21/5/28: Trouble is brewing in the Euro paradise

My article for the Sunday Business Post on the continued risk/VUCA from politics of populism to the Euro area reforms and stability: https://www.businesspost.ie/business/trouble-brewing-euro-paradise-416876.

18/5/18: Euro area current accounts 1980-2017

What happened to the Euro area current accounts since the introduction of the Euro?

Periodically, I update my charts on the Euro effects on the external balances of the EA-12, the original economies of the Euro area. Here are the updates:

Considering first cumulated current account balances over 1980-2017 period, the chart below aggregates the EA12 into two sub-groups:

• The 'periphery' defined as a group composed of Italy, Greece, Spain and Portugal
• The 'core' group composed of the remaining EA12 countries

The chart shows several interesting facts

1. Current account deficits in the 'peripheral' states predate the introduction of the Euro
2. Since the introduction of the Euro through 2013 there was a consistent increase in the current account deficits amongst the 'periphery' states, with acceleration in deficits staring exactly at the point of the introduction of the Euro
3. Current account deficits in the Euro area 'peripheral' states were rapidly accelerating into 2009
4. Since 2014, current account deficits in the 'peripheral' states have been drawn down, at a moderate rate, as consistent with the internal deleveraging of these economies
5. Meanwhile, the introduction of the Euro accelerated accumulation of current account surpluses within the 'core' group of EA12
6. The rate of current account surpluses acceleration increased dramatically around 2004 and then again starting with 2009

In terms of external balances, the creation of the Euro area clearly resulted in compounding pre-Euro era existent structural imbalances in the EA12 economies.

Meanwhile, there is no discernible impact of the Euro on supporting growth in trade within the Euro area (here, we use changing countries composition of the Eurozone):

  As per above chart:

• From 2000 and prior to 2014, Eurozone performance in terms of growth rates in exports of goods and services largely underperformed other advanced economies (ex-G7) and was in line with G7 performance
• Before 2000, Eurozone was broadly in line with both the G7 and other advanced economies in terms of growth rates in exports of goods and services
• Lastly, starting with 2014, the Euro area has been outperforming both the G7 and other advanced economies in terms of growth in exports of goods and services - a development that is more consistent with the fallout from the twin Global Financial Crisis (2007-2009) and the Euro Area Sovereign Debt Crisis (2011-2013), as the process of internal devaluation forced a number of Eurozone countries into more aggressive exporting

On the net, there remains no current account-linked evidence to support an argument that the creation of the Euro has been a net positive for the Eurozone member states in terms of improving their external balances and exports flows. On the other hand, there is little evidence that the Euro has hindered trade flows growth rates, whilst there is strong evidence to claim that the Euro has exacerbated current account imbalances between the 'core' and the 'periphery' states.

15/5/18: Beware of the Myth of Europe's Renaissance

My article for last Sunday's Business Post on why the Euro area growth Renaissance is more of a fizzle than a sizzle, and what Ireland needs to do to decouple from the Go Slow Europe: https://www.businesspost.ie/business/beware-myth-europes-renaissance-416318. Hint: not an Irexit... and not more Tax Avoidance Boxes...

12/5/18: Monetary Activism at ECB: A Chart of Failure

A simple chart, a great observation by Holger Zschaepitz @Schuldensuehner: "Chart of failure: #Eurozone core inflation has plunged to 0.7% despite #ECB balance sheet at record high. If ECB permanently fails to hit its #inflation target, it's time to rethink target. By the way, there is inflation in stocks, bonds, real estate not measured in official CPI."

The story of ECB racing away from the Fed and even BoJ in pursuit of the inflation Nirvana:

Which brings us to a bigger question: with ECB at play, what is there to brag about when it comes to Europe's latest growth "renaissance"? Read my article in the Business Post tomorrow... 

5/2/18: Italy Smacks into VUCA Wall

VUCA wins. In Italy.

Italian elections results are coming in and several key VUCA components are now clearly at play in Europe's third largest economy: https://www.theguardian.com/world/ng-interactive/2018/mar/05/italian-elections-2018-full-results-renzi-berlusconi.

Now, what does this mean?

Italian Parliament:
234 seats for M5S
122 seats for Lega
105 seats for PDs
96 seats for FI

Italian Senate:
115 seats for M5S
55 seats for Lega
53 seats for FI
50 seats for PD

M5S - the 'Five Star Movement' has consolidated and expanded its launching position of 2013, despite virtually all analysts declaring the party to be 'falling' in support, especially after 2017 local elections. Welcome to the world of VUCA, where the more 'accomplished' the analyst, the less accurate are her/his predictions, because our traditional analytical tools miss the C & A bits of VUCA (complexity & ambiguity).

Renzi & mainstream politics have lost. His PDs are decimated. They have only themselves to blame: centre-left ideology is of nil distinction from centre and centre-right these days. Not only in Italy, but elsewhere too: just observe the U.S. Democrats sparing with the U.S. Republicans on virtually everything, save actual policies. The squabbling that the lack of ideological core implies is intense within the centre-left in Italy. Just as it is intense elsewhere (e.g. the U.S., where the centre-left's only differentiation from the centre-right is who to blame for the country problems, save blaming themselves).

Centre-right (Berlusconi) failed to capture anyone's hearts and minds, so the Lega Nord has taken its votes. Which makes Lega a major winner in the election: the party went from its cyclical low of 4 percent in 2013 election to its historical peak of around 18 percent in this election. The change of leadership in 2013 (to Salvini) has paid off.

Key takeaway from all of this is that in the modern, highly volatile, uncertain, complex and ambiguous political environment, writing off populist parties at the extreme o political spectrum is a dangerous game. We think of these parties as being driven to successes and subsequent failures by individual personalities of their leaders. That does not appear to be the case. Complexity overrides trends.

Meanwhile, in Brussels, power-fixing mode was on. As reported in the Guardian: "The [EU] commission’s chief spokesman, Margaritis Schinas, told reporters its president, Jean-Claude Juncker, wanted to see a “stable government in Italy” and “regarding the potential impact and so on and so forth... ‘Keep calm and carry on’”. In other words, get Renzi back by all possible means and do not challenge centrism. That is just another manifestation of VUCA for you: the ossified elites dependent on status quo ante will only recognise VUCA effects after they drive the system to a point of no return.

16/12/17: Dancing towards the end of QE

My article on the Super Thursday: monetary policy decisions by ECB, the Fed, PBOC, Norges Bank, SNB et al for Sunday Business Post:
https://www.businesspost.ie/opinion/dancing-towards-end-qe-405054.

21/11/17: ECB loads up on pre-Christmas sales of junk

Holger Zschaepitz @Schuldensuehner posted earlier today the latest data on ECB’s balance sheet. Despite focusing its attention on unwinding the QE in the medium term future, Frankfurt continues to ramp up its purchases of euro area debt. Amidst booming euro area economic growth, total assets held by the ECB rose by another €24.1 billion in October, hitting a fresh life-time high of €4.4119 trillion.

Thus, currently, ECB balance sheet amounts to 40.9% of Eurozone GDP. The ‘market economy’ of neoliberal euro area is now increasingly looking more and more like some sort of a corporatist paradise. On top of ECB holdings, euro area government expenditures this year are running at around 47.47% of GDP, accord to the IMF, while Government debt levels are at 87.37% of GDP. General government net borrowing stands at 1.276% of GDP, while, thanks to the ECB buying up government debt, primary net balance is in surplus of 0.589% of GDP.

Meanwhile, based on UBS analysis, the ECB is increasingly resorting to buying up ‘bad’ corporate debt. So far, the ECB has swallowed some 255 issues of BB-rated and non-rated corporate bonds, with Frankfurt’s largest corporate debt exposures rated at BBB+. AA to A-rated bonds count 339 issues, with mode at A- (148 issues).

It would be interesting to see the breakdown by volume and issuer names, as ECB’s corporate debt purchasing programme is hardly a very transparent undertaking.

All in, there is absolutely no doubt that Frankfurt is heavily subsidising both sovereign and corporate debt markets in Europe, largely irrespective of risks and adverse incentives such subsidies may carry.

29/9/17: Eurocoin: Eurozone growth is still on the upside trend

The latest data from Eurocoin - an early growth indicator published by Banca d’Italia and CEPR - shows robust continued growth dynamics for the common currency GDP through August-September 2017. Rising from 0.67 in August to 0.71 in September, Eurocoin posted the highest reading since March 2017 and matched the 3Q 2017 GDP growth projection of 0,67.

The charts below show both the trends in Eurocoin and underlying GDP growth, as well as key policy constraints for the monetary policy forward.

The last chart above shows significant gains in both growth and inflation over the last 12 months, with the euro area economy moving closer to the ECB target zone for higher rates. In fact, current state of unemployment and growth suggests policy rates at around 2.4-3 percent, while inflation is implying ECB rate in the regions of 1.25-1.5 percent.

In summary, euro area recovery continues at relative strength, with growth trending above the post-crisis period average since January 2017, and rising. Inflationary expectations are starting to edge toward the ECB target / tolerance zone, so October ECB meeting should be critical. Signals so far suggests that the ECB will outline core modalities of monetary policy normalisation, which will be further expanded upon before the end of 2017, setting the stage for QE unwinding and some cautious policy rates uplift from the start of 2018.

28/9/17: Schauble: A Requiem For Austerity Finance

My comment for yesterday’s NY Times on Wolfgang Schäuble’s departure from the Finance Ministry post: https://nyti.ms/2k5N2Er 

7/9/17: Long-Term Stock Market Volatility & the Influence of Terrorist Attacks

We just posted three new research papers on SSRN covering a range of research topics.

The first paper is "Long-Term Stock Market Volatility and the Influence of Terrorist Attacks in Europe", available here: https://papers.ssrn.com/sol3/papers.cfm?abstract_id=3033951

Abstract:

This paper examines the influence of domestic and international terrorist attacks on the volatility of domestic European stock markets. In the past decade, terrorism fears remained relatively subdued as groups such as Euskadi Ta Askatasuna (ETA) and the Irish Republican Army (IRA) relinquished their arms. However, Europe now faces renewed fear and elevated threats in the form of Middle Eastern and religious extremism sourced in the growth of the Islamic State of Iraq and Levant (ISIL), who remain firmly focused on maximising casualty and collateral damage utilising minimal resources. Our results indicate that acts of domestic terrorism significantly increase domestic stock market volatility, however international acts of terrorism within Europe does not present significant stock market volatility in Ireland and Spain. Secondly, bombings and explosions within Europe present evidence of stock market volatility across all exchanges, whereas infrastructure attacks, hijackings and hostage events do not generate widespread volatility effects. Finally, the growth of ISIL-inspired terror since 2011 is found to be directly influencing stock market volatility in France, Germany, Greece, Italy and the UK.

21/7/17: Professor Mario: Meet Irish Austerity Unsung Hero

In the previous post covering CSO's latest figures on Irish Fiscal metrics, I argued that the years of austerity amount to little more than a wholesale leveraging of the economy through higher taxes. Now, a quick note of thanks: thanks to Professor Mario Draghi for his efforts to reduce Government deficits, thus lifting much of the burden of real reforms off Irish political elites shoulders.

Let me explain. According to the CSO data, interest on Irish State debt obligations (excluding finacial services rescue-related measures) amounted to EUR 5.768 billion in 2011, rising to EUR7.298 billion in 2012 and peaking at EUR 7.774 billion in 2013. This moderated to EUR 7.608 billion in 2014, just as Professor Mario started his early-stage LTROs and TLTROs QE-shenanigans. And then it fell - as QE and QE2 programmes really came into full bloom: EUR6.854 billion in 2015 and EUR6.202 billion in 2016. Cumulative savings on interest since interest payments peak amounted to EUR2.65 billion.

That number equals to 75% of all cumulative savings achieved on the expenditure side (excluding capital transfers) over the entire period 2011-2016. That's right: 3/4 of Irish 'austerity' on the spending side was accounted for by... reduction in debt interest costs.

Say, thanks, Professor Mario. Hope you come visit us soon, again, with all your wonderful gifts...

7/6/17: European Policy Uncertainty: Still Above Pre-Crisis Averages

As noted in the previous post, covering the topic of continued mis-pricing by equity markets of policy uncertainties, much of the decline in the Global Economic Policy Uncertainty Index has been accounted for by a drop in European countries’ EPUIs. Here are some details:

In May 2017, EPU indices for France, Germany, Spain and the UK have dropped significantly, primarily on the news relating to French elections and the moderation in Brexit discussions (displaced, temporarily, by the domestic election). Further moderation was probably due to elevated level of news traffic relating to President Trump’s NATO visit. Italy’s index rose marginally.

Overall, European Index was down at 161.6 at the end of May, showing a significant drop from April 252.9 reading and down on cycle high of 393.0 recorded in November 2016. The index is now well below longer-term cycle trend line (chart below). 

However, latest drop is confirming overall extreme degree of uncertainty volatility over the last 18 months, and thus remains insufficient to reverse the upward trend in the ‘fourth’ regime period (chart below).

Despite post-election moderation, France continues to lead EPUI to the upside, while Germany and Italy remain two drivers of policy uncertainty moderation. This is confirmed by the period averages chart below:

Overall, levels of European policy uncertainty remain well-above pre-2009 averages, even following the latest index moderation.

18/7/17: Greece in Recession. Again.

Per recent data release, Greece is now back in an official recession, with 1Q 2017 growth coming in at -0.1%, following 4Q 2016 contraction of 1.2%. Worse, on seasonally-adjusted basis, Greek economy tanked 0.5% in 1Q 2017. The news shaved off some 0.9 percentage terms from 2017 FY growth outlook by the Government (from 2.7% to 1.8%), with EU Commission May forecasting growth of 2.1% and the IMF April forecast of 2.15%, down from October forecast of 2.77%.

Greece has been hammered by a combination of severe fiscal contractions (austerity), rounds of botched debt restructuring, and extreme fiscal and economic policy uncertainty since 2010, having previously fallen into a deep recession starting with 2008. Structural problems with the economy and demographics come on top of this and, at this stage in the game, are secondary to the above-listed factors in terms of driving down the country growth.

In simple terms, this - already 10 years long - crisis is fully down to the dysfunctional European policy making.

In real terms, Greek economy is now down almost 3 percentage points on where it was at the end of 2000 and even if we are to assume that the economy expands 2.15% in 2017, as projected by the IMF, Greece will still end 2017 some 0.76 percentage points below where it was at the start of its tenure in the euro area.

Meanwhile, the 2.1-2.15% forecasts are likely to be optimistic. Past record shows that, so far, since the start of the crisis, IMF’s forecasts were woefully inadequate in terms of capturing the true extent of the crisis in Greece.

As chart above shows, with exception of just two forecasts’ vintages, covering same year estimates (not actual forward forecasts), all forecasts forward turned out to be optimistic compared to the outrun (thick grey line for April 2017).

Another feature of the more recent forecast is that 2017 IMF outlook for Greece factors in worse expectations for 2018-2021 growth than ALL previous forecasts:

The key driver for this disaster is the EU-imposed set of policies and the resulting policy and economic uncertainty. In fact, if we were to take the lower envelope of growth projections by the IMF - projections that were based on the Fund’s assumptions that the EU will live up to its commitments to accommodate significant debt relief for the Greek economy from around 2013 on, today’s Greek real GDP would have been around 20-21 percent higher than it currently stands.

All in, Greece has sustained absolute and total economic devastation at the hands of the EU and its institutions, including ESM, ECB and EFSF. Yes, structurally, the Greek economy is far from being sound. In fact, it is completely, comprehensively rotten to the core and requires deep reforms. But this fact is a mere back row of violins to the real drama played out by the Eurogroup, the ESM and the ECB. The nation with already woeful demographics has lived through sixteen lost years, going onto seventeenth. Several generations are either face permanently damaged prospects of future careers, or have to deal with demolished hopes for a dignified retirement from the current ones, and a couple of generations currently in lower and higher education are about to join them.

12/4/17: German Economy Forecasts 2017-2018

The latest joint economic forecast for German economy is out and, in line with what Eurocoin has been signalling recently (see post here), the forecast upgrades outlook for Euro area's largest economy.

Here's the release, with some commentary added: Germany's "aggregate production capacities are now likely to have slightly exceeded their normal utilisation levels. However, cyclical dynamics remain low compared to earlier periods of recoveries, as consumption expenditures, which do not exhibit strong fluctuations, have been the main driving force so far. In addition, net migration increases potential output, counteracting a stronger capacity tightening."

• German GDP) is expected to expand by 1.5% (1.8% adjusted for calendar effects) in 2017 and 1.8% in 2018
• Unemployment is expected to fall to 6.1% in 2016, to 5.7% in 2017 and 5.4% in 2018 
• "Inflation is expected to increase markedly over the forecast horizon. After an increase in consumer prices of only 0.5% in 2016, the inflation rate is expected to rise to 1.8% in 2017 and 1.7% in 2018". This would be consistent with the ECB starting to raise rates in late 2017 and continuing to hike into 2018. The forecast does not cover interest rates policy timing, but does state that "In the euro area, the institutes do not expect interest rates to rise during the forecast period. However, bond purchases are likely to be phased out next year." In my view, this position is not consistent with forecast inflation and growth dynamics.
• "The public budget surplus will reduce only modestly. Public finances are slightly stimulating economic activity in the current year and are cyclically neutral in the year ahead." In simple terms, Germany will run budget surpluses in both 2017 and 2018, with cumulative surpluses around EUR36.6 billion over these two years, against a cumulative surplus of EUR44.6 billion in 2015 and 2016.
• Current account surpluses are expected to remain above EUR250 billion per annum in 2017 and 2018, with cumulative current account surpluses for these two years forecast at EUR508 billion against EUR521 billion surpluses in 2015-2016.

Slight re-acceleration in both budgetary surplus and current account surplus over 2017-2018 will provide a very small amount of room for growth in imports and capital investment out of Germany to the rest of the euro area. 

25/2/17: Eurocoin February 2017: Another Acceleration in Growth

A quick update on Eurocoin, the lead indicator for economic growth in the Euro area. In February, Eurocoin rose from 0.68 in January to 0.75 - hitting the highest level in 83 months and marking 10th consecutive monthly rise. The index has been now in a statistically positive growth territory every month since March 2015.

Implied 1Q 2017 GDP growth, as signalled by Eurocoin indicator is now at around 0.7 percent, which, if confirmed, will be the fastest pace of economic expansion since 1Q 2011.

The above chart shows that there is now a mounting pressure on the ECB to taper off its QE programme.

13/2/17: Wages, Income and Consumption: Euro Area's Poor Performance since 2003

Based on data reported at the end of January 2017 by the Eurostat, since 2003, through 3Q 2016, or roughly across the span of 13 years,

• Nominal adjusted gross disposable income per capita has grown by a cumulative 26.37 percent in the Euro Area (EA 19) member states  
• Real adjusted gross disposable income per capita has risen only 5.30 percent
• Real actual final consumption per capita rose just 7.75 percent
• Nominal wages have expanded by 12.4 percent, cumulative.

Compared to pre-Global Financial Crisis peaks (based on the 4 quarters average around the peak) at the end of 3Q 2016:

• Nominal adjusted gross disposable income per capita was 9.7 percent higher
• Real adjusted gross disposable income per capita was only 0.73 percent higher
• Real actual final consumption per capita was up only 1.66 percent
• Nominal wages rose 4.64 percent, or less than half the rate of increase in nominal income.

As chart below shows, in simple terms, the last nine years saw:

1. Basically flat real adjusted gross disposable incomes per capita; and
2. Widening gap between real actual consumption per capita and the real adjusted gross disposable income per capita

Coupled with a simple fact that the EA19 includes countries with consumption and incomes catching up toward the EA12 averages, while gross disposable income does not net out fiscal losses sustained due to post-crisis tax and spending rebalancing across the EA19, the picture is quite dire: there is, effectively, no meaningful growth in incomes in the euro area for some 9-10 years running. Worse, when we adjust for ageing demographics, the marginal increase in the real consumption of the last 9-10 years is also far from being comforting. 

While the Eurostat does not report received real wages dynamics, using income deflator we can estimate changes in the real wages. Chart below shows the results:

In real (inflation-adjusted) terms, take home (received) wages have fallen in the EA19 group of countries in 2003-2016, with 3Q 2016 real wages index reading at around 93.6, down 6.4 percentage points on the end of 2003. A caveat applying to this is that I am using index values to map out nominal-to-real revaluation. Still, minor errors and rounding issues aside, the chart above clearly shows the lack of real wages income uplift in the EA19 since the early 2000s.

27/1/17: Eurocoin Signals Accelerating Growth in January

Eurocoin, leading growth indicator for euro area growth published by Banca d'Italia and CEPR has risen to 0.69 in January 2017 from 0.59 in December 2016, signalling stronger growth conditions in the common currency block. This is the strongest reading for the indicator since March 2010 and comes on foot of some firming up in inflation.

Two charts to illustrate the trends:

Eurocoin has been signalling statistically positive growth since March 2015 and has been exhibiting strong upward trend since the start of 2Q 2016. The latest rise in the indicator was down to improved consumer and business confidence, as well as higher inflationary pressures. Although un-mentioned by CEPR, higher stock markets valuations also helped.

10/12/2016: Austerity: Three Wrongs Meet One Euro

"Is it the 'How' or the 'When' that Matters in Fiscal Adjustments?" asks a recent NBER Working Paper (NBER Working Paper No. w22863). The authors, Alberto Alesina, Gualtiero Azzalini, Carlo A. Favero and Francesco Giavazzi ask a rather interesting and highly non-trivial question.

Much of recent debate about the austerity in the post-GFC world have focused on the timing of fiscal tightening. The argument here goes as follows: the Government should avoid tightening the pursue strings at the time of economic contraction or slowdown. Under this thesis, austerity has been the core cause of the prolonged and deep downturn in the euro area, as compared to to other economies, because austerity in the euro area was brought about during the downturn part of the business cycle.

However, there is an alternative view of the austerity impact. This view looks at the type of austerity policies being deployed. Here, the argument goes that austerity can take two forms: one form - that of reduced Government spending, another form - that of increased taxation.

There is some literature on the analysis of the effects of the two types of austerity compared to each other. But there is no literature, as far as I am aware, that looks at the impact of austerity across different types, while controlling for the timing of austerity policies implementation.

The NBER paper does exactly that. And it uses data from 16 OECD economies covering time period of 1981 through 2014 - allowing for both heterogeneity amongst economic systems and cycles, as well as full accounting of the most recent Great Recession experiences.

The authors "find that the composition of fiscal adjustments is much more important than the state of the cycle in determining their effects on output." So that the 'How' austerity is structured is "much more important" in determining its effects than the 'When' austerity is introduced.

More specifically, "adjustments based upon spending cuts are much less costly than those based upon tax increases regardless of whether they start in a recession or not." This is self explanatory.

But there is an added kicker (emphasis is mine): the overall "results appear not to be systematically explained by different reactions of monetary policy. However, when the domestic central bank can set interest rates -- that is outside of a currency union -- it appears to be able to dampen the recessionary effects of tax-based consolidations implemented during a recession." Now, here is a clear cut evidence of just how disastrous the euro has been for the real economies in Europe during the current crisis. As the authors note, correctly, "European austerity... was mostly tax based and implemented within a currency union". In other words, Europe choose the worst possible type of austerity (tax-based), implemented in the worst possible period (during a recession) and within the worst possible monetary regime (common currency zone).

In allegorical terms, the euro zone was like a food-starved runner starting a marathon by shooting himself in a knee.

11/11/2016: Europe's 'Convincing' Recovery

Europe's strong, convincing, systemic recovery ... the meme of the European leaders from Ireland all the way across to the Baltics, and save for Greece, from the Mediterranean to Arctic Ocean comes to test with reality in the latest Pictet Quarterly and if the only chart were all you needed to see why the Continent is drowning in populist politics, here it is:

As Christophe Donay and Frederik Ducrozet explain (emphasis is mine):

"Since 2008, the world’s main central banks have used a vast array of transmission channels: currency weakening to reboot exports; reflation of asset prices to boost confidence; a clean-up of banks’ balance sheets to boost the credit cycle. But, ultimately, all these measures have failed as economic growth remains subdued. Indeed, the belief that countries have become trapped in suboptimal growth and that developed economies, especially in Europe, look set to complete a
‘lost decade’ of subpar growth (see graph) since the financial crisis forms the third strand of criticism of monetary policy."

Whatever one can say about the monetary policy, one thing is patently obvious: since the introduction of the Euro, the disaster that is European economy became ever more disastrous.

Enter Trumpist successors to characterless corporatist technocrats... probably, first for worse, and hopefully later, at least, for better...

28/10/16: Rising Risk Profile for Italy

Euromoney Country Risk on Italian referendum and rising risks relating to Euro area's third largest economy: