10/4/16: Russian Bonds Issuance: Some Recent Points of Pressure

Catching up with some data from past few weeks over a number of post and starting with some Russian data.

First, March issue of Russian bonds. The interesting bit relating RUB22.8 billion issuance was less the numbers, but the trend on issuance and issuance underwriting.

First, bid cover was more than four times the amount of August 2021 bonds on offer, raising RUB22.8 billion ($337 million) across

• fixed-rate notes (bids amounted to RUB47 billion on RUB11.5 billion of August 2021 bonds on offer)
• floating-rate notes (bids amounted to RUB25 billion on issuance of RUB9.33 billion of December 2017 floating coupon paper) and 
• inflation-linked securities (amounting to RUB2.01 billion)

This meant that Russia covered in one go 90 percent of its planned issuance for 1Q 2016, as noted by Bloomberg at the time - the highest coverage since 2011. With this, the Finance Ministry will aim to sell RUB270 billion in the 2Q 2016.

Bloomberg provided a handy chart showing as much:

Now, in 2011, Russian economy was still at the very beginning of a structural slowdown period and well ahead of any visibility of sanctions.

Sanctions are not directly impacting sales of Russian Government bonds, but the U.S. has consistently applied pressure on American and European banks attempting to prevent them from underwriting Moscow's Government issues (http://www.wsj.com/articles/u-s-warns-banks-off-russian-bonds-1456362124). Prior to the auction, Moscow invited 25 Western banks and 3 domestic banks to bid for USD3 billion worth of Eurobonds (the first issuance of Eurobonds by Russia since 2013). Despite the EU official statement that current sanctions regime does not prohibit purchases or sales of Government bonds, Western banks took to the hills (at least officially).

The point of the U.S. pressure on the European banks is a simple threat: in recent years, the U.S. regulators have aggressively pursued European banks for infringements on sanctions against Iran and other activities. In effect, U.S. regulatory enforcement has been used to establish Washington's power point over European banking institutions. And the end game was that, despite being legal, sale of Eurobonds was off limits for BNP Paribas, Credit Suisse, Deutsche Bank, HSBC, and UBS, not to mention U.S.-based Bank of America, Citi, Goldman Sachs, JP Morgan Chase, Morgan Stanley and Wells Fargo.

Another dimension of pressure is the denomination of the Eurobond. Moscow wanted Eurobond issued in dollars. However, dollar-issuance requires settlement via the U.S., enhancing U.S. authorities power to exercise arbitrary restriction on a deal that is legal under the U.S. laws (as not being officially covered by sanctions).

Beyond underwriters, even buy-side for Russian Government bonds is being pressured, primarily by the U.S., with a range of European and American investment funds getting hammered: http://www.bloomberg.com/news/articles/2016-03-24/russia-loses-buyside-support-for-eurobond-after-banks-balk.

Russian Government bonds (10 year benchmark) are trading at around 9.26-9.3 percent yield range, well down on December 2014 peak of over 14.09 percent, but still massively above bonds for countries with comparable macroeconomic performance statistics.

Interestingly, there is a huge demand in the market for Russian Eurobonds, as witnessed by mid-March issuance by Gazprom of bonds denominated in CHF (see: http://www.bloomberg.com/news/articles/2016-03-16/gazprom-taps-switzerland-with-russia-s-first-eurobond-this-year).

It is worth noting again that Russian Government bonds are not covered by any sanctions and are completely legal to underwrite and transact in.

Beyond this, the Western sanctions were explicitly designed to avoid placing financial pressures on ordinary Russians. Government bonds are used to fund general Government deficits arising from all lines of Government expenditure, including healthcare, social welfare, education etc, but also including military spending, while excluding supports for sanctioned enterprises and banks (the latter line of expenditure is linked to funds being sourced from the SWF reserves). Given this, the U.S. position on bonds issuance represents a potential departure from the U.S.-stated objective of sanctions and can be interpreted as an attempt to directly induce pain on ordinary Russians (the more vulnerable segments of the population, such as the elderly, children and those in need of healthcare, or as they are termed in Russian - budgetniki - those whose incomes depend on the Budgetary allocations).

This is a sad turn of events from markets and U.S. policy perspectives - placing arbitrary and extra-legal restrictions on transactions that are perfectly legal is not a good policy basis, unless the U.S. objective is to fully politicise financial markets in general. Neither is the U.S. position consistent with the ethical stance de jure adopted under the sanctions regime.

17/5/2014: That costly alphabet soup behind the European Banking Union

Two main building blocks of the Single Resolution Mechanism for future banks bailouts in the EU involve Deposit Guarantee Scheme Directive (DGSD) and the Bank
Recovery and Resolution Directive (BRRD). The issue at hand is funding the future bailouts.


The EU Member States are required to establish two types of financing arrangements:

• BRRD sets up the Resolution Fund to cover bank failure resolution. This will be used after 8% of losses gets covered by the bail-in of depositors and some funders.
• DGS covers deposits up to EUR100,000 in the case of a bank failure. 

There are several issues with both funds. For example, DSG funds (national level) will have to run parallel with the EU-wide Eurozone Single Resolution Fund (until the DSG pillar is integrated at a much later date into EBU). This implies serious duplication of costs over time and creation of the 'temporary'  but long-term national bureaucracy / administration which will be hard to unwind later.

By 2016, EA18 euro area members will have national DSG running parallel to EU18-wide single resolution runs (SRM) which cannot be merged together absent (potentially) a treaty revision, not EA-18 EU members will have national DSG and national resolution fund, which can be merged together.

What is worse is that national contributions to DSG cannot count toward national contributions to the resolution fund (SRM or in the case of non-EA18, to national resolution funds). This means that total national banking system-funded contributions to both funds will be 0.8% of covered deposits for DSG, plus 1% for SRM = minimum of 1.8% of covered deposits. Ask yourselves the simple question: given that banking in majority of the EU states is oligopolistic with high (and increasing) concentrated market power, who will pay these costs? Why, of course the real sector - depositors and non-financial, non-government borrowers.

It is worth noting that the 1.0% contribution to the resolution fund will cover not just covered deposits, but actually is a function of liabilities. In other words, it will be much larger proportion of covered deposits than 1%.

That is a hefty cost of the EBU and this cost will be carried by the real economy, not by financialised one. The taxpayers might get off the hook (somewhat - see here: http://trueeconomics.blogspot.ie/2014/04/1742014-toothless-shark-eus-banking.html) but the taxpayers who are also customers of the banks will be hit upfront. And who wins? Bureaucrats and administrators who will get few thousands new jobs across the EU to manage duplicate funds, collections and accounts. The more things change… as Europeans usually say…

11/12/2013: Will Europe Have Any Firepower for Banks Bail Outs?

The Banking Union debate drags on and on and on and the further we travel in time into this debate, the more apparent is the pathetic nature of the undertaking, and with it, the pathetic state of leadership across Europe... Here's the latest instalment:
http://blogs.ft.com/brusselsblog/2013/12/eu-bank-bailout-fight-more-leaked-documents/

Key quotes in this latest instalment:

"Both the European Commission and the European Central Bank – along with most eurozone finance ministries – believe a “break in case of emergency” backstop needs to be in place to provide a safety net for the bank rescue fund since, even when it’s completely full, it will only have €55bn in it. Given the recent crisis experience, that might only be enough to bail out two or three mid-sized European banks."

Laugh! or Cry! or both. The entire circus is about EUR55 billion. Not enough to backstop another Ireland (based on the 2008-2010 crisis dimensions). Not enough to backstop the retail division of the Deutsche Bank alone (based on 5% loss over capital cushion). Not enough to backstop anything, really. Administration, compliance, enforcement and other bureaucratic functions associated with this backstop (and the necessary Banking Union spoking it to the ECB and the eurosystem) will be running at somewhere around 5-10 percent of the entire fund, annually. If this is a form of insurance, you might getter better quote on insuring Titanic in its current state for passenger traffic.

"In addition, the fund will take 10 years to completely fill through levees on European banks, meaning some kind of backstop needs to be in place in the interim. The “SRF Backstop” paper basically says: we need a backstop, but we’re still not sure what it should be or how it would work."

Two things. Unless euro area hopes to remain in the Great Stagnation for the next 10 years, we shall see growth in banks balancesheets. Over 10 years horizon (even if balancesheets grow at 1.5% = real GDP growth expectation for euro area + HICP target, so 3.5% nominal growth pa in balancesheets), the banking assets side (covered liabilities from the SRF perspective) will have expanded by 41 percent. In other words, to provide the same cover as today's EUR 55 billion the fund will require EUR 78 billion. Forget the idea that in its current vision SFR will only be sufficient to bailout two or three mid-sized European banks. We'll be lucky if it can bailout 1 or 2 of mid-sized European banks in 10 years time.

21/10/2013: Uneasy Links: Banks and Sovereign Bonds Exposures

IMF recently warned about growing own-sovereign exposures of European banks when it comes to government bonds holdings. FT echoed with an article: http://www.ft.com/intl/cms/s/0/9b6fb558-3270-11e3-b3a7-00144feab7de.html

Per FT:

• "...Government bonds accounted for more than a 10th of Italian banks’ total assets at the end of August, the last month for which data are available. That is up from 6.8 per cent at the beginning of 2012, according to data from the European Central Bank."
• "In Spain the proportion has risen to 9.5 per cent, up from 6.3 per cent over the same period…"
• "… in Portugal it has increased to 7.6 per cent from 4.6 per cent."

"By far the majority of the increases – which occurred steadily month-on-month – are in holdings of bonds issued by banks’ own governments." So overall, "Government bonds, as a percentage of total eurozone bank assets, have grown to 5.6 per cent from 4.3 per cent since the beginning of 2012."

Lest we forget, there is a strong momentum building up in Europe to do something about the problem of European banks over-reliance on sovereign bonds - a momentum driven by lower debt countries with significant exposures to Target 2 imbalances. At the end of September, ECB's Governing Council Member Jen Weidmeann said that "The time is ripe to address the regulatory treatment of sovereign exposures," Weidmann wrote in an opinion piece published on the website of the Financial Times. "Without it, I see no reliable way of breaking the sovereign-banking nexus." (see here: http://www.efxnews.com/story/20978/ecb-weidmann-time-end-preferential-treatment-gov-debt?utm_content=bufferffb97&utm_source=buffer&utm_medium=twitter&utm_campaign=Buffer)

Basically, removing automatic zero risk weighting on sovereign bonds, especially for the weaker peripheral sovereigns will be a major problem for the European banks and can precipitate a strong sell-off of the sovereign bonds. I suspect it will be unlikely to take place in the current environment. But gradual shift toward such an approach can easily take place.

Another recent article highlighted the shift away from foreign lending by European banks on foot of the growing sovereign debt exposures: http://www.voxeu.org/article/impact-sovereign-debt-exposure-bank-lending-evidence-european-debt-crisis

Based on Forbes data,

• BNP Paribas has total assets of USD2,668 billion, with USD43.1 billion in peripheral 'light' (ex-Cyprus) Government bonds (1.62% of total assets);
• Deutsche Bank has total assets of USD2,545 billion, with USD16.2 billion in peripheral (ex-Cyprus) Government bonds (0.64% of total assets);
• HSBC has total assets of USD2,468 billion, with USD6.7 billion in peripheral (ex-Cyprus) Government bonds (0.27% of total assets);
• Barclays has total assets of USD2,328 billion, with USD29.2 billion in peripheral 'light' (ex-Cyprus) Government bonds (1.26% of total assets);
• RBS has total assets of USD2,266 billion, with USD3.5 billion in peripheral (ex-Cyprus) Government bonds (0.15% of total assets);
• Credit Agricole has total assets of USD2,131 billion, with USD19.1 billion in peripheral (ex-Cyprus) Government bonds (0.89% of total assets);
• Banco Santander has total assets of USD1,610 billion, with USD69.6 billion in peripheral (ex-Cyprus) Government bonds (4.32% of total assets);
• Lloyds has total assets of USD1,546 billion, with USD0.1 billion in peripheral (ex-Cyprus) Government bonds (0.01% of total assets);
• Societe Generale has total assets of USD1,512 billion, with USD9.7 billion in peripheral (ex-Cyprus) Government bonds (0.64% of total assets);
• Unicredit has total assets of USD1,232 billion, with USD54.3 billion in peripheral (ex-Cyprus) Government bonds (4.41% of total assets)

Two charts highlighting the plight of Spanish and Italian banks in terms of their sovereign bonds exposures (first) and the levels of LTROs exposures:

13/10/2013: On Taxes, Debt & Equity

EU Commission published some interesting research into Tax Reforms across the EU. The paper is available here: http://ec.europa.eu/economy_finance/publications/european_economy/2013/pdf/ee5_en.pdf

One interesting topic covered relates to the substitution away from equity in favour of debt funding in corporate capital investment. A chart to start with:

Now, per above, the disincentives to equity investment and incentives in favour of debt seem to be the lowest (in euro area) in Cyprus and Ireland. Note that these countries are associated with aggressive brass-plating (Luxembourg) are distinct from countries with aggressive tax arbitrage activities (Cyprus and Ireland). And thus, behold the skew in the EU Commission analysis: MNCs investing into these countries do not use debt on-shoring (US MNCs do not borrow in these countries), but use registry of equity there (for example, in Irish case - due to FDI-booked investments, or equity investment by IFSC companies, ditto for old Cypriot banking system vis Russian corporates).

The EU admits almost as much:
"There is also evidence that the tax advantage of debt fuels international profit-shifting activities as
rules on interest deductibility differ between countries and there are mismatches in decisions on which instruments are considered debt financing. Several studies analyse the debt financing of multinationals with either parent companies or subsidiaries in the United States, Germany, Canada and the EU. The results of these studies suggest that firms use intra-group loans to adapt their financial structure and minimise their overall tax burden. By shifting debt to an affiliate located in a high-tax country, corporate groups are able to deduct interest payments against a higher statutory tax rate while the interest received by the lending affiliate is taxed at a lower rate. Taking data from 32 European countries between 1994 and 2003, Huizinga et al. (2008) find that a 10 % increase in the tax rate increases leverage by 1.8 %. The authors also show evidence of debt-shifting as, for multinationals with two equal-size establishments in two countries, a 10 % increase in the tax rate in one country leads to an increase in leverage of the company located in that country by 2.4 % and a decrease in leverage in the affiliated foreign company by 0.6 %."

However, overall the tax rates also play the role in this debt-shifting: "Two recent meta-studies by Feld et al. (2013) and de Mooij (2011a) review the existing empirical studies and find that ... a one percentage point higher CIT rate is associated with a 0.27 percentage point higher debt-asset ratio."

Two more major points raised in the paper:

1. Welfare costs: "The tax bias towards debt financing also creates welfare costs. Weichenrieder and Klautke (2008) estimate this cost at between 0.08 % and 0.23 % of GDP, while Gordon (2010) estimates it at about 0.25 % of GDP. As pointed by de Mooij (2011b), these estimates ...fails to take into account the heterogeneity of responses and hence the additional welfare costs due to misallocations. Existing studies also fail to include the larger welfare costs of the negative externalities of using debt, such as systemic risk, the probability of default and the social costs of business cycle fluctuations. Finally, they do not take into account the distortions created by debtshifting activities and misallocation due to international tax arbitrage and administrative and compliance costs (de Mooij, 2011b). Consequently, the welfare impact of the debt bias can be assumed to be higher than what has been found in the literature so far."
2. Banking Systems and Debt Shifting: "Keen and de Mooij (2012) ...show that taxes influence the capital structure of banks and that, despite capital requirement constraints, the size of the effects of corporate taxation on the financial structure of banks is close to those for non-financial firms." In other words: capital rules do not induce any significant changes in banks behaviour when it comes to funding of banking activities: debt incentives still drive leverage up. Furthermore, "Hemmelgarn and Teichmann (2013) have found that bank leverage, dividend payouts and earnings management (in terms of loan loss reserves) react to changes in the domestic statutory CIT (corporate income tax) rate. ...In the three years after a tax increase by 10 percentage points, the results predict an increase in leverage of 0.98 percentage points or a relative increase by about 1.1 % (in relation to the equity ratio it would mean a notable relative decrease, of 8.9 % of equity)." Core conclusion: "These results suggest that a reduction in the preferential treatment of debt would result in a significant decrease in bank leverage. In addition, the results also show that regulatory capital requirements in the banking sector alone do not seem to be a prime determinant of financial structure. ... the effect of taxation conflicts with the aim of current regulatory reform to increase capital in the context of Basel III."

20/07/2011: EU's Banks Levy is a dangerous idea that will impede reforms in the sector

The latest calls for introduction of the banks levy within the EU (see here) as:

• the means for financing some of the banks rescue measures and
• the means for reducing the probability of the future crises
  

represents nothing more than a cynical and/or largely economically illiterate attempts by the EU lawmakers to dress up new revenue raising measures as ‘reforms’.

The core problems with this proposals are:

1. With current market structure & declining competition in Euro area banking sector, this levy represents another hidden tax on European households & companies. The current environment in banking sectors in many EU countries lends itself to the incumbent banks being able to pass the levy on to their customers without incurring any, whatsoever, direct moderation either on their own leverage levels or stabilization of their funding streams.
2. xWith declined competition in the sector, the new levy will act to further reduce Returns on Equity for any new entrant into the market, thus effectively acting as a barrier to entry and the means for protecting European zombie banks from competition from non-legacy banking institutions.
3. A levy will do absolutely nothing to resolve the problem if Europe’s zombie banks unable to exist as functional banking institutions, but sapping vital deposits and savings out of investment stream, thus starving the European economies of capital. European banks require some €250-500 billion worth of funds to cut their dependence on public funding and ECB/CB emergency assistance for funding and capital. Raising €10 billion annually through the proposed banks levy is simply too little to address the above gap.
4. In many cases, this levy will in effect result in a transfer of taxpayers’ own or guaranteed funds from the banks balance sheets (where these funds are now being deposited to support capital and funding activities of the zombie banks) to the EU collecting body.
   

A recent (June 2011) IMF Working Paper /11/146, titled “Recent Developments in European Bank Competition” by Yu Sun clearly finds that introduction of the common currency and the current financial crises have led to repeated reductions in overall degree of competition within the European banking sector, compared before and after EMU (1995–2000), post-EMU (2001–07) and post-crisis (2008-09)."

"Columns (3) and (4) in the table below report the H-statistic (higher H-stat reflects higher degree of competition in the banking sector) and standard error before EMU for each country or region, columns (5) and (6) after EMU. Column (9) displays the changes in the H-statistics from pre to post EMU period."

Thus, “the overall competition level in euro area dropped slightly after EMU, from 0.699 to 0.518 while competition levels across member countries converged [the standard deviation of H-statistics of euro member countries drops from 0.17 before EMU to 0.12 after EMU]."

“The finding that large and financially integrated countries or regions tend to exhibit less competitive behavior than smaller sectors is in line with others studies, including Bikker and Spierdijk (2008), who also find some deterioration in competitive behavior over time for Europe’s banks. They argue that banks in large and integrated financial markets are pushed by rising capital market competition and tend to shift from traditional intermediation to more sophisticated and complex products associated with less price competition."

“While the small decline in the level of bank competition for the euro area is statistically significant, it is somewhat smaller than the estimates reported by Bikker et al. (2008) using an un-scaled revenue function. For Austria and Germany, a slight increase in the competition level of their banking systems is estimated; however, the increase is not statistically significant. The H-statistics in Finland, France, Greece, Italy and Netherlands dropped after EMU. At the same time, Spain, the U.K. and the U.S. experienced some small but statistically significant improvement in the competition level of their banking systems."

Before and after the recent financial crisis: “The recent financial crisis and possibly corresponding policies seem to have left a strong mark on bank competition in many countries, as indicated by the competition indicators before and after the crisis for the sample…. Columns (7) and (8) of Table 3 show the H-statistics after the financial crisis. In the U.S., Italy, Germany, Spain and the euro area, bank competition seems to have declined following the financial crisis; however the declines in Germany, Italy and euro area are trivial.”

Bank competition among large (top 50) and small banks (bottom 50): “For some countries, like U.S. and U.K., small banks compete more intensively, while larger banks in Austria, France, Italy, Portugal and Spain are more competitive before EMU. In other countries, the competition indicators of larger banks are not statistically different from those of smaller banks before EMU”. Competition within small and large banks: “The euro area, France, Greece, Italy and Netherlands have experienced a significant drop in competition in both small and large banks, while both banks in the U.S. and U.K. showed a noticeable increase."

So overall, “the euro area experienced a significant but small decline in bank competition after EMU and the financial crisis. Some studies with similar findings have attributed the decline in competition to the process of consolidation, and the movement of bank activities from traditional financial business to off-balance sheet activities [both anti-competitive processes have accelerated under regulatory blessings of many Governments since the crisis]. More importantly, competition levels in euro countries seem to have converged after EMU, not just at the average national market level, but also between different bank types and ownership [so that less competitive markets became more competitive with euro creation, while more competitive ones became less so]. Finally, following the financial crisis, competition fell in many countries, and especially in some countries where large credit and housing booms took place."

In this environment, in my view, introducing a banking levy will simply reinforce the existent market structure and further prevent markets-led corrective adjustments in the sector. At the same time, the levy will exert new costs and pressures on banks clients.

Economics 23/8/10: Is ECB contradiciting itself on banks stability?

Updated below

Here is a note of the day, to be followed by a question of the day:

ECB's Axel Weber (a 'hawk' in his pre-crisis life) is proposing in the FT today that the ECB should extended unlimited refinancing operations for Eurozone banks up to three months until at least early 2011.

This call, if followed upon, would

1. make it harder for the ECB to execute any serious QE exit strategy,
2. shows that the situation in the EU banking sector remains critical;
3. indicates that forward looking central bankers, like Weber don't really believe that the funding markets are ready to properly price the risks of European (including, of course, German) banks, even in the short run (under 1 year);
4. shows clearly that despite statements to the contrary, ECB governors (at least some) don;t really buy into the idea that Euro area banks will be able to unwind, absent ECB help, the €1.3 trillion in debt coming due in the next 2 years.

Now, question of the day: If the EU stress tests were anything better than a shambolic PR exercise (I don't think they were, but let's entertain the idea), why would ECB need to worry about the banking sector funding situation? After all, the tests, allegedly, have shown that Eurozone banks are well capitalized and present no systemic risk.

So either the tests were useless (in which case Weber is right in his call) or ECB has no business continuing priming the liquidity pump (in which case Weber is wrong in his call).


And a couple of hours after my question of the day note above, Bloomberg weighed in with a mighty crack at the ECB's position (here).

Economics 22/7/10: EU stress tests - what do they tell us, really?

The EU stress tests of the banks confirm the worst fears of all analysts – including myself. The tests were simply a PR exercise, so poorly conducted that no one can have any credibility in their outcomes. Worse than that, the whole circus:

• The difficulty with which the EU member states appeared to be willing to release information about the tests;
• The way in which information is being released (via a drip feed – bit by bit over time, with massive leaks beforehand);
• The struggle through which member states have gone in order to even agree to carry out the tests in the first place;
• The rhetoric from the EU regulators assigning an almost heroic quality to its efforts to test the banks in the face of a clear shambolic nature of the whole exercise.
  

All of these things provide for a strong suspicion that the EU will not be able to undertake robust regulation and monitoring of the euro zone banking system in the future, plus a clear cut realization that the entire idea of the euro member states coming together to police their own fiscal behaviour will be even less honest, transparent or robust. In other words, how can we expect the EU to act as a functional policeman of its members fiscal policies if:

1. It failed to do so over years past, even armed with already robust and automatic regime of the Stability & Growth Pact, and
2. It failed to properly stress test its own banks?
   

In the nutshell: German banks, including Landesbanken, have already privately leaked the ‘news’ that they all had passed the test. Ditto for banks in France, Ireland and Italy. Only one German bank – already failed HRE – has failed the test from among 91 institutions.

In the case of AIB – the sick puppy was ‘passed’ by allowing to include into regulators’ calculations the €7.4 billion the bank plans to raise by the end of 2010. Good intentions count for hard evidence, then, per EU regulators. And Bank of Ireland passed - along with all the rest of the PIIGS banks is by the test excluding any possibility of twin shocks - simultaneous continued deterioration in quality of loans and a sovereign debt crisis. Now, in all likelihood, if the sovereign debt crisis continues to rage, does anyone in their right mind thinks that housing and other asset markets in the likes of Ireland and Spain are going to improve to alleviate the loans book pressures?

Farcical!

What the 91 tested banks did ‘pass’ was not a stress test, but a joke, concocted either by those with no understanding of banking (Eurocrats?) or created specifically with an ex ante intent of passing them all. The French and Greek banks privately said that the haircut applied to their holdings of Greek government debt were about 23%. Markets are factoring in 50-70% haircuts, so the EU stress test was less than half as severe as what is being priced already. Worse than that – the sovereign debt haircuts were applied only to bonds held in banks’ trading books. That accounts for just 10% of all Greek bonds held by the euro area banks, as 90% of Greek sovereign debt has been already moved to ‘held to maturity’ parts of banks assets portoflia, not reflected on trading books.

In other words, when it comes to Greek sovereign debt exposure, the EU tests were capturing no more than 5% of the total risk of such exposure for the banks. Like a doctor, looking at the brain activity chart of the patient and saying: ‘Look, there’s no activity at all. But 95% of all other vital signs are performing just fine. Indeed, no worries old man, the patient is still looking 95% alive then…’

And there's more. Per media reports, a memo from Germany's Financial regulator BaFin earlier this year said the real concern should be contagion from "collective difficulties" across the PIIGS, not an isolated default of Greece.

All of this did not prevent Irish stockbrokers from issuing upbeat reports about 'the good news' for BofI and AIB. What good news? The shares in two banks rallied today because someone, somewhere, allegedly decided that if Greece softly defaults, Irish banks will survive? Did that someone actually paused for a second to think, before placing a 'buy' order if Irish banks can survive their own home-made disasters? Or whether they can survive a meltdown of Greek debt default as priced by the markets? Or whether they can survive both happening at the same time?

Irish analysts, who issue these forecasts should be required to read Taleb's 'Fooled by randomness', though one wonders if they will understand much of what Taleb is saying for years now. Investors who chose to belive that AIB and BofI passing of the 'test' this week is some sort of a 'good news' are simply fooling themselves by ignoring a simple fact of life - misdiagnosing a patient with heart attack as being free of an Avian flu is not going to improving the patient's chances of survival. It actually reduces them.

Shamed by this absolutely incompetent, if not outright markets manipulating ‘testing’, you’d think the EU leaders would step back and start an earnest conversation between themselves as to what has gone wrong here. Nope. They are hell bent on creating more Napoleonic sounding, but utterly unrealistic and even disastrously risky plans. This time around – for fiscal harmonization. France and Germany – the two countries that have been clearly at odds with each other in responses to the current crisis have decided that a bout of amicable activism is long overdue. So behold the latest Franco-German alliance on a list of fiscal policy co-ordination proposals.

Per reports in today’s media: a French cabinet meeting took place with German presence, during which Sarkozy called for a complete harmonisation of European tax systems. ‘He did whaaat?!’ I hear you cry… yeah, he did call for that which was explicitly denied by him and the entire EU leadership core as ever having a chance of happening in the run up to the Lisbon II referendum in Ireland.

Now, don’t take me wrong here – this is not a voluntary call for individual states cooperative action – it is a call for an EU-wide ‘reform’. And if you don’t think so, the same meeting called, once again, for member states with excessive deficits to be punished by withdrawal of voting rights in the Council of Ministers, plus a fine and the compulsory imposition of an interest-bearing deposit for member states.

Eurointelligence blog has put it succinctly: “In other words, France and Germany [have called] to continue the same dysfunction regime, except that they strengthen those parts that have prove the most dysfunctional.”

Let me be a tad controversial here - wasn't all of this predicted to happen by Declan Ganley, Anthony Coughlan, Mary Ellen Synon and others who argue in favour of democratic reforms in the EU? Weren't they 'refuted' on exactly these predictions by the entire 'establishment' in Brussels and the all-knowing dons of the Upper Merrion Street? You don't have to agree with their points of view. You might as well agree that the idea of fiscal harmonization is a great thing. But what cannot be denied is that:

1. Any policies absent meaningful ability to honestly, transparently and effectively enforce them (and EU has shown none of these in its stress tests of the banks - the easiest area to deliver them in current political and economic environment) is destined to be nothing more than a bullying pit for some states to arbitrarily control others; and
2. Given grave doubts about EU's capabilities to provide for (a), the automatic default option of any new policies should be to scale opportunism and adopt pragmatic, cautious, incremental reforms approach - when in doubt, measure and caution must be the prevalent guide.
   

After all, if I were a person with the power to shape EU principles, I would adopt the milenia-old medical code of ethics, that is based on the fundamental axiom of morality: Primum non nocere, or First, do no harm.

Then again, adopting such a principle would have meant not conducting these 'stress tests'.