3/12/17: Russian and BRICS debt dynamics since 2012

Back in 2014, Russia entered a period of recessionary economic dynamics, coupled with the diminishing access to foreign debt markets. Ever since, I occasionally wrote about the positive impact of the economy's deleveraging from debt. Here is the latest evidence from the BIS on the subject, positing Russia in comparative to the rest of the BRICS economies:

In absolute terms, Russian deleveraging has been absolutely dramatic. Since 2014, the total amounts of debt outstanding against Russia have shrunk more than 50 percent. The deleveraging stage in the Russian economy actually started in 1Q 2014 (before Western sanctions) and the deleveraging dynamics have been the sharpest during 2014 (before the bulk of Western sanctions). This suggests that the two major drivers for deleveraging have been: economic growth slowdown (2013-1Q 2014) and economic recession (H2 2014-2016), plus devaluation of the ruble in late 2014 - early 2015.

The last chart on the right shows that deleveraging has impacted all BRICS (with exception of South Africa) starting in 2H 2013 - 1H 2014 (except for China, where deleveraging only lasted between 2H 2015 and through the end of 2016, although deleveraging was very sharp during that brief period).

In other words, there is very little evidence that any aspect of Russian debt dynamics had anything to do with the Western sanctions, and all the evidence to support the proposition that the deleveraging is organic to an economy going through the structural growth slowdown period.

20/7/17: Euro Area's Great non-Deleveraging

A neat data summary for the European 'real economic debt' dynamics since 2006:

In the nutshell, the Euro area recovery:

1. Government debt to GDP ratio is up from the average of 66% in 2006-2007 to 89% in 2016;
2. Corporate debt to GDP ratio is up from the average of 72% in 2006-2007 to 78% in 2016; and
3. Household debt to GDP ratio is down (or rather, statistically flat) from the average of 58.5% in 2006-2007 to 58% in 2016.

The Great Austerity did not produce a Great Deleveraging. Even the Great Wave of Bankruptcies that swept across much of the Euro area in 2009-2014 did not produce a Great Deleveraging. The European Banking Union, and the Genuine Monetary Union and the Great QE push by the ECB - all together did not produce a Great Deleveraging. 

Total real economic debt stood at 195%-198% of GDP in 2006-2007 - at the peak of previous asset bubble and economic 'expansion' dynamism, and it stands at 225% of GDP in 2016, after what has been described as 'robust' economic recovery. 

10/2/16: Slon.ru: "Чем хуже, тем лучше"

My latest column “Чем хуже, тем лучше. Откуда у российской экономики все больше сил“ for Slon.ru is out at https://slon.ru/posts/63670 in Russian.

This time, I am covering the topic of how Russian economy deleveraging leads to a future uplift in its potential growth, before tackling the cost of such deleveraging that is driving Russian public opinion of policies and direction of the State in a follow up column.

4/2/15: Debt Overhang and Sluggish Growth

Debt overhang and its impact on growth has been a rather controversial topic over the recent years. One of the key contributors to the debate is Kenneth Rogoff. Rogoff has a new paper out on the topic, together with Stephanie Lo, titled "Secular stagnation, debt overhang and other rationales for sluggish growth, six years on" published by the Bank for International Settlements (http://www.bis.org/publ/work482.pdf).

In the paper, Rogoff and Lo state that "there is considerable controversy over why sluggish economic growth persists across many advanced economies six years after the onset of the financial crisis. Theories include a secular deficiency in aggregate demand, slowing innovation, adverse demographics, lingering policy uncertainty, post-crisis political fractionalisation, debt overhang, insufficient fiscal stimulus, excessive financial regulation, and some mix of all of the above." Rogoff and Lo survey "the alternative viewpoints" on the causes of slow growth. The authors argue that "until significant pockets of private, external and public debt overhang further abate, the potential role of other headwinds to economic growth will be difficult to quantify."

Rogoff and Lo focus strongly on the effects of debt overhang on growth. "In our view, the leading candidate as an explanation for why growth has taken so long to normalise is that pockets of the global economy are still experiencing the typical sluggish aftermath of a financial crisis… The experience in advanced countries is certainly consistent with a great deal of evidence on leverage cycles, for example the empirical work of Schularick and Taylor (2012), who examine data for a cross-section of advanced countries going back to the late 1800s and find that the last half-century has brought an unprecedented era of financial vulnerability and potentially destabilising leverage cycles. Moreover, focusing on more recent events, Mian and Sufi’s (2014) estimates suggest that the effects of US household leverage might be large enough to explain the entire decline in both house prices and durable consumption."

Still, their conclusion is very cautious. Instead of assigning direct causality from debt to growth, they suggest increased indeterminacy of the relationship between other variables and growth in the presence of high debt overhangs. They do reinforce the point that the argument about debt overhang relates to the total real economic debt (governments, households and non-financial corporations), not solely to government debt alone.

14/1/2015: European Banks: Permanently in the International Isolation Ward

My blog post on the declining fortunes of European banking for Learn Signal blog is available here: http://blog.learnsignal.com/?p=143

2/1/2015: Credit and Growth after Financial Crises

Generally, we think of private sector deleveraging as being associated with lower investment by households and enterprises, lower consumption and lower output growth, leading to reduced rates of economic growth. However, one recent study (amongst a number of others) disputes this link.

Takats, Elod and Upper, Christian, "Credit and Growth after Financial Crises" (BIS Working Paper No. 416: http://ssrn.com/abstract=2375674) finds that "declining bank credit to the private sector will not necessarily constrain the economic recovery after output has bottomed out following a financial crisis. To obtain this result, we examine data from 39 financial crises, which -- as the current one -- were preceded by credit booms. In these crises the change in bank credit, either in real terms or relative to GDP, consistently did not correlate with growth during the first two years of the recovery. In the third and fourth year, the correlation becomes statistically significant but remains small in economic terms. The lack of association between deleveraging and the speed of recovery does not seem to arise due to limited data. In fact, our data shows that increasing competitiveness, via exchange rate depreciations, is statistically and economically significantly associated with faster recoveries. Our results contradict the current consensus that private sector deleveraging is necessarily harmful for growth."

Which, of course, begs a question: how sound is banking sector 'return to normalcy at any cost' strategy for recovery? The question is non-trivial. Much of the ECB and EU-supported policies in the euro area periphery stressed the need for normalising credit operations in the economy. This thinking underpinned both the bailouts of the banks and the bailouts of their funders (bondholders and other lenders). It also underwrote the idea that although austerity triggered by banks bailouts was painful, restoration of credit flows is imperative to generating the recovery.

17/11/2014: All the years draining into banking cesspool...

So the tale of European banks deleveraging... record provisions, zero supply of credit for years, scores of devastated borrowers (corporate and personal), record subsidies, record drop in competition, rounds and rounds of 'stress testing' - all passed by virtually all, the Banking Union, the ESM break, forced writedowns in some countries, nationalisations, various LTROs, TLTROs, MROs, ABS, promises, threats, regulatory squeezes ... and the end game 6 years into the crisis?..

Per Bloomberg Brief, the sickest banking system on Planet Earth is... drum roll... Wester European one.

It is only made uglier by all the efforts wasted.

H/T for the chart to Jonathan. 

18/6/2014: IMF analysis of Irish households' balance sheet

In previous two posts (here and here) I looked at the IMF's assessment of Irish banks. Now, lets take a quick look at the state of Irish households' balance sheets… Note: I covered outstanding credit to Irish households here.

Again, per IMF: "Household savings remain elevated, with three-quarters of savings devoted to debt reduction since 2010." Which practically means that savings and investment are now decoupled completely: we 'save' loads, we 'save' primarily to pay down debts. We, subsequently, invest nearly nada.

And savings rate has declined: in last 4 quarters on record below 10%, back toward the levels last seen at the end of 2008. Which should mean that consumption should be rising (as savings down)? Not really. Burden of debt is trending down still, from 2012 local peak, but this is still not enough to trigger increased consumption. Hence, the only conclusion is that savings down + consumption flat = income down. Might ask Minister Noon if his policies on indirect taxation have anything to do with this…

More ominously, for all this repayment of debts reflected in our 'savings' rates, the debt pile is not declining significantly:

What is going on? Especially since the recent 18 months should have registered significant debt reductions due to insolvencies and mortgages arrears resolutions acceleration? Ah, of course, that is what is driving the aggregate debt figures (although in many cases the debts are actually rising due to mortgages arrears resolutions, plus sales of debt to agencies outside the cover of Irish Central Bank, like IBRC mortgages sales).

Plus, for all the talk about mortgages arrears resolutions, the problem is barely being tackled when it comes to actual figures:

Oh, and the banks are continuing to squeeze depositors and fleece borrowers:

It's Happy Hour in the banking rip-off (sorry, CBI, profit margins rebuilding) saloon... All along, households are still under immense pressure on the side of their debt overhang.


Next Post: Economic Forecasts from the IMF

18/6/2014: ECB Assessment of Irish Banks: IMF view

In the previous post, I looked at the IMF report on Irish banks from the point of view of ongoing developments and balance sheet repairs (link here). Now, let's take a look at IMF report from the point of view of the ECB stress tests.

Per IMF: "The ECB’s Comprehensive Assessment and corrective actions where needed are important to reinforce confidence in European banks, including in Ireland (see stress tests parameters described below).

"AIB, BoI, and PTSB all reported capital ratios above the regulatory minima at end 2013. Notwithstanding, a finding of a capital need under the Assessment cannot be precluded, with results due to be announced in October." In effect, here's your warning, Ireland - IMF has no confidence as to the outcome of the tests and this is in line with the risks to the sector still working through banks balance sheets, as highlighted in the previous post.

Never mind, though, as per IMF "Private capital is the first line of recourse and it is welcome that market conditions for European bank equity issuance currently appear relatively favorable."

While IMF seems to think there are plenty of crazies out there willing to bet a house on banks stocks valuations, the IMF is still hedging its bets: "Nonetheless, where private capital is insufficient, public support may be needed, including from a common euro area backstop to protect market confidence and financial stability; the possibility of ESM direct recapitalization should not be excluded."

Which begs a question or two:
1) Will ESM come in ahead of irish taxpayers? Answer - unlikely.
2) If ESM were to come in, will it have seniority over previous taxpayers equity in the banks (in other words, will it destroy whatever recoverable value we have achieved so far)? Answer - likely.

IMF is less gung-ho on the idea of immediate state supports in the worst case scenario: "If the supervisory risk element of the assessment identifies other issues, such as profitability or liquidity, staff considers these should be addressed over time in a manner that contains costs while firmly safeguarding financial stability. This is especially important for PTSB, where staff continues to see risks to its return to adequate profitability over a reasonable horizon in its current form, but approval of its European Commission restructuring plan is on hold pending completion of the Assessment."

Oh… ouch…

A chart to illustrate the pains:

Watch that equity cushion in the above for PTSB and the margin on provisions… No wonder IMF is feeling a bit uneasy. But across all banks, Gross Non-performing Loans are nearly par or in excess of the Provisions + Equity + Sub-Debt.

Now onto stress tests.

Agin per IMF: "Irish banks are currently undergoing the ECB’s Comprehensive Assessment (CA). The five largest banks are included: three Irish headquartered banks (AIB, BoI, PTSB), and the domestic subsidiaries of Merrill Lynch and Royal Bank of Scotland. Based on end 2013 data, the CA comprises:
(i) an Asset Quality Review (AQR);
(ii) a forward looking stress test covering 2014–16; and
(iii) a supervisory assessment of key risks in banks’ balance sheets, including liquidity, leverage, and funding."

First thing to note: the time horizon for tests is exceptionally narrow: 2014-2016, or 36 months, of which (by the time the tests are done, at least 6 months data will be already provided). Does anyone think Irish banks will have full visibility on risks and downsides expiring at 2016 end? Good luck to ye.

"The AQR will audit banks’ banking and trading books. For each bank, at least half of the credit risk weighted assets and at least half of the material portfolios will be covered. For the banking book, the AQR will look at the impairment and loan classification, valuation of collateral, and fair valuation of assets, while core processes, pricing models, and revaluation of Level 3 derivatives will be covered in the trading book review. Compared with the CBI’s BSA in 2013, the AQR for the CA has narrower coverage of the banking book by risk weighted assets (RWA), it does not review banks’ RWA models, but does cover the trading book although such exposures are not large for the domestic retail banks."

What this means is that the forthcoming tests are less robust than the CBI tests, but that assumes CBI tests were robust enough.

IMF provides a handy set of charts summarising stress scenario, baseline scenario for the CA against IMF own projections.

"The CA will apply a common equity tier 1 risk based capital floor of 8 percent for the AQR and the stress test baseline, and 5.5 percent for the adverse scenario, using the relevant transitional definitions. Results will be announced in October. If a capital need is identified, the additional capital will have to be raised within 6 months if the shortfall occurs under the AQR or baseline scenario, or within 9 months if it arises under the stress scenario."

In my view, CET1 at 8% floor is a bit aggressive. The floor should have been around 9-10% for Irish banks (and all other distressed banks), while for stronger banks the floor could be 7-8%. But ECB does not want to differentiate ex ante the banking quality tiers present in the euro area markets. Which is fine, but yields and outcome that strongest banks have implied identical floor as the weakest ones.

So overall, my view is that the IMF is being rightly cautious about the banks prospects under the ECB CA exercise. The Fund is hedging clearly in referencing the possibility for banks failing the tests. Key point is that the IMF - having had access to CBI and Department of Finance data and assessments, cannot rule out the possibility that Irish banks might need additional capital and that this capital may require taxpayers stepping in.

Next up: Households Balance Sheets

18/6/2014: IMF on Irish Banks: Still Sick to the Core, but of course, getting better...

IMF released Staff Report on the First Post-Program Monitoring Discussion for Ireland. Some of the highlights over few posts.

First up: banks.

Per IMF: "Banks’ 2013 financial statements show higher provisions and, although easing funding costs are supporting bank profitability, credit continues to contract." Ugh? Surely not because the banks are lowering rates on existent and new debt? CBI data shows no such moves.

Here is how dramatic was the decline in banks funding costs (all declines down to ECB lower rates, plus Government ratings improving):

"AIB, BoI, and Permanent tsb (PTSB) set aside provisions totaling €2.5 billion in the second half,
reflecting the CBI’s updated guidelines introduced in May 2013 and the CBI’s balance sheet assessment (BSA) finalized at end November, together with allowances for new NPLs."

Coverage ratios of provisions to NPLs increased at all the banks. Which is good for banks balance sheets and forward potential for lending, but bad for current potential. And it is material for the stress tests forthcoming (see next post on this).

"Higher net interest income in  2013 partly offset provisioning to result in a smaller full year overall loss than in 2012. However, new lending remained weak, with credit outstanding to households and non-financial firms contracting 3.7 percent and 6.2 percent y/y, respectively, in April."

Ah, I wrote loads about credit supply problems: here's a note on latest data for credit supply to households http://trueeconomics.blogspot.ie/2014/06/1062014-credit-to-irish-households-q1.html and another one on latest data on credit supply to Irish private sector enterprises: http://trueeconomics.blogspot.ie/2014/06/662014-credit-to-irish-resident.html And the third post coming up today will cover the margins banks charge on loans relative to what they pay on deposits... the margins that act to extract value out of the economy.

And here's IMF's chart summarising the above developments:

All said, banking sector remains one of the core weak points. In assessing downside risks to Fund's forecasts for Ireland, IMF identified 4 key sources of risks. Banks are the fourth: "Bank repair shortfalls. As firms’ internal financing capacity is drawn down, sustaining domestic demand recovery will depend increasingly on a revival of sound lending, where substantial work remains ahead to resolve high NPLs to underpin banks’ lending capacity."

But for all the talk, banks remain sick. Per IMF: "Banks’ NPLs remain very high, at 27 percent of loans at end 2013, in a range of 17–35 percent across the three Irish headquartered banks. Such ratios reduce banks’ potential capacity to lend by hurting profitability, including through higher market funding costs, limiting the supply of collateral for funding, and diverting credit skills. With recovery taking root and property markets improving, banks may see further upside from postponing NPL resolution. But such choices at the individual bank level may not sufficiently internalize the macroeconomic impact of banks collectively leaving NPLs at high levels in terms of barriers to new lending and an inefficient allocation of capital, warranting supervisory pressure on banks to accelerate asset clean up. Reducing uncertainties around the value of banks’ loans will also enhance public debt sustainability by supporting valuations for the government’s bank equity holdings, which it intends to dispose."

Here's an interesting bit. We know banks have been slow to deal with Buy-to-Lets, parking bad loans in hope that current debtor will part-fund warehousing of BTL properties (via renting them out) until such time when prices rise and bank can foreclose on these. This strategy clearly maximises banks returns and is happy-times for CBofI, concerned with how good banks look on their 'profitability' side. But it is bad news for the economy, where investors (aka ordinary punters) are bled dry of cash to fund BTLs which will never return any fund they 'invested' in them.

IMF basically tells the CBofI and Irish authorities: you have to force banks deal with these BTLs and smaller CRE loans, i.e. foreclose earlier, not later.

And IMF is onto the task: "In view of improved market conditions, the authorities should press banks to broaden their resolution efforts into impaired CRE loans. Banks hold mostly smaller CRE exposures (below €20 million) that were not transferred to NAMA, yet delinquent CRE loans still account for 40 percent of NPLs. Recent strong IBRC and NAMA deal flow points to potential investor interest—although the nature of the assets differ somewhat—and the banks’ portfolios also have relatively high provisioning cover. Staff therefore recommends that banking supervision press forward the restructuring of these NPLs or their disposal in a manner that achieves sufficient deal flow while avoiding flooding markets. Although one bank is exploring disposal options for its CRE loan portfolio, others prefer loan restructuring to retain potential upside and their customer base."

And a handy chart:

Do notice how weaker provisions cover is delivered on mortgages, while over-provision is a feature of other loans? Priorities… priorities…

SMEs loans are still a huge problem: "SME loan workouts will require ongoing oversight to ensure viability is restored. The two main banks making loans to SMEs report substantial progress in developing workouts for their distressed SME loans, although in practice such workouts will be implemented over some years as restructuring steps by SMEs move forward." Read: the reports are fine, but we won't see full results over some time. Question, unposited by the IMF is: why?

"Recent amendments to the Companies Act facilitating SME less costly examinership procedures are expected to become operational in June, which may be most useful in multi-creditor cases as banks otherwise prefer to conclude workouts outside of the courts."

And finally: mortgages arrears:

"Mortgage resolution should be both timely and durable. …Banks report that by end March they had concluded solutions for over 25 percent of primary dwelling and buy to let loans in arrears for more than 90 days." Never mind the rest?.. Oh, by the way - of 132,217 accounts in arrears in Q1 2014, 39,111 accounts are less than 90 days in arrears. Of all mortgages that were restructured (92,442 accounts) only 53,580 accounts are not in arrears following restructuring. Again, IMF ignores this.

"Targeted audits give the CBI comfort that the solutions underway are durable, but reducing reliance on shortterm modifications paying interest only or less remains important." Interestingly, this is what we - IMHO - have discussed in depth with the IMF team. Irish authorities have seemingly no problem with the banks 'restructuring' mortgages by loading more debt onto households and spreading this debt either over greater duration or offering temporary relief from cash flow pressures of this debt.

How sustainable is this? Well, 'targeted audits' might suggest that a household that owed 100K on a property and was unable to fund it at full rate, can be made sustainable with 110K debt over same property but with 3 years worth of interest-only repayments. I am not so sure. Neither, it appears, is the IMF.

Another thing we discussed with the IMF: "Securing constructive engagement by borrowers remains a key challenge to progress, where extending independent advice to borrowers willing to negotiate with lenders may be helpful."

So far, the CBI has given independent advisers no support whatsoever and given the banks no encouragement to engage with such advisers. IMHO has worked closely with some banks to deliver such advice - and we have a proven track record showing it works. But two 'pillar' banks refuse to engage with us and any other independent advisor on any terms, unless the borrowers pay directly for advice out of their own pockets. Even IMF now sees this to be completely nonsensical.

Last bit: "The Insolvency Service is developing a protocol to standardize loan modifications, which could also help." So IMF now endorses idea of standardised solutions. From 2010 on, when mortgages crisis blew up, I campaigned for the state to impose onto banks standardised resolution products, such as loans modifications parameters, arrears capitalisation and write downs parameters etc. The state refused. We at IMHO briefed the Central Bank on the need for such standardisation. Our submissions were ignored.


Next: ECB Assessment of Irish Banks: IMF view

9/5/2014: Irish Credit Conditions Worsened in Q1 2014

Latest data on interest rates (covered here: http://trueeconomics.blogspot.ie/2014/05/952014-cost-of-credit-in-ireland-kept.html) and credit outstanding in the Irish banking system shows continued deleveraging in the economy:

At the end of Q1 2014,
-  Total volume of loans outstanding declined 5.6% y/y,
-  Loans to Households were down 1.54% y/y and
-  Loans to NFCs were down 9.29%.
-  Loans for house purchases were down EUR1.46bn,
-  Households' overdrafts rose EUR1.39bn, while
-  Consumer credit loans were down EUR1.43bn.
-  NFCs overdrafts fell EUR2.81bn and
-  Non-overdraft NFCs credit fell EUR5.2bn.

So credit available to enterprises and households in Ireland is still falling. More significantly, households are accumulating overdraft liabilities. And the cost of these facilities is rising.

Not a good sign, suggesting households and corporates are being squeezed on both ends of the debt deflation pump.

10/10/2013: IMF's GFSR October 2013: More Focus on Banks

Now, back to GFSR and banks. I covered some of the IMF findings on banks here: http://trueeconomics.blogspot.ie/2013/10/10102013-imfs-gfsr-october-2013-focus_10.html

This time, let's take a look at what IMF unearthed on funding side of the banking systems. Fasten your seat belts, euro area folks…

Euro area banks have shallower deposits base than US banks… but, wait… euro area banks are supposedly 'universal' model, so supposed to have MORE deposits, than the originate and distribute model of the US banks… Oops… Euro area banks like holding banks deposits - just so contagion gets a bit more contagious. Euro area banks hold tiny proportion of equity, lower than that of the US banks.

By all means, this is a picture of weaker euro area banks than US banks - something I noted here: http://trueeconomics.blogspot.ie/2013/10/9102013-leveraged-and-sick-euro-area.html

Another chart, more bumpy road for euro area:

Per above, there is a massive problem on funding side for euro area banks in the form of huge reliance on debt (both secured and unsecured). The US banks are much less reliant on secured debt (they can issue real paper and raise securitised funding) and they rely less overall on borrowing.

Chart below shows the structure of secured bank debt. Euro area again stand out with huge reliance on covered bonds. US stands out in terms of its continued reliance on MBS. The crisis focal point of the latter did not go away… and the crisis focal source of contagion - banks debt funding - has not gone from euro area's 'reformed' banks.

Happy times... Mr Draghi today expressed his conviction that euro area banks have been cured from their ills... right... hopium-783 is the toast of Frankfurt.

10/10/2013: IMF's GFSR October 2013: Focus on Banks

As promised in the earlier post, focusing on Corporate Debt Overhang (http://trueeconomics.blogspot.ie/2013/10/10102013-imfs-gfsr-october-2013-focus.html), I am covering in a series of posts the latest IMF GFSR.

Let's take a look at the banking sector focus within the GFSR:

Note the relatively healthy position of the euro area banks on the basis of Tier 1 capital ratios. However, when it comes to leverage, the chart below shows a ratio of tangible equity to tangible assets (the so-called Tangible Leverage ratio). The higher the number in the first chart above, the lower is the capital ratio ('bad thing'), the higher the number is in the chart below, the higher is the ratio of equity to assets ('good thing'):

So euro area banks are doing fine by Tier 1 capital, but are not fine by leverage... As the rest of the IMF analysis highlights, much of this aberrational result arises from the nature of the euro area banking model (assets-heavy 'universal banking' model), plus, as IMF politely puts:

"The conflicting signals also highlight the  importance of restoring investor confidence in the accuracy and consistency of bank risk weights. This also suggests that risk-weighted capital ratios should be supplemented by leverage ratios, as proposed in the Basel III framework."

No comment on the above...

GFSR is deadly on profitability of banks and equity valuations. Here's the key chart:

Notice the concentration of euro area banks at the bottom of the distribution. Still think Irish banks shares held by the Exchequer are worth EUR11 billion?.. really?.. By the chart above, they should be valued at around 2-3% of their tangible assets... which would be what? Close to EUR6 billion, maybe EUR9 billion. Which refers to all Irish banks. Listed, unlisted, foreign, domestic... And to all their equity... not just the equity held by the Exchequer.

Never mind. Like Irish banks, euro area banks are going to continue dumping assets... err... deleverage...

"European banks have been deleveraging in response to market and regulatory concerns about capital levels, and may continue to do so. ...a combination of market and regulatory
concerns about bank capitalization has already led to an increase in capital levels at EU banks. …Over the period 2011:Q3–2013:Q2, large EU banks reduced their assets by a total of $2.5 trillion on a gross basis — which includes only those banks that cut back assets — and by $2.1 trillion on a net basis."

So you thought it was surprising/unusual/unexpected that the banks are not lending? Every policymaker harping on about banks credit 'growth' should have known this deleveraging is ongoing and with it, no new credit growth will occur… I mean USD2.5 trillion!

"…About 40 percent of the reduction by the banks in the EU as a whole was through a cutback in loans, with the remainder through scaling back noncore exposures and sales of some parts of their businesses… As discussed in the April 2013 GFSR, banks have been concentrating on derisking their balance sheets by reducing capital-intensive businesses, holding greater proportions of assets with lower risk weights (such as government bonds), and optimizing risk-weight models."

Put differently, to beef up capital ratios, the banks shed primarily riskier loans. Now what these might be? Oh, yes, SMEs and non-financial corporate loans in general… So that 'credit growth' to SMEs?..

"The capital ratio projection exercise previously discussed suggests that some banks will need to continue raising equity or cutting back balance sheets as they endeavor to repair and strengthen their balance sheets."

Read my lips: no new credit growth… QED…

You can read the entire GFSR here: http://www.imf.org/External/Pubs/FT/GFSR/2013/02/pdf/text.pdf

Note: my recent article on European banks is here: http://trueeconomics.blogspot.ie/2013/10/9102013-leveraged-and-sick-euro-area.html

15/9/2013: BIS Quarterly: a tale of two banking systems

Two hugely revealing charts from the BIS Quarterly Review, September 2013 (http://www.bis.org/publ/qtrpdf/r_qt1309e.pdf) show exactly the remaining adjustments yet to be undertaken by the banking sector in Europe, compared to the US.

Here they are:

 and

 
note how European banks lag US banks in assets deleveraging, and in raising capital, and are slightly lagging in terms of changes in the ratio of risk-weighted assets. In risk-weighted capital ratios, the european banks are about 1/3rd of the way shy of the US, and in terms of capital, roughly 1/2 of the adjustment to the US levels is still required.

And per operational weaknesses of the European banking system? Next we have a table:

Although different across periods, the divergences between the European and US banks are still qualitatively the same for pre-crisis and crisis periods. In particular, US banks operate at higher cost than European ones, but generate more interest income and other income.

22/8/2013: Burry the Debt... Forever!

Pierre Pâris, Charles Wyplosz, 6 August 2013 column for Vox.eu, titled "To end the Eurozone crisis, bury the debt forever" is a perfect referencing point for my thinking on the debt crisis. Read it here: http://www.voxeu.org/article/end-eurozone-crisis-bury-debt-forever

Synopsis: "The Eurozone’s debt crisis is getting worse despite appearances to the contrary. How can we end it? This column presents five major options for reducing crisis countries’ debt. Looking into the details, it seems the only option that is both realistic and effective is for countries to default by selling monetised debt to the ECB. Moral hazard aside, burying the debt seems to be the only way we can end the crisis".

Can't say it better myself!

22/8/2013: Why This Time Things Might Be Different...

The readers of this blog know that I am seriously concerned with the issues of private (household) debt sustainability in the Euro area, as well as in other advanced economies around the world. In fact, my (simplified or stylised) POV on the current crisis is that we have now reached the point of long-term saturation with leverage and this is the main driver for the current Great Recession.

In a normal recession, deleveraging by one side of the economy is accommodated by leveraging up in another. For example, in a Keynesian policy set up, deleveraging of the households and non-financial corporates is accommodated by leveraging up of the fiscal side of the GDP equation. In a monetary policy setting, deleveraging of fiscal / public sector side is accommodated by lowering debt costs and thus increasing credit to the private economy. Lastly, in a normal balancesheet recession, both side of the economy can be helped in deleveraging by a combination of two policies accommodation.

In the current Great Recession, neither one of the three approaches above can work, unless at least one approach directly reduces debt levels - either via a sovereign default/writedown or a private sector writedown on a systemic scale. The reasons for this are two-fold:

1. Too much debt on all lines of the economic balancesheet: fiscal, household, NFCs and, thus, banks means that lowering the cost of debt financing is not sufficient to deliver signifcant enough room for new debt expansion; and
2. With emerging markets and middle income economies showing increasingly South-South internalised trade and investment flows patterns, the advanced economies are witnessing structural reductions in the pools of surplus (investable) savings available to them - the effect that is compounded by the adverse demographics in these economies. This means that monetary policy accommodation is funding the liquidity in the financial markets, where normally it would have been going to fund real activity.

In short, debt is the source of the crisis this time around, not the solution to the crisis as in previous recessions. And it is a proverbial perfect storm, as it comes on foot of demographic decline coincident with severe fiscal crises. The resulting squeeze on pensions in the advanced economies and on other age-related public services is yet to come.

Here is an interesting view on the continued crisis dynamics in the area of household debts in the US (with an ample warning for the rest of the advanced world) from Michael Hudson: http://www.alternet.org/economy/big-threat-economy-private-debt-and-interest-owed-it-not-government-debt (H/T to @rszbt Beate Reszat).

25/6/2012: Thinking outloud: Euro Area Banks Levy

Latest reports suggest the EU leaders are pushing for a 'banking levy' to finance common deposit insurance scheme, a banks resolution fund and joint supervision authority.

It has been my view all along that the former two are required for the financial sector future health and to break the onerous link between the banks and the sovereigns. Alas, I must point out the reality of what such a proposals will mean.

To start with, let's us ask a question: What happens when economy enters a recovery stage from even a cyclical downturn?

Answer: surplus savings built during normal downturn alongside accommodative monetary policies result in an increased supply of capital to finance capex expansion in the private sector. This leads to rising cost of capital on demand side (as demand for capex quickly outstrips supply) and on supply side (as monetary authorities tighten rates into upswing cycle).

But here's a problem, Roger, and it's Europe: suppose the economy is about to take off onto capex growth path:

• Savings nowhere to be seen as deleveraging of households will be still ongoing
• Deleveraging of banks, including in anticipation of LTROs expiration means no supply of new credit
• Policy rates might stay low, but retail rates will remain higher than normal as banks balancesheets remain weak and state or EU-held (via 'resolution' vehicle) equity remains high
• In the mean time, five years of the crisis have created a massive penned up demand for capital, so market rates will be even higher
• Equity capital will be scarce, as global recovery will most likely be ongoing, sapping capital into more growth-generative regions, and
• There's that EU levy as an icing on the cake to add to costs and shrink the margins.

Now, posit the above against the following environment scenario:

• Households debts are still high, but incomes are now undermined by five years (plus) of a recession and stagnation
• SMEs and many corproates balancesheets are weak (due to stagnation in exports and internal demand, plus deleveraging costs)

What do you get? Oh, rapid increase in credit costs, leading to more households and business insolvencies. So, go ahead, as Clint The Market would have said, make my day, punk. Raise some more levies...

22/6/2012: Deleveraging of Households US v UK, Spain

An interesting chart from McKinsey today updating deleveraging process for household debt in the US, Spain, and the UK:

Nothing new here (I have been saying the US is ahead of Europe on deleveraging, if only due to speedier foreclosure actions - which are slowing down due to legal challenges etc). And, unfortunately, the chart is very limited as to the scope of countries represented... but it does show how unrealistic are Spanish current expectations when it comes to how much more debt repayment would have to be generated to even get close to a more benign debt crisis in Sweden in the 1990s.