It is Bunga Bunga all over again!

With the election confirmed today by the Senate of the new Italian government Berlusconi has managed to place himself in power once again. 

No wonder that Berlusconi is having a very good time these days; with two trials pending and a new government controlled by him, he has managed again to shield himself from going to jail. 

The old fox has outwitted his antagonists once again.

Beyond the politics of the moment Italy though is besieged by a very serious crisis.

As the various central banks dump money into the system, the yields on Italian sovereign debt have gone down but this does not change the economic difficulties.

The official debt to GDP ratio is 136% but the actual number is somewhere around 280% which is unsustainable by any measure.

Italy's Real GDP is back to 1990s levels practically erasing any growth accumulated in the last 10 years.

The Italian banking system is also in dire straits.

Italian banks are seeing a sharp deterioration in the quality of their assets. The rate of acceleration in newly impaired loans is staggering as it appears the current recession, driven by falling internal demand, is more insidious than the export-led crisis in 2009.

And no matter how the Italian banks try to differentiate their bad loan composition, it is an ugly picture.

The Italian House Price Index (IPAB) decreased 4.6% YOY as a result of tightening credit conditions, new property taxes and a difficult macro environment.

Italy's industrial base has one important peculiarity: 95% of companies have under nine employees. In fact the average is four. They are micro companies and as such, their balance sheet is modest and so is their ability to withstand prolonged contraction in demand (external or domestic depending on the line of business).

Italy has a second important peculiarity. It has significant household financial wealth and an aging population, including a high average age of entrepreneurs.
This implies that on the margin more entrepreneurs are likely to decide to scale back operations as expected profitability has diminished due to weak turnover, high red tape and growing fiscal burden.

On the margin, opting for early retirement looks like an increasingly appealing option.
Be it because of severe balance sheet pressures or because of less attractive future returns, the economy is losing productive capacity at a disturbingly high pace.

But despite private wealth and assets the public sector is quite close to going over the cliff.

Italy’s difficult position was enumerated in a Bank of Italy report to parliament last week which said the economy was going through its most acute crisis since World War II. Economic output last year was nearly 7% below that of 2007, while disposable incomes had fallen 9.5%. Industrial production had collapsed by 25% over five years, while the building sector shrank 22%. Unemployment had nearly doubled to 11.7% the Italian central bank said.

In the meanwhile Berlusconi's ratings are at an all time high, his PDL party in the latest polls is showing an increased popularity eroding support at PD and MS5.

Simply wondering if the Italian people are completely deluded or simply insane, I propend for the second option!

“Insanity is doing the same thing, over and over again, but expecting different results.”

 

How to move offshore your cash in six steps

No one know for sure how much of the planet's private wealth is parked in tax havens. One estimate is that there's $32 trillion deposited offshore; a more conservative calculation puts it a minimum of $8 trillion.
It is easy to understand why 2.5 million files covering 120,000 offshore entities was 'accidentally' leaked to the media.
Governments realize that they are running out of options fast and putting pressure on off-shore accounts is the second front of a coordinated effort to start converting private wealth to a public one.

ICIJ issued the following simple six-step process guide to off-shore stashing; from 'Choosing a haven' to creating a 'secret identity' and from opening the 'right' bank account to how to 'move' the money; this picturesque guide may be indispensable to many Europeans now that the EU is adamant on who will pay the next banking crisis.

For a full interactive tour visit:  http://www.icij.org/offshore/interactive-stash-your-cash 

Iceland did it right!

Should Europe have followed Iceland in letting go bust their banks to avoid a sovereign crisis and impoverish the population to cover banks' bad debt?


Nobel prize winning economist Joe Stiglitz notes:

What Iceland did was right. It would have been wrong to burden future generations with the mistakes of the financial system.

Nobel prize winning economist Paul Krugman writes:

What [Iceland's recovery] demonstrated was the … case for letting creditors of private banks gone wild eat the losses.

Krugman also says:

A funny thing happened on the way to economic Armageddon: Iceland’s very desperation made conventional behavior impossible, freeing the nation to break the rules. Where everyone else bailed out the bankers and made the public pay the price, Iceland let the banks go bust and actually expanded its social safety net. Where everyone else was fixated on trying to placate international investors, Iceland imposed temporary controls on the movement of capital to give itself room to maneuver.

Bloomberg reports:

Iceland holds some key lessons for nations trying to survive bailouts after the island’s approach to its rescue led to a “surprisingly” strong recovery, the International Monetary Fund’s mission chief to the country said.

Iceland’s commitment to its program, a decision to push losses on to bondholders instead of taxpayers and the safeguarding of a welfare system that shielded the unemployed from penury helped propel the nation from collapse toward recovery, according to the Washington-based fund.

Iceland refused to protect creditors in its banks, which failed in 2008 after their debts bloated to 10 times the size of the economy.

The IMF notes:

[The] decision not to make taxpayers liable for bank losses was right, economists say.

In other words, as IMF put it:

Key to Iceland’s recovery was [a] program [which] sought to ensure that the restructuring of the banks would not require Icelandic taxpayers to shoulder excessive private sector losses.

Icenews points out:

Experts continue to praise Iceland’s recovery success after the country’s bank bailouts of 2008.

Unlike the US and several countries in the eurozone, Iceland allowed its banking system to fail in the global economic downturn and put the burden on the industry’s creditors rather than taxpayers.

The rebound continues to wow officials, including International Monetary Fund chief Christine Lagarde, who recently referred to the Icelandic recovery as “impressive”. And experts continue to reiterate that European officials should look to Iceland for lessons regarding austerity measures and similar issues.

Barry Ritholtz noted last year:

Rather than bailout the banks — Iceland could not have done so even if they wanted to — they guaranteed deposits (the way our FDIC does), and let the normal capitalistic process of failure run its course.

They are now much much better for it than the countries like the US and Ireland who did not.

Bloomberg pointed out February 2011:

Unlike other nations, including the U.S. and Ireland, which injected billions of dollars of capital into their financial institutions to keep them afloat, Iceland placed its biggest lenders in receivership. It chose not to protect creditors of the country’s banks, whose assets had ballooned to $209 billion, 11 times gross domestic product.

“Iceland did the right thing … creditors, not the taxpayers, shouldered the losses of banks,” says Nobel laureate Joseph Stiglitz, an economics professor at Columbia University in New York. “Ireland’s done all the wrong things, on the other hand. That’s probably the worst model.”

Ireland guaranteed all the liabilities of its banks when they ran into trouble and has been injecting capital — 46 billion euros ($64 billion) so far — to prop them up. That brought the country to the brink of ruin, forcing it to accept a rescue package from the European Union in December.

Countries with larger banking systems can follow Iceland’s example, says Adriaan van der Knaap, a managing director at UBS AG.

“It wouldn’t upset the financial system,” says Van der Knaap, who has advised Iceland’s bank resolution committees.

Arni Pall Arnason, 44, Iceland’s minister of economic affairs, says the decision to make debt holders share the pain saved the country’s future.

“If we’d guaranteed all the banks’ liabilities, we’d be in the same situation as Ireland,” says Arnason, whose Social Democratic Alliance was a junior coalition partner in the Haarde government.

“In the beginning, banks and other financial institutions in Europe were telling us, ‘Never again will we lend to you,’” Einarsdottir says. “Then it was 10 years, then 5. Now they say they might soon be ready to lend again.”

And Iceland’s prosecution of white collar fraud played a big part in its recovery:

The U.S. and Europe have thwarted white collar fraud investigations ... let alone prosecutions. On the other hand, Iceland has prosecuted the fraudster bank heads and their former prime minister, and their economy is recovering nicely because trust is being restored in the financial system.

Why Robbing Banks does not pay!

In an article for Significance Magazine, economists Barry Reilly, Neil Rickman and Robert Witt explain why robbing banks stinks as a profession.

The return on an average bank robbery is, frankly, rubbish. It is not unimaginable wealth. It is a very modest £12 706.60 per person per raid. Indeed, it is so low that it is not worth the banks’ while to spend as little as £4500 per cashier position at every branch on rising screens to deter them.
A single bank raid, even a successful one, is not going to keep our would-be robber in a life of luxury. It is not going to keep him long in a life of any kind. Given that the average UK wage for those in full-time employment is around £26 000, it will give him a modest lifestyle for no more than 6 months. If he decides to make a career of it, and robs two banks a year to make a sub-average income, his chances of eventually getting caught will increase: at 0.8 probability per raid, after three raids or a year and a half his odds of remaining at large are 0.8×0.8×0.8=0.512; after four raids he is more likely than not to be inside. As a profitable occupation, bank robbery leaves a lot to be desired.

Be sure to read the full article for more details on the varying gains and losses when the team is bigger and whether or not a gun is used. Spoiler: an additional member to the robbing team raises the expected haul by about £9,000, and the use of a firearm raises the expected output by about £10,000. Just don't get arrested.

What to do when leaving the Eurozone!

What if a country had to leave the euro zone?

It would need to do the following:

• Announce and immediately impose capital controls
• Impose immediate trade controls (because companies would otherwise falsify imports in order to get their money out)
• Impose immediate border controls (to prevent a flight of cash)
• Implement a bank holiday (to stop citizens from withdrawing their money and running before the devaluation) and - although this is somewhat hard to imagine - stamp every euro note in the country, converting it back to the national currency.
• Announce a new exchange rate (presumably not floating at the beginning, given capital and exchange controls) so that trade could  continue.
• Decide how to deal with existing outstanding euro-denominated debt, which would probably entail a major government and private-sector debt restructuring (that is, default). This might be easier in the case of government debt, which tends to be governed by domestic law, in contrast to the debt of major corporations, which normally governed by UK law (but we would assume enactment of laws declaring a haircut here, as well).
• Recapitalize the (insolvent) banks to make up for losses from defaults
• Determine what to do with the non-bank financial sector, the stock and bond markets, and every company account and commercial contract in the country.

Any break up would lead to significant turbulence in financial markets - just think about the number of CDS outstanding - and a worldwide recession. The OECD has warned that a breakup of the euro zone would lead to 'massive wealth destruction, bankruptcies, and a collapse in confidence in European integration and cooperation,' leading to 'a deep depression in both the existing and remaining euro area countries as well as in the world economy.' The chart above describes a breakup scenario and its potential implications.

Foreign investors dumping Italian bonds

Below the updated breakdown on Italy's Bond Holders as of September (last available data).
ECB has been the main buyer since August 8th, and held 4% of the Italian bond market as of September. Domestic holders, mainly financial institutions (banks) have gradually increased their holdings, taking domestic holding from 55% to 56% of the total market. Foreign investors, consisting of European non-Italian banks and real money investors as well as international asset managers, have been the main seller of BTPs, reducing their holdings from 45% to 39%." As said earlier - nothing at all unexpected: everyone who can get out is getting out. The only buyers are those for whom selling equates to suicide. That said, we wish Italian banks and the ECB the best of luck as they seek to purchase the €741 billion in bonds that are still to be offloaded as Merkel persists in refusing to let the ECB even considering announcing monetization intentions.

EU enforcing capital repatriation from Switzerland

No doubt we are witnessing in the Euro zone massive capital flights from PIIGS countries to safer core Euro countries. Greece and Italy are experiencing an exodus of capitals to Switzerland and other stable European countries and offshore locations.
Finally this has caught the attention of the EU and a move is being made in Brussels to “force” the Swiss government/banks to transfer all of the assets of Greek citizens back to the Greek banks. For a Greek this means that your money is hostage. It has been functionally expropriated. It will be transferred into a banking system that is fraught with risk. Some portion of the money that goes back to Greece will certainly be lost. This is setting a dangerous precedent for more masive interventions in capital controls should the situation degenerate in the future.

- BRUSSELS—The European Commission is helping Greece negotiate an agreement with Switzerland to repatriate as much as $81 billion believed to be hidden in Swiss bank accounts, a high level European Union executive body official said Nov. 17.

The European Commission is working with Switzerland and Greece stop what it believes is an ongoing exodus of money from Greek bank accounts into Swiss and other offshore banking centers, the EU official said.

We have a situation developing where the European Union is effectively trying to institute capital controls.
The fear of broader capital controls and more repatriation will spread like wildfire. The fact is, capital flight is a very reasonable response in our current environment. Capital controls that either stop or reverse it will undermine confidence and create a panic the will feed a gigantic exodus of capitals to countries out of reach of the EU grasp.
Officials in Brussels are unleashing hell.

Eurozone Tipping Point

Here is Deutsche Bank's summary conclusion on why the Tipping Point is here:

• Markets have lost confidence in the EU's institutional structures and framework
• Italy represents a critical new and dangerous phase of the crisis (the "Tipping Point")
• Italy and Spain have € 300 bn and € 120 bn of 2012 issuance (€ 930 billion combined over next 3 years)
  • Italian sovereign bond market is broken
• The "stakes" have never been higher (including the fate of the Euro itself)
• Politics has become “the” obstacle: All 5 "peripheral" countries have had leadership change in 2011
• The economy (recession) has become “the” unknown variable
• Continued Euro bank sector de-leveraging likely under almost any scenario (over $2 trillion estimate for next 18 months)
• Longer term, external (current account) deficits matter more than fiscal deficits

And here is what DB thinks has to be done right now.

• More progress on credible fiscal austerity (especially Italy)
• Rapid resolution of the EMU's original sin - lack of fiscal integration (Dec 9 EU Summit meeting)
• Restore confidence to re-open bank funding markets
• Time to expedite the "Grand Plan"
  • Larger Greece debt restructuring
  • Bank capital raises and debt guarantees
  • Additional bail-out funds for Greece
• Time to call the ECB
  • Investor reluctance on EFSF € 1 trillion leverage plan
  • Ineffectiveness of ECB monetary policy transmission mechanism to keep bond yields low
  • Adjustment away from current bond purchase program needed (away from temporary, limited and sterilized)
  • ECB should announce large, targeted buying plan (i.e. € 200 bn over 12 months)

But the risks remain considerable:

And returning to a much discussed topic - why has the EUR held up so strong?


But there is plenty of downside risk to come potentially:


 DB Tipping Point Nov 2011 FINAL