robust and flexible economies in the world. Germany is the only European country with an unemployment rate that is lower today than what it was before the outbreak of the global financial crisis in the spring of 2008. Meanwhile, unemployment has doubled in the US.
Over the long run, however, the export-dependent German economy won't be able to disengage itself from trends in the global economy, which is already showing initial signs of fatigue, both in the US and China. Some experts even fear that after a brief recovery, the global economy could fall back into a recession as economic stimulus programs run their course. They speak of the possibility of a double-dip recession.
Renewed Turbulence Guaranteed
Indeed, as long as the financial markets refuse to shed their anxiety, the foundation of the new recovery remains fragile. Renewed turbulence is virtually guaranteed. The banks still have enormous quantities of toxic assets on their books. Nobody knows when or to what extent these debts will have to be written off. In some cases, these bad investments consist of junk bonds from the days before the crisis, including second-class US real estate loans called subprimes.
In other cases, they include burdens that hardly anyone was aware of a year ago, like government bonds from Greece and other southern European countries, which were touted as a fairly sound investment at the time. Analysts at the US investment bank Morgan Stanley say that Europe is caught in a "vicious cycle." Instead of using government funds to forcibly recapitalize all banks, as the US did, the euro countries opted for another approach. After the Lehman Brothers bankruptcy, many banks loaded up on cheap cash from the European Central Bank (ECB).
According to Morgan Stanley, they have been using this money since October 2008 to finance the purchase of government bonds worth €420 billion. During this spending spree, the banks targeted high-yielding bonds from shaky southern European countries, primarily Spain, Greece and Portugal. They then deposited these bonds with the ECB as security for more loans from the central bank.
At the outset these lucrative deals soothed nerves on the markets, but they have now turned out to be time bombs. Nobody knows exactly how these bonds are weighted on the balance sheets -- and even less can be said about what they will actually be worth in the end. Indeed, despite euro-zone bailout packages for ailing members of the currency union, few doubt that Greece will eventually have to restructure its mounting debt. Creditors would be forced to forego some of their claims.
Would all banks survive such a haircut? And what happens if further euro-zone members run into trouble, plunging even more banks into difficulties? There is an enormous sense of uncertainty, and that breeds mistrust. Banks recently parked over €300 billion with the ECB overnight for the ridiculously low interest rate of 0.25 percent. Anyone who borrows money for 1 percent, only to turn around and deposit it overnight with the ECB for just 0.25 percent -- instead of earning considerably more by loaning it to the competition -- has one problem above all: fear.
Last week the banks borrowed significantly less money in new loans than what they had to pay back to the Bundesbank, but that only briefly reduced the edginess. "There is still a great deal of tension," says Hans-Günter Redeker, head foreign exchange strategist for the major French bank BNP Paribas. He says that the balance sheets are too shadowy. "We need a sound stress test on the table, which will also be made public." This is something, at least in principle, that everyone attending last Wednesday's meeting in Frankfurt also agreed on. But there were differing opinions on what was sound and what wasn't. There have been a number of stress tests in the past. But they weren't made public, and they did not take into account -- of all things --the greatest risk on the banks' balance sheets: the government bonds from the so-called PIIGS countries (Portugal, Italy, Ireland, Greece and Spain).
What the markets fear most of all is that these assets could plummet in value -- that these countries could declare bankruptcy and their debts would need to be refinanced. But this horror scenario is not taken into consideration in the current stress test. Otherwise critics could insinuate that the Bundesbank and the BaFin have doubts about the success of the bailout package. Instead, the bank auditors went on the assumption that a deepening of the debt crisis could drive up the price of credit default swaps on bonds from countries like Portugal and Spain, causing their value to drop and leading to write-offs for the banks. An additional routine scenario goes on the assumption that there could be another economic downturn. Many questions remain unanswered, however, and the representatives of the banks, the Bundesbank and the BaFin will no doubt have to meet again soon.
Europe risks failing the real test on banks
by Wolfgang Münchau - Financial Times
You know the pattern. The European Council makes an announcement to impress the financial markets – and then messes it all up in the implementation phase. Amid the ensuing cacophony the markets panic. Could it now happen again over stress tests for the continent’s banks? The decision to publish such tests for 26 banks was the one piece of good news to come out of the European Union summit two weeks ago. This was followed by negotiations to extend the tests to 100 banks, including some of the German Landesbanken and Spanish Cajas considered to be most at risk.
There are two reasons why one might want to conduct, and publish, stress tests. The first is to reduce market uncertainty about the banking system as a whole through a credible and transparent process; the second is to recapitalise the most vulnerable banks. But for this to work, the stress tests themselves must pass three tests: they must include realistic scenarios; they must be credible; and they must be backed up by a plausible re-capitalisation strategy. First, by realistic stress I mean the inclusion of extreme, not probable, worst-case scenarios. Given the recent discussions about Greece, this must include the worst estimates of a "haircut" – a deduction suffered by bondholders – of about 50 per cent of the face value of Greek bonds.
The stress tests will, according to reports last week, include a uniform haircut on sovereign bonds of 3 per cent. This number is a joke. Some institutions will have a stronger exposure to Greece, Portugal, Ireland or Spain than others, and it is important that those banks are stressed on the assumption of significant haircuts of their sovereign risk portfolios.BI can see the politics behind the 3 per cent figure. It is official EU policy to deny the reality that Greece might default or restructure. A genuine stress test might expose the EU’s position as indefensible. Those opposed to any inclusion of sovereign risk into the stress tests argue that the mere assumption of a haircut might turn into a self-fulfilling prophecy. The market would jump to the wrong conclusions.
This is a silly argument. Stress test scenarios are not forecasts. They are only scenarios, of the kind that market participants have already factored into the pricing of bonds. What else is the implication of a 10 per cent yield on 10-year Greek sovereign bonds? Second, the tests must be published in full and simultaneously. I hear that there is still some fighting over this. At a meeting deep inside the Bundesbank last week, the Landesbanken told Axel Weber, president of the German central bank, that they oppose full publication. German media reports suggested that Weber opposes the idea to leave that decision to the Committee of European Banking Supervisors, which is carrying out the stress tests.
I have no idea whether that story is true or not. I hope not. It would not be good if Germany gave the impression that it is – once again – a reluctant participant in a European process, interested instead only its own narrow competitive advantage. There can be no Landesbanken exception. That would defeat the whole point of the exercise. Partial obfuscation suggests that the banks have something to hide. Outside observers will treat a decision to withhold information as an acknowledgement that the bank is insolvent. Finally, the banks need a realistic recapitalisation strategy – one that strengthens the capital base. The capital base of some of the eight Landesbanken is thin, even without extreme assumptions about stress.
Unstressed, they all formally pass the official Tier 1 capital ratio minimum, as required by the Basel capital rules. But a large proportion of their capital base is made up of so-called silent capital – essentially a hybrid debt security with bond-like characteristics that entitle the holder to an interest rate cash flow. Silent capital is nevertheless classified formally as Tier 1 capital, an officially agreed measure of a bank’s financial strength. It is noteworthy that the capital injections from the German government’s bank rescue fund come in the form of silent capital – not equity.
The Basel Committee on Banking Supervision has proposed to tighten the definition of Tier 1 capital to exclude various types of funny money, such as silent capital. Those proposals have yet to be implemented. But since the stress tests are all about the future anyway, they should be based on those future rules, and include the narrow definition of core Tier 1 capital – genuine equity and retained earnings. This is the benchmark the Spanish authorities are applying, voluntarily, in their own stress tests.
The goal of the whole stress test exercise is not to erect a smokescreen of apparent solid capitalisation, but to strengthen the actual capital base.I get the funny feeling that these tests are devised in such a way that the banks will pass them. But this is not going to help much. Since everybody knows that large parts of the banking sector are in deep trouble, a good pass result may bring the opposite of reassurance. It would signal to the outside world that the EU is treating its debt crisis, which is a banking crisis at heart, as a public relations exercise.
Europe’s 'toothless' bank tests making matters worse
by Ambrose Evans-Pritchard - Telegraph
RBS and other City institutions have warned that Europe’s stress tests for banks are almost useless and may further damage confidence if they fail to cover the risk of large losses on sovereign defaults by Greece and other Club Med states. "I don’t think it is going to work," said Jacques Cailloux, Europe economist at RBS. "These stress tests are not rigorous enough. Investors are already pricing in a 50pc "haircut" on some Greek bonds so this has to be included, and perhaps 30pc for Spain." "We have had a complete failure of communication by the eurozone over recent months with 16 countries all saying different things, and there is a very high chance of another failure this time."
Mr Cailloux, who has issued a "double dip alert" for Europe, said it would be unwise for EU policy-makers to go holiday this summer. Markets are no longer willing to take on exposure to some €2 trillion of household and company debt in Spain, and this gap cannot be plugged for much longer by three-month loans from the European Central Bank. "If by the end of the summer we have not had much more aggressive policy action, we’re back to contagion. This time it is no longer just a peripheral story. It is starting to infect the core eurozone as well, France in particular. I cannot understand why the ECB is not buying Spanish corporate bonds," he said.
Christine Lagarde, French finance minister, said the result of tests would be published on July 23. Details will emerge over coming days on "the exact criteria we apply and of how heavily we stress the system". The tests will cover up to 100 banks, including many of the Spanish cajas and German savings banks at the eye of the storm. A report by CreditSights said some cajas have disguised the true scale of losses from the housing bust by propping up mortgage securities through purchases of delinquent loans from mortgage pools. The share prices of Allied Irish, Bank of Ireland, Dexia, and Credit Agricole have all fallen hard recently.
Mrs Lagarde said the tests will show that Europe’s banks are "solid and healthy", but it is this tone of certainty that is causing markets to ask whether this is really a "stress test without stress" – as dubbed in Germany’s media. Interbank lending in Europe has been half-paralysed since Greek debt woes escalated into a broader banking and sovereign debt crisis. The authorities hope the stress test will prove a magic cure. Last year’s tests in the US were the turning point for America’s banks, but that is because 10 of the 19 banks failed, requiring $75bn (£49.5bn) of extra capital.
Der Spiegel said the test will not include defaults by Greece or other states for fear that this would hurt the credibility of the EU’s new €440bn European Financial Stability Facility (EFSF) designed to shore up eurozone debtors. Hans Redeker from BNP Paribas said the EU authorities are damned if they do, and damned if they don’t. "The are afraid of provoking another shockwave in the market if they even talk about debt-restructuring, but it will be a hard sell to markets if they don’t."
There are fears that any inclusion of haircut levels of specific countries will leak out and become self-fulfilling, triggering an immediate market flight and a systemic crisis. "They are playing with fire," said one German banker. David Owen, of Jefferies Fixed Income, said the exercise settles nothing. "If you don’t stress-test the worst case scenario, it is not going to reassure anybody. A Greek default is clearly a risk."
Mr Owen said there is a loose parallel with Northern Rock in the lead up to the crisis when regulators weighed the risk of a property crash, but turned a blind eye to the risk of a seizure in the wholesale funding market – which was the real Achilles Heel.
Much of the damaged debt held by European banks is in portfolio accounts, and therefore does not have to be "marked-to-market" under accounting rules. There are serious doubts about the EFSF rescue fund itself, which has yet to secure a AAA rating or clarify whether any holdings of Club Med debt would have "senior status" that pushed private holders down the food chain – and deeper into trouble. Most banks will not touch Greek, Iberian, and Irish debt until this is clarified.
Some reports have suggested that the test might include a 3pc "haircut" on sovereign debt. It unclear what this means. Mr Owen said that if it covers all eurozone government bonds (including German) this would amount to €47bn of losses, tantamount to a Greek default or greater. But by trying to veil the problem in this way for political reasons the eurozone would merely twist itself into more knots.
The tests will be coordinated by the European Committee of Banking Supervisors (CEBS). It is understood that banks will be forced to raise extra capital if their Core Tier 1 ratios fall below 6pc under the test. Some German banks would undoubtedly drop below this line if their reliance on risky hybrid capital is penalized in accordance with the likely Basel III rules. These banks failed to take full advantage of the rally over the last year to boost their capital base, much to the irritation of Germany’s regulator BaFin.
Julian Callow, of Barclays, said the stress test looks like a dog’s dinner. "It is badly prepared and it is not going to clear the air. These tests worked in the US because the US Treasury was there to stand behind the banks and it was credible. The great issue in Europe is the credibility of the sovereign states themselves."
Banks Borrow $287 Billion From ECB
by Nina Koeppen and Geoffrey T. Smith - Wall Street Journal
Banks across the euro zone rushed to get funds from the European Central Bank, which allotted €229 billion ($287 billion) in seven-day liquidity in its weekly tender Tuesday. The amount is the highest allotted by the ECB since it launched its special 12-month funding operations about a year ago. The ECB had allotted almost €310 billion in weekly funds on June 19, 2009. The participation rate was also high, as a total of 151 banks bid at Tuesday's auction. That is more than twice the number of banks that participated in the ECB's weekly tender in mid-April.
Economists had expected demand for the weekly funds to be strong, after banks had to repay €442 billion in 12-month funds borrowed from the ECB last week. The result indicates that banks in the euro zone have still very limited access to market funding, economists said. The ECB will probably continue to provide banks with as much liquidity as needed through its weekly funding operations until well into next year, they said.
But the volume of Tuesday's tender was €45.08 billion less than the amount of short-term funds expiring Wednesday. A total of €274 billion in six-day and seven-day funds mature Wednesday. The seven-day funds where allotted at a fixed rate of 1%. By comparison, the overnight money market rate is at 0.42%, according to VWD data. Separately, the ECB said it drained €59 billion from the money market through an auction of one-week deposits at rates of up to 0.75%. The ECB accepted 83.6% of bids at the marginal rate and the average-weighted bid rate was 0.56%. There were 88 bidders at the auction.
The course of the weekly deposit tenders has thus returned to normal, after a brief blip last week when the bank failed to drain the full amount announced. That was due overwhelmingly to the reluctance of banks to part with their excess liquidity in the days before they had to repay the €442 billion in 12-month funds. The ECB's principle is to drain as much through the deposit auctions as it injects into the money market through its purchases of euro-zone government bonds through its Securities Markets Program. The total drained Tuesday implies that the ECB bought around €4 billion in bonds last week, effectively unchanged from the previous two weeks.
The ECB set up its Securities Markets Program in response to panicked selling of some euro-zone government bonds in early May. The central bank describes the program as being aimed at securing a smooth transmission of its monetary policy, the effects of which are neutralized by its weekly deposit auctions. Its critics accuse it of indirectly financing government deficits, and point out that not only is the ECB still offering unlimited liquidity to banks, it also allows them to use their deposits in the Securities Markets Program as collateral when borrowing from the central bank.
Spain’s Cajas May Be Hiding Mortgage Losses, CreditSights Says
by John Glover - Bloomberg
Spanish savings banks may be hiding losses on home loans by taking non-performing mortgages out of securitized transactions, according to CreditSights Inc. By carrying the bad loans on their own books the so-called cajas sidestep downgrades to their mortgage-backed securities, the independent bond research firm said in a report. The regional lenders helped fuel the nation’sreal-estate bubble, which burst after the collapse of the U.S. subprime market.
CreditSights follows a sample of 143 Spanish residential mortgage-backed securities collateralized by 136 billion euros ($170 billion) of loans, with about 45 percent originated by cajas. While the savings banks give little information about the state of their loan books, investor reports on the performance of the securitized debt suggest asset quality is weaker than at commercial lenders, CreditSights said. "Caja-originated mortgages are performing much worse than those extended by Spain’s commercial banks," analysts David Watts, John Raymond andHana Galetova wrote.
By buying mortgages out of the pools "they could have been artificially reducing the level of bad loans in RMBS while simultaneously undermining the quality of the cajas’ own assets," they wrote. A comparison of loans originated by commercial banks and cajas shows that delinquencies in the savings banks’ mortgages have been higher than those of the commercial banks for at least four years, the report said. Falling incomes caused by government austerity packages "would no doubt precipitate further rises in delinquencies," CreditSights said.
For the cajas, the proportion of mortgages more than 90 days delinquent or repossessed peaked at 4.2 percent in the third quarter of last year and is now 3.7 percent. The rate of serious delinquencies for commercial banks was 2.3 percent in the third quarter and has now "leveled off" at 2.6 percent, according to CreditSights. "By buying the loans out of the mortgage pool, the cajas would be taking those weaker loans onto their own books," according to CreditSights. "The current 3.7 percent serious delinquency rate may flatter the performance of the cajas mortgage books and underestimate their potential losses."
The ABCs of Reform
by Eliot Spitzer - Slate
How Washington blew its chance to bring real change to Wall Street
Even acknowledging the truism that making laws is like making sausage, often leading any observer toward becoming a vegetarian, if not a vegan, some legislation stands out as especially unpleasant. With that in mind, what conclusions can we draw about the financial reregulation bill now making its way through Congress?
First, the bill does virtually nothing to confront the single greatest structural problem we face: the continued growth of too big to fail, or TBTF, institutions. Indeed, over the course of the crisis we have gone in the wrong direction, with the banking industry now more concentrated than it was several years ago. There is no reason to believe that this trend will change or that the federal guarantees of TBTF institutions will be withdrawn.
Second, the bill by and large reinvests regulators with the same discretion they had—and failed to use—before the crisis. The theory underlying the bill is simple: "Trust us—next time we will do better." Indeed, in virtually every case, the very same people are still in the positions they had before the cataclysm. Isn't it comforting to know that the systemic risk council—that critical group that is supposed to be akin to the canary in the mine, warning of impending danger—will be led by the same people (Timothy Geithner and Ben Bernanke) who failed or refused to see the omens of this crisis as it swept through the economy?
Third, those few ideas that promise structural reform and did make it into the bill—namely, the so-called Volcker Rule and changes in derivatives practices—are horrendously watered-down and compromised. And they derived their support from outside the White House, as the alignment between Geithner and Larry Summers vigorously opposed these ideas until the political pressures became unbearable.
Fourth, the New York Federal Reserve Bank, the governmental institution perhaps most at fault for failing to take any of the actions that might have prevented the banking crisis, escaped unscathed. The New York Fed simply beat back the many well-reasoned calls for reform.
The end result is an almost perfect illustration of not just how legislation is made but how politics works. Proponents of the bill continue to talk in grandiose terms of reform, but the actual terms of the bill provide continuity in both power and structure.
I have examined the governing structure of the New York Fed and, in particular, the impact of that structure on its decisions over the course of the bailouts. Since then, a scathing inspector general report and good investigative journalism have validated the view that the New York Fed—and its then-president, current Treasury Secretary Timothy Geithner—failed utterly to negotiate effectively for the public. (Geithner's multiple and contradictory explanations get less credible every day.)
Most folks don't appreciate that the New York Fed is literally owned and governed by its member banks. Indeed, the member banks choose six of the nine members of its board. Additionally, most people don't appreciate that Geithner was chosen to be president of the New York Fed, a position he held from November 2003 till January 2009, by a committee including the current or former chairs of AIG, Goldman Sachs, Chase Manhattan, and Lehman Bros.
Given the horrific record of the New York Fed and a desire to bring its decisions back into alignment with the public's policy objectives, not the banks' policy objectives, Sen. Chris Dodd suggested that the president of the United States choose the president of the New York Fed, subject to confirmation by the Senate. That's the system, after all, for members of the Cabinet, Supreme Court justices, and the chairman of the entire Federal Reserve System. Fearing that they would lose control of this critical position, the banks cried "Politics!" Apparently, having the president choose the president of the New York Fed would "politicize" any decisions made by the New York Fed. Yet having the banks choose their own regulator and lender was wise policy.
In traditional Washington fashion, under the current reregulation bill, there is a "compromise" that permits the illusion of reform but leaves the status quo intact. The bill does not call for the president of the United States to choose the president of the New York Fed. Instead, it leaves the selection of the president of the New York Fed to its "B" and "C" directors. The role of the "A" directors is eliminated.
What do these alphabetized categories mean, you may ask. A good question. There are nine members of the New York Fed's board: three A directors, three B directors, and three C directors. The A directors are chosen by the banks to represent the banks. So eliminating them from the process sounds pretty good. The B and C directors are supposed to represent the public. And who chooses them, you ask? Another good question. The C directors are chosen by the Federal Reserve Board of Governors. And the B directors are chosen by … the banks. That's right: The banks choose directors to represent the public.
Still, just because they're chosen by the banks, doesn't mean the B directors cannot perform a valuable public service. All this begs the question: Who are the B directors? They are, currently, the chief executive of GE, the largest beneficiary of the fed guarantee of commercial paper; the chief executive of one of the largest pharmaceutical companies in the world; and the chief executive of one of the largest insurance companies in the world. Typical public voices? Of course not.
I am not criticizing these gentlemen as individuals. Indeed, I consider several of them friends. But it is absurd to view them as public voices that can bring a Main Street rather than a Wall Street perspective to the choice of the most important regulator in the financial system. Indeed, the B directors are no different in perspective than the A directors, who are chosen by the banks to represent the banks.
Among the class C directors, by the way, is the president of the Partnership for New York City, a coalition of businesses whose primary mission is to bring a business perspective to policy issues. Who are the co-chairman of the partnership? Lloyd Blankfein, the chairman and chief executive of Goldman Sachs, and Rupert Murdoch, the chairman and chief executive of News Corp.
So of the six directors who will choose the president of the New York Fed—and this is the only structural reform to the Fed in the bill—four are pure Wall Street voices. Is this reform? Of course not.
And when you examine any of the so-called reforms, the same reality emerges. Virtually nothing has changed. Oh, the atmospherics are different, perhaps, and maybe a momentary lesson has been learned. But there is a reason bank stocks rose the day the final agreements on the financial regulatory bill were announced. The smart money knew which side had won.
Recovery effort falls vastly short of BP's promises
by Kimberly Kindy - Washington Post
In the 77 days since oil from the ruptured Deepwater Horizon began to gush into the Gulf of Mexico, BP has skimmed or burned about 60 percent of the amount it promised regulators it could remove in a single day. The disparity between what BP promised in its March 24 filing with federal regulators and the amount of oil recovered since the April 20 explosion underscores what some officials and environmental groups call a misleading numbers game that has led to widespread confusion about the extent of the spill and the progress of the recovery.
"It's clear they overreached," said John F. Young Jr., council chairman in Louisiana's Jefferson Parish. "I think the federal government should have at the very least picked up a phone and started asking some questions and challenged them about the accuracy of that number and tested the veracity of that claim." In a March report that was not questioned by federal officials, BP said it had the capacity to skim and remove 491,721 barrels of oil each day in the event of a major spill.
As of Monday, with about 2 million barrels released into the gulf, the skimming operations that were touted as key to preventing environmental disaster have averaged less than 900 barrels a day. Skimming has captured only 67,143 barrels, and BP has relied on burning to remove 238,095 barrels. Most of the oil recovered -- about 632,410 barrels -- was captured directly at the site of the leaking well. BP officials declined to comment on the validity of early skimming projections, stressing instead the company's commitment to building relief wells intended to shut down the still-gushing well.
"The numbers are what they are," said BP spokesman Toby Odone. "At some point, we will look back and say why the numbers ended up this way. That's for the future. Right now, we are doing all we can to capture and collect the oil through various methods. We will make sure all the oil is ultimately dealt with."
BP began downgrading expectations only two days after the rig explosion. Although its projections reported to the federal government were only weeks old, the company cited a greatly reduced number in a news release filed with the federal Securities and Exchange Commission. It projected that it had "skimming capacity of more than 171,000 barrels per day, with more available if needed." The release presented an optimistic picture of a company scrambling to clean up the mess, mobilizing a "flotilla of vessels and resources that includes: significant mechanical recovery capacity."
In truth, the skimming effort was hampered from the start by numerous factors, including the slow response of emergency workers, inadequate supplies and equipment, untrained cleanup crews and inclement weather. Greatly compounding the problem was the nature of the spill, with much of the oil never surfacing. The poor results of the skimming operations have led to a desperate search for solutions. The world's largest skimmer, owned by the Taiwanese, is on site and undergoing Coast Guard safety tests. The 10-story-high ship, which is the length of three football fields, was touted as having the ability to remove oil at the rate of tens of thousands of barrels every day. Thus far, it has been unable to produce those results in the gulf.
BP's March response plan was filed with the federal Minerals Management Service, which has oversight over oil drilling. BP said it would reach the stated goal largely by deploying two companies that have the necessary expertise, trained staff and equipment: the nonprofit Marine Spill Response Corp. and the for-profit National Response Corp. But Marine Spill Response said it was never asked whether it could hit the optimistic marks set by BP. National Response declined to comment. "Not at any time were we consulted with what was in the plan either by MMS or by our customer," said Marine Spill Response spokeswoman Judith Roos.
Daily reports from the federal government and BP's Joint Operations Center in Louisiana quickly showed that retrieval efforts were falling far short of promises. After the first week, just 100 barrels of oil had been skimmed from the gulf, while the broken well continued to pour as much as 200,000 barrels of oil into the water. It wasn't until mid-June that BP's daily report noted the collection of 485,714 barrels -- roughly the amount it said it could retrieve in a day. But the June figure was for an oil-water mixture, which is about 90 percent ocean water.
Meanwhile, BP also kept revising its estimate of the amount of oil leaking into the gulf. In the early days after the spill, BP and federal officials placed the daily flow rate from the ruptured rig at 1,000 barrels a day, and then raised it to 5,000 barrels a day. In late May, a group of scientists charged by the government with estimating the flow said the rate was 12,000 to 25,000 barrels a day. And in June, the official estimated rate jumped to 35,000 to 60,000 barrels a day. Because of these changing numbers and wide ranges, the amount of uncollected oil might be as low as 1.1 million barrels or as high as 4 million barrels.
Earthjustice, which has joined with the Sierra Club and other environmental groups to sue the federal government over BP's response plan, warns that because these estimates continue to climb, the spillage numbers could go higher. Earthjustice also says spill damage is being obscured by misleading numbers. On Monday, the joint operations center for the federal government and BP reported that more than 671,428 barrels of an oil-water mixture have been captured and stored. The figures clearly have confused journalists, with many media outlets reporting the figures as solid oil recovery numbers.
About 90 percent of the mixture is water, so the true amount of oil skimmed is relatively small -- roughly 67,143 barrels of oil. Had the estimated amounts in the March response plan been accurate, 38 million barrels of oil could have been removed by now. "This has been a cat-and-mouse game since March when they put out these estimates," said Earthjustice attorney Colin H. Adams. "We want real figures instead of inflated estimates on what they are cleaning up and deflated estimates on how much is gushing out."
In response to criticism that the government did not challenge crucial aspects of BP's recovery plans, the Coast Guard this week is scheduled to announce creation of an expert panel to conduct a "preparedness review" for Deepwater Horizon. "I think this will fundamentally change the lay of the land when it comes to oil spill preparations," said Greg Pollock, deputy commissioner of the Oil Spill Prevention and Response Program at the Texas General Land Office. "Unfortunately, it's taken a catastrophic spill to get us to look at it."
In a statement, the U.S. Coast Guard and the Minerals Management Service (recently renamed the Bureau of Ocean Energy Management, Regulation and Enforcement) said they are reviewing how cleanup estimates are crafted and the government's role in reviewing them. "Without question, we must raise the bar for offshore oil and gas operations, hold them to the highest safety standards," the statement said.
BP oil spill costs pass $3 billion mark
The oil spill in the Gulf of Mexico has so far cost BP a total of $3.12bn (£2bn), the company has said. The total includes the cost of containing the spill and cleaning up the oil, and the cost of drilling relief wells. It also includes the $147m paid out in compensation to some of those affected by the spill. But BP again warned that the total cost of the spill is likely to be much higher. The cost is already significantly higher than the $2.65bn cost reported a week ago. BP said there were now 44,500 people working on the spill response - nearly 5,000 more than a week ago.
But the company also confirmed that efforts to collect oil from the surface of the water had been temporarily placed on hold due to Hurricane Alex, which is currently passing through the region. Oil is continuing to leak into the Gulf of Mexico following the explosion on the Deepwater Horizon oil rig in April. BP said two relief wells being drilled to stop the leak are still on course for completion by August.
Shares in BP rose 0.8% at the beginning of trading in London. They remain at less than half their value before the disaster, however. Investors remain uncertain over the eventual financial impact of the oil disaster, with estimates in the tens of billions. Meanwhile the collapse in the share price has lead to speculation that BP may become a takeover target. Last week investment bank JP Morgan Cazenove suggested oil giant Exxon Mobil as a possible buyer.
BP Oil Spill Loan Rises to $9 Billion
by Carol Dean - Wall Street Journal
BP PLC's standby loan has inched up to around $9 billion as more banks join the group of lenders supporting the company against possible claims related to the oil spill in the Gulf of Mexico, a person familiar with the situation said Monday. Around eight or nine banks have agreed to lend around $1 billion each to BP on a bilateral basis, this person said. "BP is calling on its relationship banks to provide liquidity and more are likely to join the group," this person said.
Among the banks likely to be lenders are Barclays PLC, BNP Paribas SA, Citigroup Inc., Banco Santander SA, HSBC Holdings PLC, Royal Bank of Canada, Royal Bank of Scotland Group PLC and Société Générale SA, the person said. The standby loans provide the company with immediate access to liquidity to deal with the cost of the oil spill and meet its liabilities while BP considers longer-term funding options, the person said. The loans have a one-year maturity with a one-year extension option.
In mid-June, BP struck a deal with the Obama Administration to set aside $20 billion to cover Gulf of Mexico oil spill claims. The company will pay $3 billion into an escrow account in the third quarter of this year and another $2 billion in the fourth quarter. This will be followed by payments of $1.25 billion a quarter until the $20 billion has been fully paid. Liabilities aren't capped at $20 billion.
Six-Foot Waves May Stall New BP Oil-Collection Effort This Week
by Joe Carroll - Bloomberg Businessweek
Waves as high as six feet (1.8 meters) may persist for most of this week off the Louisiana coast, forcing BP Plc to postpone already-delayed efforts to double the amount of oil being captured from a leaking Gulf of Mexico well. Wave heights in the area of the Gulf that includes BP’s Macondo well are expected to average from 3 feet to 6 feet through July 8, the National Weather Service said yesterday on its website.
The Helix Producer I, a floating platform that can gather 25,000 barrels of crude a day, can’t hook into subsurface equipment connected to the well on the sea floor until wave heights decline to 3 feet or less, said Bryan Ferguson, a spokesman for London-based BP. High waves kicked up by Hurricane Alex last week, followed by a 6-foot chop during the weekend, made it impossible to make the link, he said. "All the subsea hardware is in place but they’re waiting for the sea state to calm down," Ferguson said yesterday in a telephone interview from Houston.
The delay is the latest setback in London-based BP’s efforts to halt the worst oil spill in U.S. history. The disaster began April 20 when explosions and fire aboard the Deepwater Horizon drilling rig killed 11 workers, triggering leaks in the well a mile below the surface that fouled beaches, killed wildlife and shut a swath of federally controlled fishing grounds that cover an area the size of Nebraska. The owner of the Helix Producer I, Helix Energy Solutions Group Inc. of Houston, is awaiting calmer seas before the 24- year-old vessel can connect a tube to a buoy 300 feet under water that is linked to the well through a pipe, Ferguson said.
The vessel has been on site above the wellhead since June 27 and has the capacity to double the amount of crude being captured by a pair of vessels already connected to the well. The Macondo field, which holds an estimated 50 million barrels of crude, has spewed millions of gallons of oil into the sea since the April 20 catastrophe. BP, the largest oil and natural-gas producer in the gulf, said on its website yesterday that since the spill began it has collected the equivalent of 607,400 barrels of crude. At current prices, that amount of crude has a value of about $46 million. BP and Anadarko Petroleum Corp., owners of the largest stakes in the Macondo project, have each lost about half their market value since the catastrophe. Tokyo-based Mitsui & Co., which holds an indirect stake in the well, has declined about 33 percent.
Transocean Ltd., the Geneva-based owner of the sunken rig, has tumbled 48 percent since the disaster. Offshore drilling in the Gulf of Mexico has come to near-standstill in the past 10 weeks after the Obama administration imposed a six-month moratorium on exploration in seas deeper than 500 feet. The ban was overturned on June 22 by a federal judge in New Orleans and Interior Secretary Kenneth Salazar last week indicated he may issue a revised moratorium. The disaster is under investigation by the U.S. Coast Guard, Interior Department, Justice Department, U.S. Chemical Safety and Hazard Investigation Board and several House and Senate committees.
BP and contractors that included Transocean and Halliburton Co. were in the process of sealing the well about 40 miles from the Louisiana coast with cement plugs when the rig was rocked by two explosions and caught fire. Helix suspended oil production from its Phoenix development in the gulf so the Helix Producer I could be disconnected and made available for BP’s containment effort. The vessel helped resurrect Chevron Corp.’s Typhoon development after Hurricane Rita flipped a $250 million platform in 2005, prompting Chevron to abandon the field. Helix acquired the reserves and renamed the field Phoenix.
Connecting the Helix Producer I will allow BP to collect 40,000 to 53,000 barrels a day, accounting for most of the leaking oil, according to government estimates. A U.S. panel commissioned to study the flow rate has said 35,000 to 60,000 barrels daily may be gushing from the well. Separately, tests continued yesterday on a Taiwanese skimming ship called A Whale that can collect up to 500,000 barrels of crude a day, Ferguson said. The ship, which is longer than three U.S. football fields, was in the area above the wellhead yesterday amidst a plume of crude, he said.
Tar balls from oil spill found on Bolivar coastline
by Harvey Rice And Purva Patel - Houston Chronicle
About a dozen tar balls that washed ashore on Crystal Beach were identified Monday as oil from the BP well blowout in the Gulf of Mexico, the first evidence that oil from the spill has reached the Texas coastline. But it was unclear whether the oil from the blowout dropped off a passing ship or drifted nearly 400 miles. Laboratory tests showed that the tar balls came from the BP Macondo well that blew out April 20, killing 11 crew members on the Deepwater Horizon drilling rig and spewing millions of gallons of oil into the Gulf, said Coast Guard Cpt. Marcus Woodring, commander of the Houston-Galveston sector.
The handful of tar balls came ashore Saturday and a second wave amounting to about 5 gallons of oil was found Sunday scattered along 1,5 miles of beach on eastern Galveston Island and Crystal Beach on the Bolivar Peninsula, Woodring said. Laboratory results on the oil discovered Sunday are expected today, Woodring said. An onslaught of tar balls on Galveston’s beaches would be disastrous for the island city’s tourism economy. Galveston Mayor Joe Jaworski hoped the tar balls were a one-time occurrence. "It is such a small amount that I’m waiting to see whether more comes or not the next few days before getting really upset," Jaworski said.
Tilman Fertitta, CEO of Landry’s Restaurants, said he’s not so worried about the tar balls because they’re a common sight in Galveston. He’ll be concerned, though, if it continues and swells into a problem like it has in other states along the Gulf Coast. Landry’s has restaurants in Galveston, and a separate business controlled by Fertitta owns the San Luis Hotel, Hilton and IHOP restaurant there. Landry’s also owns the Kemah Boardwalk, a popular tourist spot. Landry’s has lost millions in sales and suffered from higher seafood pricing since the spill occurred, he said, adding that the company is reviewing possible claims against BP.
Greater impact feared
The company buys much of its seafood from suppliers around the world, so it hasn’t been as heavily affected by local price jumps as others, he said. But as contracts run out, he expects to also be hit with higher prices. "We’re suffering a huge impact now, but it will only get larger," he said. "We hope Galveston continues to be a nonissue." RoShelle Gaskins, a spokeswoman for the Galveston Island Convention & Visitors Bureau, said the key is figuring out how the tar balls got on the beach. Officials said tar balls are common along the Texas coast because of natural seepage from the Gulf or from small oil spills.
The Coast Guard, as late as last week, had told the bureau that oil from the spill was not predicted to reach Galveston, Gaskins said. The dozen tar balls found in the surf Saturday ranged from the size of a dime to a golf ball, said Richard Arnhart, oil spill response regional director for the Texas General Land Office. A Gilchrist resident reported the tar balls Saturday, and the General Land Office received multiple reports Sunday, said Wesley McDaniel, Land Office oil response officer.
T&T Marine, a Galveston company contracted to do oil cleanup, used shovels to pick up the tar balls, Arnhart said. Arnhart said the chances of BP oil reaching the Texas coast were between 20 percent and 40 percent. "We are prepared for it, if it does happen," Arnhart said. "The longer Deepwater Horizon discharges, the better chance that we will have some impact" on Texas beaches. Woodring said the condition of the tar balls didn’t look like they had drifted all the way from the Macondo well. They were "inconsistent with the weathering pattern that would be expected," he said. "To travel 400 miles is going to take a long time," during which the oil would be expected to break down.
Officials were investigating whether the tar balls were from oil that clung to the hull of a ship passing through the BP oil slick or were from ballast water taken on by a ship in the oil slick zone and later dumped in Texas waters, Woodring said. BP spokesman Neil Geary said the company is concerned about the oil found in Crystal Beach. "I will point out that it’s consistent with very fresh oil," Geary said. "A potential source is under investigation." He said BP expected to receive a bill for the cleanup and that it would be paid.