Let The Poor Save The Rich And The Taxpayer Save The Banks

The IMF was organized as supranational bank.  In essence, it is supposed to be unbiased.  Human nature, however, is hardly ever unbiased.  For decades the IMF defended sound fiscal principles and open markets.  Of course, one thing is for a group of European and American bureaucrats (the IMF is dominated by these groups by design) to impose an austerity program in Uruguay, demand that the Ivory Coast get their house in order, or recommend open competitive markets to Indonesia.  It is quite another however to challenge the politicians at home.

So it should come as no surprise that this morning Mr. Antonio Borges, head of the IMF's Europe Program and a citizen of a country that is already on an IMF-lead bailout plan, proposed that the rest of the world (you, me, and the taxpayers of all countries belonging to the IMF) join in the folly of buying bonds from the rich European countries who have already spent the funds raised by such bonds on their expensive life-styles. 

Being an financial engineer himself, Mr. Borges further proposed to borrow money  to buy the bonds in a special purpose vehicle, which is Wall Street's parlance for we don't want to have to show this on our balance sheet because the losses will be huge.

In essence, the IMF will use money from the world over to support the spending of a half-dozen of the richest countries in the world.   Not only that, Mr. Borges' plan will allow the banks from another half-dozen rich countries to avoid recognizing the losses for the bonds they willingly purchased for over a decade.  When Spain, Italy, and the rest finally restructure their debt (didn't the IMF said a year ago Greece had a temporary liquidity problem?) the IMF, and not the European banks who made the mistake of lending so much money to Italy and Spain, will be left holding the bag.

Why? Because as George Orwell once wrote "Some animals are more equal than others"

Make 'em stop...

Nothing like a bear market/uncertainty/volatility/lack of political will, to bring out people suggesting the simple solutions to solve all of the worlds problems...

Think it started with Mr. Martin Wolf, then Mr. Paul Krugman, then Mr. Paul McCulley (ex-PIMCO) - all widely respected and renowned economists/financial market commentators - who started out with the talk that its once again "time to think the unthinkable and start printing again"...

They base their analysis, or "arguments on standard textbook macroeconomics", as one of them said.

I will not place myself in favor or against their argument here, as their infallible textbook logic will surely overwhelm me.  But I will suggest that all of these so called leaders and macroeconomic commentators need a good dose of humility, they need to say "we just dont know"...this time.

"We just don't know", respects the law of unintended consequences, which is what happens when a simple system tries to control a complex system - contrary to popular belief, macroeconomics, is a complex, evolving, high-feedback, incentive-driven system."

Any simple solution, such as, to start printing again = more monetary and/or fiscal stimulus, or spending just for the sake of spending and easing just for easing's sake, will only create increasingly negative unintended consequences - artificially inflated economic rebounds fueled by speculative financial asset rallies.

We all know how those end...

Couldn't find a better way to end this with Einstein's definition of "insanity: doing the same thing over and over again and expecting different results." Or as Yogi Berra noted, "in theory, there is no difference between theory and practice.  In practice, there is."

CAVEAT EMPTOR

About Those Efficient Markets

One more time the equity market does an about face from after spending most of the session in negative territory (after a dismal performance yesterday) as of 3:15pm EDT it looked like losing session again.   Even the mighty iPhone couldn't save the market this time.  Allegedly investors (that catch-all phrase for anyone daring to buy shares) had decided that the economy was slowing down, Europe had too much debt and Bernanke is out of bullets.  Financial journalists ready for happy hour, had already written their negative wrap up pieces....

And then, out of nowhere, like the cavalry in those politically incorrect westerns, came the rally.

What is a financial journalists to do? Well, look for facts to justify the move, naturally.

So our friends at Bloomberg produced a quick piece that explains why stocks went up.  It says about some guys in Europe who are beginning to consider the possibility that one day they may try a solution for their under-capitalized banks (why they probably will not implement until they run of all other options.)  Hey, it's a story.

In order to make it credible, one can always add the all-purpose bargain hunting to the explanation.

"...valuations at the cheapest level since 2009 lured investors..." [which apparently all waited until 3:15pm and didn't bother to keep buying at higher valuations?]

 The most likely scenario is that the market just corrected from an oversold (i.e. too many sellers at once) condition.  Sadly, that story, however true it might be, not only doesn't excite anyone but also discredits the markets as illogical.   See below the 2-day chart for yourself and decide.

Bernanke Finds A Brick Wall And Pushes Ahead

Our esteemed chairman is currently displaying his wisdom in Congress.  He just said that the Fed is ready

"...to take additional steps to boost U.S. growth..."

Which implies that he chooses not to boost growth at this time? Does he think the economy is growing too fast?

 Defending his latest policy he said that Operation Twist

“should put downward pressure on longer-term interest rates and help make broader financial conditions more supportive of economic growth than they would otherwise have been,”

 Which is a masterful display of sophistry since otherwise have been refers to an alternative reality that can never be measured.    For instance, I could say that broader financial conditions are exactly the same as they would be without Operation Twist and Bernanke cannot prove that I am wrong (I can assure you that I am wrong since nothing is ever exactly the same to an alternative reality).  Furthermore, the conditional should, at the beginning of the statement ensures that Ben wins the argument anyway.

How about the actual economy?

“The recovery from the crisis has been much less robust than we had hoped,”

Wait! I thought his policies were working.  If they haven't worked, how does he know future ones will work? Also, "hoped" is not exactly what we call hard science, either he knows or he doesn't.  Which one is it?

'...Housing, which had been a “significant driver of recovery from most recessions” in the U.S. since World War II, is now among industries contributing to the “slower-than-expected rate of expansion,” Bernanke said....'

Thanks to whom? Will Bernanke ever acknowledge that the Greenspan team, which included Ben as well as Tim Geithner, pumped the housing market to the point of exhaustion? Also, did he actually think housing would lead this "recovery?" (The potential answers to that one are right down scary)

There is nothing more dangerous than a powerful man (there are no checks, short of impeachment, on the Fed chairman) who has fallen prisoner of a theory (economics is hardly an exact science).   Either he is lying or he believes the nonsensical proposition that he can reignite growth by driving record low rates even lower.  At this point, we hope he is lying.  The alternative is scarier.

So You Think You Know How Much Your Country Owes?

Think again.  Let this be a continuous lesson to those who think public finances are 100% transparent.  We are constantly bombarded with glib calculations about the size of public debt and its ratio to the GDP of the home country.  Except countries cannot help but to take on the debt of well-connected private enterprises.  Whether they do it for the good of the people or to cover their own past mistakes is irrelevant.  Once a bank like Dexia (France/Belgium) is bailed out, it debts become obligations of the state.  Ireland, for instance, had the lowest debt/gdp ratio in the eurozone until they decided to bailout those black-holes they call banks in 2008. 

Which is why it is useful to know that countries like France, Italy, and Spain have banks and other politically connected institutions with debts that, when taken cumulatively, exceed the GDP of the host country. 

This article makes an attempt to illustrate the problem.  Beware, however, of taking the numbers as precise.  Macro aggregates are notorious for their large accounting errors and apple-to-oranges comparisons.  In addition, they are manipulated by many (all?) governments.

You Ignore Math At Your Peril

Wouldn't you know? The Greeks decided that 3 months was not enough time for a Hail Mary Pass and admitted they will not meet the deficit target for this year.  Without even batting and eyelash they also promised a new-new-new austerity plan for next year.  This time, they really-really believe they will be able to implement the Houdini-model to achieve high growth while imposing draconian austerity.

The Greeks, among other things, are responsible for inventing politics.  Whether or not they invented that unique political ability to deny reality with a straight face in front of thousands of people we do not know.  In any even, the same politicians, not only Greek, who told us two years ago that the way out of the crisis was to increase government spending are now telling Greece the opposite.  They are also telling the rest of us to stay calm because it will work.

The simple fact is that the government does not operate under the same rules as the private sector.  An individual or a company can save without hurting their revenue.  In general, when the government tries to save aggressively, the economy slows down, when the economy slows down, tax collections go down.  Thus, depending on the sensitivity of all this variables, trying to reduce the deficit may paradoxically increase it instead.

Guess what, that is what happened to Argentina.  That is what seems to be happening to Greece, and, even though we do not hear about it everyday, is what is happening to the other countries (you know who they are).

The reason we are subject to this nonsense is that the politicians do not want to acknowledge that the level of debt is too high.  It was already too high in 2005 when nobody cared.  The money has already been spent and and lost.  No amount of financial engineering can modify reality.

If Spain Is The Model We Better Run For The Hills

Once upon a time most journalism was local.  It was easy then.  Journalists spoke the same language as their readers and, more importantly, their sources.  If and English paper wanted to publish a story about Spain, they would ask the Spanish correspondent to write one and translate it.

Then, a big globalizing cloud came in the horizon.  Established newspapers had to compete not only with each other but with independent free-lancers on the internet.  The Financial Times, allegedly a leading financial newspaper, recently published an article ( Italy should look to Spain for inspiration) suggesting that Italy should emulate Spain in their cost-cutting efforts.

We do not not whether the author, Mr. Tony Barber, has ever visited Spain or, at the very least, bothers to read the Spanish newspapers online.  As we have noted before, Spain's so-called cost-cutting efforts are based on such time-honored accounting gimmicks like deferring government payments until they can be moved into the next fiscal period or getting forced financing from the Pharmacies (link in Spanish).  Not to mention that the so-called Reestructuracion de Cajas Mr. Barber extols, has happened in name only as the critical phase of taking losses and raising enough capital to make them viable has yet to happen.

Mr. Barber, like many of his colleagues, seems to be guided by the Efficient Market Religion.  Thus, he offers the following as divine proof of the superiority of Spain's cost cutting efforts:

Now investors perceive Italy to be at greater risk than Spain (and Cyprus has leapfrogged them both). The spread between Italian and Spanish 10-year government bond yields stood on Thursday at about 51 basis points, or 0.51 percentage points.

 We may forgive Mr. Barber who, most probably, has never bought or sold a bond for believing that investors reflect their opinion in such impeccable manner.   The fact, however, is that the markets are far from clear with regards to their opinion of whether Italy or Spain is more likely to go bankrupt.  As an example, the credit of Intesa San Paolo (an Italian bank which will almost certainly fail if the Italian government were to fail) currently trades at a better rate than that of the Italian government, an anomaly that has persisted for years.

The fact is that both Italy and Spain are very sick countries.  Spain, by virtue of its complicated political structure, may look better to naive journalists who can't bother with Spanish sources to investigate were the bodies are buried.  However, with 20% unemployment, a financial system clogged with real estate loans marked at par (original value, i.e. without loss reserve), and lack of central control of the autonomias (regional governments), looks hardly as a model to emulate.