Economics 6/8/10: Anglo's plans & systemic risks

Updated

Here are some interesting questions (note - just questions for now, on the foot of comments made by Prof Brian Lucey earlier today) regarding the 'Good' v 'Bad' Anglo plans.

Take it from the top: we started with a bank with €71bn on the books valued at valuations of the peak markets. This is now allegedly going to:

• €25bn of the face value of loans pre-writedowns - to the 'Bad' bank, implying that these loans are so poor in quality, even Nama, with an average 50%+ (LTEV-inclusive) haircut is not touching it. This implies that even in the long run, these loans are not going to generate more than, say, 30% recovery rate (a generous 30% that is, but let's take it as such. Note: that is across the entire loan book of the 'Bad' bank);
• €10bn of the face value of loans pre-writedowns - to the 'Good' bank, implying that these loans are better than Nama average, so the LTEV on these loans is above 50%. Assume that the LTEV on them is 60% (which makes them better than Ulster Bank's Irish book, per today's results for Ulster - again a generous allowance, but let's entertain it);
• the remainder is going to Nama.

Now, another little factoid: Central Bank of Ireland has lent Anglo €11.5bn under a MLRA repo agreement secured against the non-Nama loans.

Per Anglo last published results: "Sale and repurchase agreements with central banks include €12.2bn (30 September 2008: €7.6bn) borrowed under open market operations from central banks and €11.5bn (30 September 2008: €nil) borrowed under a Master Loan Repurchase Agreement (’MLRA’) with the Central Bank and Financial Services Authority of Ireland."

Let's do some simple math.

Value (recall - I am factoring referencing to Long Term Economic Value, not the current mark-to-market value, which is even lower):

• €10bn in 'Good' Anglo can be (optimistically) expected to yield €6bn valuation using LTEV;
• €25bn in 'Bad' Anglo can be (again, optimistically) expected to yield €7.5bn valuation using LTEV.
• Allow for 1.5% margin of costs on both sides, to €525mln pa, or over 5 years - i.e. much shorter than Nama horizon - €2.6bn (note: current bank cost structure, which one can expect to be preserved as both banks go about conducting impaired assets recovery - a higher cost activity)
  
• Total non-Nama book value is, inclusive of LTEV net of expected management costs, therefore could be already around €10.9bn.

Against this value of €10.9-13.5bn, CB of Ireland holds €11.5bn worth of loans to the Anglo.

Now to the question: Does this mean that CB might be facing a potentially significant loss on the repos?

This possibility raises two issues:

1. If the repos are spread across 'Good' and 'Bad' bank, then the 'Good' bank is hardly a feasible undertaking, as repos alone already exceed the value of the 'Good' bank even absent impairment charges, while 'Bad' bank has clearly no ability to repay any fraction of these;
2. If the repos are inherited by the 'Bad' bank, then, either CB has to declare a loss (and I am not sure how it can do this), or the taxpayer is on the hook for the repos by having to pay them down through the 'Bad' Anglo.
   

Now, alternatively, let's ask the following question: to recover CBs repos from non-Nama assets, we need to have a combined 'Good' & 'Bad' banks recovery rate of 33% (not covering the costs of operating both banks, funding, bond holders etc). And this, once again, refers to the valuations done on the face value of the loans before any recent impairments - before the bubble burst. To recover all other CBs' funds, plus our own - we need a recovery rate of ca 68% (again ex all costs etc). That's really highly unlikely, folks.


Quite a dilemma, then, especially since ECB (see here) didn't approved the repos in the first place... and since Anglo also owes the other Eurozone Central Banks some €12.2bn more.

What could Mr Trichet say about Anglo's priorities in repaying the loans? Would he be (a) so kind as allow CB of Ireland to recoup its repos, which ECB thought were dodgy enough to refuse to take them itself? or (b) insist that other CBs be repaid first before our own repos are covered? If (a) - I'd say Mrs Merkel would have a few kind words to say to Mr Trichet, given her electorate's feelings about having to bailout Greece. If (b) - the above potential negative valuation of the repos will have to be multiples larger...

Just asking some questions for now... Wonder if there are any answers out there...

Economics 5/8/10: Russia and wheat prices

Following the worst drought in 130 years, the unprecedented heat wave and subsequent wild fires, Russia stopped exports of wheat, corn, rye, barley and flower from August 15 through December 31, 2010. Russia is the third largest exporter of wheat in the world. It expects 2010 harvest to come at 65-75mln tonnes, a 25% shortfall on 2009. Prior to the latest disasters, which started in April this year and is expected to continue at least through August, Russia expected to post second record breaking export years in wheat in 2010.

Despite the shortfall, Russian Government does not expect significant shortages of wheat for domestic markets. Government holds estimated 9.5 million tonnes of wheat in reserves and has ordered fixed price deliveries of wheat to regions impacted by the fires and drought.

The implications of the Russian exports ban are multiple:

1. There is a direct impact on wheat prices, with short term futures rallying today 8%, while longer term deliveries contracts being on an exponential uplift curve (see chart below for December deliveries contracts);
2. There is indirect impact on other commodities and food products, such as milk, etc, as wheat and its by-products are used across almost entire production and breeding chain.

Wheat prices on the CBOT were up 42% in July, the biggest monthly gain since at least 1959. Monday prices were up 5%, and are now the highest for 22 months.

Economics 5/8/10: Service PMIs

Time to update my earlier post on PMIs - this time with new data on services PMIs. The original post is here. Once again, the data is from NCB Stockbrokers PMI release and you can read their very good objective analysis on their site.
New business activity in the chat above is the one to worry about going forward. Giving a snapshot of more recent periods:
Here, both, the flattening out of the expansion rate in total business activity and the decline in the growth of new business activity are pretty clearly evident. Nonetheless, both series are above 50, signaling continued expansion.
Underlying macro parameters are a mixed bag. Business expectations are still improving and are pretty robust, though the rate of improvement is slipping. More dramatic is the slippage in the rate of new export business orders expansion. In the mean time, contraction continues across services employment and profitability, though the rate of contraction is slowing and is almost reaching zero.

Unlike in the case of manufacturing PMIs, services-related prices are trending in the right direction:deflation is setting in once again in input prices and deflation is ongoing, but at a slowing rate, in terms of output prices.

Putting services and manufacturing sectors side by side, first consider the employment picture:
Both employment pools are contracting. Manufacturing employment has crossed into negative growth territory, while employment in services sectors is falling at a slower rate than before.

Lastly, putting side by side actual PMIs:
Expansion in manufacturing has been under pressure in Ireland over the last three months. Meanwhile, services sector has been on expansionary path since the beginning of the year.

Of course, PMIs are not a perfect signal for near term future of the overall economic activity. Nonetheless, the series have been signaling weak expansion for almost 7 months now. This is the good news. The bad news is that there is low degree of confidence in the gains made so far, especially in manufacturing. In all likelihood September-November will be the key months when it comes to either stabilizing economy in a growth mode, or triggering a double dip. In my view, the risk of the latter before the end of Q1 20111 is around 40-45% and rising.

Economics 5/8/10: Live Register - up & up, again

Live register is out today with some poor news: the seasonally adjusted LR rose from 444,000 in June to 452,500 in July (+8,500 mom).This year to July 2010 LR rose by the cumulative total of 34,403 (+8%).

The latest increase in LR is marked by women signees leading males signees by 4,600 to 3,900. This suggests that (a) services sectors are more likely to show accelerating contraction in employment, and (b) the trend for jobs destruction in higher value added activities is still running strong.

This is confirmed by LR new data on occupation breakdown of lost jobs. Per CSO: "All occupational groups showed monthly Live Register increases in July. The largest percentage increase was in the Professional group (+12.3%), while the smallest percentage increase was in the Craft and related group (+0.1%). In the six months to July 2010 all occupational groups showed Live Register increases with the largest percentage increase in Professional (+22.8%), while the next largest increases were in Clerical and secretarial (+15.6%) and Sales (+13.0%). The smallest percentage increase was in the Craft and related group (+0.1%)."

So for the headline impact of the news - take an average weekly earnings (Q4 2009) at €716.09 (€37,237pa), take the average professional grade weekly earnings at €793.35 (€41,254pa), apply tax rates consistent with these earnings at €3,963-5,610 net tax liability, plus €1,225-1,386 PRSI, plus €1,489-1,650 Health Levy and €745-825 Income levy. Net loss to the Exchequer of tax revenue alone is €7,422-9,471. Employer-side taxes lost are ca €1,250-1,400. Now, add to this the cost of unemployment benefits, loss of Vat on private health insurance, provision of public benefits, such as health etc - you have total cost to the Exchequer of €28,040-30,240 per each new signee.

So July figures are signaling a hit on the Exchequer balance of ca €257mln over the year - just like that, one month worth of newly unemployed.


The average net weekly increase in the seasonally adjusted LR was 1,700 in July or virtually identical to June figure of 1,725.
Monthly rate of change accelerated in July to 8,500 up from 4,900 in June and marking the fastest rate of monthly increase in a year to date, and the highest rate of increase since July 2009:
The standardised unemployment rate in July is now at 13.7% up from 13.4% in June. This compares with 12.9% in the first quarter of 2010, the latest seasonally adjusted unemployment rate from QNHS.
Some final comparatives:

• Weekly net increases average from January 2008 through July 2010 were 2,102 - above the July average weekly net rate of increase of 1,700. However, over the last 12 months, average net weekly increases were 386 - well below the figure for July;
• Monthly average rate of increase in LR was: January 2008-July 2010 = 9,100, 12 months to July 2010=2,783. July 2010 monthly increase was 8,500.
  

Economics 5/8/10: Good news - we might be 'one-off' broke?

Good morning, folks. As a day starter, please take a note: We are bust! Yesterday’s Exchequer returns are a worthy reading on the theme of the day and hence I am writing a third post on the subject. Let me recap where we are at:

Tax receipts are now under €17.2bn cumulative for the first seven months of the year. As far as our ‘ever optimistic’ official analysts go, things are going on swimmingly. But in reality, we are on track to meet my December 2009 forecast for a shortfall of €500-700mln on the year. And that despite the fact that Ireland has ‘turned the corner’ on growth – highlighting the fact that the read through from GDP to tax revenue is not a straight forward thing. Of course, most of the shortfall is due to our real economic activity – as measured by GNP – is still tanking.

So relative to profile, here’s the picture:Good news on expenditure – overall voted expenditure was 2.6% below anticipated for the period to July. But this ‘achievement’ was driven solely by the cuts to capital spending. Thus, net voted capital expenditure for the first seven months of the year now stands at €2.2bn – full €660mln (-23%) below target. Net voted current expenditure is so far on target, while national debt is costing us slightly less (-€213mln) than DofF anticipated.

So overall, we are on track to deliver the Exchequer deficit of ca €19bn in 2010, close to the target €18.78bn, as capital spending accelerates in H2 2010. But we won’t reach the overall target to GDP. Most likely, we are going to see a 12% deficit to GDP ratio.

And this does not include the full extent of funding for Anglo and INBS. Brian Lenihan has already committed the state to supply €22bn to Anglo alone, of which €14.2bn was already allocated, but only ca €4bn went on the Exchequer accounts. Of the still outstanding €7.8bn, the question is how much of this amount is going to be directly shouldered by official deficit figures. The second question is – will €22bn cover Anglo demand for capital post Nama Tranches II and III transfers – recall that Anglo is yet to move loans for Tranche II. The third question now relates to AIB – given its interim result announced yesterday, one has to wonder if the bank will need more capital. What is beyond question now is that the State will be standing buy with a cheque book ready, should AIB ask for cash.

All in, Ireland Inc’s sovereign accounts this year are likely to come out with a 20% plus deficit relative to GDP. That’s a massive number implying that over a quarter of domestic economy will be accounted for by the shortfall in public finances. Our debt can easily reach over 87% of GDP and close to 110% of GNP (and that’s just including the full Anglo amount of €22bn and excluding Nama and the rest of recapitalizations liabilities).

Scary thought. But don’t worry – the Government will come out to say that it was all due to one-off measures. One-off in 2008, 2009, 2010, and one can rationally expect 2011 and even possibly 2012. By which time Nama liabilities will begin to unwind… serializing the one-offs into the future.

Economics 4/8/10:Exchequer July receipts

Note: Corrected version - hat tip to Seamus Coffey!

As promised in the previous post (which focused on the Exchequer balance, here), the present post will be focusing on actual tax receipts.

I have resisted for some time the idea that Budget 2010 targets are somehow analytically important. Hence, you will not find targets-linked analysis here. But the main tax heads - their comparative dynamics over 2008-2010 to date are below.

First, take a look at the actual cumulative to date levels.Overall tax receipts are now running below 2009 numbers, and are still way off 2008 numbers (off €1,536mln on 2009 and €5,520mln on 2008). This means we are now 8.22% below 2009 and 24.35% on 2008.

Two largest contributors to the receipts are Vat and Income Tax:Vat is now €483mln below 2009, and still €2,453mln behind 2008, which means we are now 6.9% down on 2009 and 27.5% behind 2008. One wonders how much of this Vat intake in 2010 is due to automotive sales increases driven (as I explained in earlier posts) predominantly by the 'vanity plates' with '10' on them. Income tax shows a similar pattern: down €537mln on 2009 (-8.45%) and €1,060 on 2009 (-15.4%).

Corporate tax and Excise are the next largest categories.Cumulative year to date, corporate tax receipts are performing weaker than in 2009 (-€260mln and -13.8%) and ahead of 2008 (+€192mln and 13.4%), but this is due to timing issues and financial markets recoveries in H1 2010. Excise taxes are still under-performing: down €87mln on 2009 (-3.37%) and €773mln (-23.7%) on 2008.

Stamps
Transactions taxes are not faring well. Stamps are down €75mln on 2009 (-18.3%) and down €808mln on 2008 (-70.7%).

Surprise surprise, Capital Gains Tax is singing similar song:
So CGT is down €89mln (-44.3%) on 2009 - despite being beefed up by bull markets in financial assets, and is down €544mln (-83%) on 2008.

Year on year changes show stabilisation around 2009 levels.
Usually, the Exchequer returns publications now days provoke a roaring applause from our banks and other 'independent' analysts and the remarks about 'turning a corner'. This time - no difference. Nope, folks - let me stress - there is not even a stabilization around horrific results for 2009. Exchequer revenues are heading south. We haven't gotten anywhere close to resolving the crisis.

But let me show you what this bottom will look like, once we are there.
It is a horrific place in which personal income and consumption-related taxes bear roughly 75.2% of all tax burden (up from 62.5% in 2008 and 68.6% in 2009). Meanwhile, physical capital taxes contribution to the budget have shrunk from 14.7% in 2008 to 9% in 2009 and 4.2% in 2010. Corporate tax, despite the robust performance now contributes only 9.5% of total tax receipts down from 2009 level of 12.4% and 2008 level of 13.5%.

In other words, those who benefit less of all demographic and economic groups, from public services - the upper middle classes - are now paying more than 50% of the total tax receipts bill. This, in the words of some of our illustrious guardians of social justice is called 'protecting the poor'. In other times, in other lands, it was also called 'taxation without representation'.

I would rather call it a tax on human capital - the very core input into 'knowledge economy' that we need to get us out of the long term economic depression.

Economics 4/8/10: Exchequer July results

Exchequer figures for July 2010 are out. Here are trends and some details. Analysis of revenue (by line) will follow later tonight.

Month on month changes first:
Notice seasonality. Seasonally adjusted surplus/deficit is not replicating the V-patterned change over three months. Instead, we are showing persistent worsening of the deficit. This is not due to a surprise expenditure deterioration, as current expenditure side held quite well relative to 2008 (down from €27,565mln to €27,039mln).

One interesting feature, however, on expenditure side is that May-July 2010 saw a net rise in overall expenditure, while same period in 2009 saw a contraction.

Convergence of tax and total receipts was in line with previous years:
This was achieved primarily by relative under-performance of tax revenues, down from €18,689mln in same period of 2009 to €17,153mln this year, plus slowdown in capital receipts mom (although still up yoy cumulatively). Automatic stabilizers are now in action.

Putting receipts against deficit:
Total receipts are persistently down in the last 3 months, and with them, exchequer deficit is rising. This again runs counter to the seasonal trends. Notice also that mean reversion on receipts side is now completed, while deficits are trending still above the long term trend line, primarily due to the fact that 2009 figure includes banks recapitalization costs, but 2010 figures so far do not account for these in full (more on this below).

The broken seasonality pattern on receipts side is evident in the chart above.

On to cumulative results for the year:
Tax revenue is significantly under-performing 2009, let alone 2008. Remember, with all tax increases on 2009 we should have been somewhere between the red and blue lines. Is this suggesting that higher taxes (certainly on the books for Budget 2011) might be counterproductive to revenue objectives?
Total receipts are still coming out slightly above 2009 - thanks to stronger performance in June.

Total cumulative expenditure is running below 2008 levels. That's thanks to cuts in capital spending and under-provisioning for banks in year to date 2010 (more on this below).

Now, deficits:
For a moment there, it looked like we were heading toward abysmal 2008 levels (but not as abysmal as 2009). That's because the Government booked all its capital spending savings into April-June. With these savings now exhausted, our deficit has taken a nose dive.

Shall we compare with banks in across the board?
Hmmm... were capital expenditures (inc banks supports) through 2010 so far running at 2009 levels, we would be worse off in terms of spending than last year.

Now, remember, we (well, actually IMF) were promised by the DofF that the bank recapitalization funds since January 2010 "are now reflected in deficit projections for the year". Actually - they are not. Not 6 in the Exchequer Statement details what is covered in banks recapitalization to date:So in brief - no actual capital injection of any variety is covered in Exchequer data. No purchases of equity in AIB and BofI are covered either. It looks like the Government might be waiting to push these numbers through at the last minute, say forcing recognition into December 2010. Such a move would allow it to pre-borrow funding from the markets without anyone raising too much fuss about contagion from banks balance sheets to the sovereign. Once 2011 arrives, the Government can turn to the markets and say 'Well, that was one-off stuff. Business as normal now."

One way or the other - look at the 2009 figure in the table above: that's the benchmark for our real performance.

Economics 3/8/10: Ireland's PMIs

NCB Stockbrokers today released their latest data for Irish PMIs for Manufacturing.

Core conclusions: "the rebound in the Irish manufacturing sector lost momentum again in July.
Both output and new business increased at slower rates, while employment fell for the second month running. Reduced capacity at suppliers led to the fastest lengthening of lead times in the history of the series. The seasonally adjusted NCB Purchasing Managers’ Index™ ...fell for the second month running, posting 51.4 in July, down from 51.8 in the previous month.

The reading indicated that although operating conditions in the sector improved, the rate of strengthening was the weakest in the current five month sequence. Output growth eased for the third successive month..."

Overall - a very balanced analytical note from NCB, as usual. Worth a close read.

As usual, let me update my charts based on the NCB dataset.

First manufacturing:
The downward pressure is clearly visible in all three PMI-underlying core series. A close up snapshot reveals it in more details:
Output and new export orders series are perhaps the most significant signals of the weaknesses ahead.

Much of the improvements in PMIs globally (and in Ireland) were driven earlier this year by the need to restore supply capacities: This momentum now appears to be close to exhaustion despite the fact that slack capacity remains unfilled.
Prices are showing continued deterioration in margins. Overall input prices deviation from the output prices and the recent crossing of output prices into contraction zone for the index suggest that margins are being significantly undermined. The uptick in employment index, though significant since the crisis lows, is yet to translate into new hires and is now back in contraction territory (since June).

Next, updating Service PMIs (note - the latest data is for June 2010).

Services are posting much more sustainable recovery trend (albeit with less impressive peak of growth so far) than manufacturing. New business trending alongside overall PMIs suggests that unlike the case of inventories-driven manufacturing PMIs expansion, new business is driving most of the service activity rebound. The snapshot of data below highlights this:
However, it is worth watching some of the macro sub-components of the services PMIs:
In particular, both business expectations and profitability are appearing to be on cusp of a shift downward. More importantly, both profitability and employment appear to be stuck in contraction territory.
In terms of prices, inputs deflation is almost exhausted, but outputs are stubbornly refusing to move into higher prices territory - margins are thus down, which should be bad news for employment in months ahead.

Employment picture overall is not too encouraging:
Original support at modest expansion levels in manufacturing, registered earlier this year has now slipped back into contraction. Services employment remains below expansion line, though the rate of contraction is slowing pretty aggressively. It remains to be seen, however, what July data will tell us about services component.

Economics 2/8/10: External corruption - Ireland's scores

Transparency International published Progress Report 2010: Enforcement of the OECD Convention on Combating Bribery of Foreign Public Officials (July 28).

The main conclusions of the report:

• Active Enforcement: Denmark, Germany, Italy, Norway, Switzerland, UK and US;
• Moderate Enforcement: Argentina, Belgium, Finland, France, Japan, Netherlands, South Korea, Spain and Sweden;
• Little or No Enforcement: Australia, Austria, Brazil, Bulgaria, Chile, Czech Republic, Estonia, Greece, Hungary, Ireland, Israel, Mexico, New Zealand, Poland, Portugal, Slovak Republic, Slovenia, South Africa and Turkey.
  

TABLE A: FOREIGN BRIBERY ENFORCEMENT IN OECD CONVENTION COUNTRIES

TABLE B: STATUS OF FOREIGN BRIBERY CASES

Detailed findings (relevant to Ireland):

1) Inadequacies in Legal Framework

• Jurisdictional limitations (e.g. Australia, Canada, Czech Republic, Denmark, Estonia, France, Greece, Ireland, Israel, Japan, the Netherlands, Poland, Spain);
• Lack of criminal liability for corporations (e.g. Argentina, Brazil, Czech Republic, Estonia, Germany, Greece, Ireland, Italy, Japan, New Zealand, Poland, Turkey);
• Inadequate sanctions (e.g. Brazil, Chile, Denmark, Estonia, Germany, Greece, Ireland, Japan, Korea (South), the Netherlands, New Zealand, Poland, South Africa, Sweden, Switzerland, Turkey).
  

So Ireland scores poorly in 3 out of 6 categories.

2) Inadequacies in Enforcement System:

• Inadequate complaints system and/or whistleblower protection (e.g. Argentina, Australia, Austria, Belgium, Brazil, Chile, Czech Republic, Denmark, Estonia, Greece, Hungary, Ireland, Israel, Italy, Korea (South), Mexico, Netherlands, Norway, Poland, Portugal, Slovak Republic, Slovenia, Spain, Turkey).
  

So Ireland scores poorly in 1 out of 6 categories.

Overall, Ireland's performance is below satisfactory by category, but not below the average (by country). Ireland's performance is also significantly below all other small and significantly open to trade economies (except Austria).

This, however, should not be confused with the measures/performance in terms of our overall corruption. I would expect that TI's forthcoming report on overall corruption perceptions in Ireland will show significant deterioration on past performance due to significant 2009-2010 newsflow of revelation of some of the worst governance practices in public sector and banking.

Economics 1/8/10: California's lesson for IRL?

Last week the State of California declared official emergency in relation to its fiscal shortfall. The problem, you see, is that torn between various vested interests, California's legislature is unable to approve a new budget for 2011. The State deficit is currently running at $19bn, which represents 22% of the general budget fund. As a part of emergency declaration, Governor Schwarzenegger ordered three days off without pay per month beginning in August for tens of thousands of state employees to preserve the state's cash to pay its debt, and for essential services. Now, 3 days out of each month represents roughly speaking a 14% straight cut across all lines of wages, pensions liabilities, overtime etc. A bit more dramatic than Irish Government 2-year old programme of cutting PS pay by an average of 5-7%.

May be the depth of California's crisis is that much (say 2.5 times?) deeper than the fiscal crisis in Ireland?

Well, let's compare, shall we? To do so, I took budgetary projections (latest available) for California and Ireland and put them side by side. I computed the extent of expected and planned deficits in both locations as a share of the net Government expenditure.
It turns out that in its state of emergency, 'insolvent' California is not 2-3 times worse off than Ireland. It is the 'turning the corner' Ireland that looks 1.5 times worse off than California. And not just now - all the way through the next 4 years.

So California - its Governor and Legislature - are at the very least trying to work through the summer to hammer out some sort of a resolution. Our own legislators and Government are out to enjoy a spot of recreation. And why not, you may ask, if the economy has finally turned the corner... err... sort of... for the 15th time since May 2009 that is...

Economics 1/8/10: Merrill Lynch & Minister Lenihan's Banks Guarantee

Those who follow my tweeter contributions (@GTCost) would have probably seen the following quotes from the 3 documents relating to Merrill Lynch advice given to the Irish Government regarding the banks guarantee of September 2008. Nonetheless, I've been asked by a couple of readers to provide their summary in a single place so here it is.

In relation to Minister Lenihan letter to the Irish Times (here) which stated amongst other things that: "In the papers on the bank guarantee recently released by my Department and published by the Public Accounts Committee, the Government’s financial advisers Merrill Lynch strongly endorsed the principle that no Irish bank should be allowed to fail against the backdrop of what the Governor describes in his report as “the hysterical state of global financial markets”. Merrill Lynch also recommended a blanket guarantee of Anglo Irish Bank, including, incidentally, subordinated debt."

The Minister was referring to 4 documents available on the Oireachtas site (here) and numbers 3, 4, 5 and 6. Document 6 contains no information on the actual position of the Merrill Lynch.

Transcript of the meeting Merrill Lynch & DoF 26/09/2008: page 1 "On a blanket guarantee for all banks: Merrill Lynch felt could be a mistake and hit national ratings and allow poorer banks to continue" Link: http://www.oireachtas.ie/viewdoc.asp?fn=/documents/Committees30thDail/PAC/Reports/DocumentsReGruarantee/document5.pdf

Same source, page 2: "More generally, institutions should be encouraged to sell assets & get equity." So Merrill referred to equity capital injections (either in the style of Swedish recapitalizations by the state or private equity sales, with the latter being an unlikely outcome. At no time does the document references the need for a blanket bailout! Minister Lenihan was present at the meeting (see last paragraph of the document to prove this, although the official list of attendees at the top of the document does not include his name).

Merrill's presentation on 26/09 does state (p2) that a guarantee, covering subordinated debt holders as well is: "Best/Most decisive/Most impactfull from market perspective" option of considered. It does not state this to be the case from the taxpayers perspective. Minister Lenihan does not represent the markets interests. He represents taxpayers interests. Thus, if he indeed take the advice from the above statement, he thus knowingly or unknowingly altered the terms of his core responsibilities.

The same presentation voices a number of concerns, some of which are blacked out by DofF... What are these? Link: http://www.oireachtas.ie/viewdoc.asp?fn=/documents/Committees30thDail/PAC/Reports/DocumentsReGruarantee/document4.pdf)

Email from Merrill to K. Cardiff from 29.09/08 18:43(just a few hours before the guarantee was issued and containing final advice by the investment bank to the Government) does not contain any endorsements of the Guarantee (or of any other singular option), despite being based on 26/09 presentation cited in the earlier quote.

But the email does say (p2): "There is no right or wrong answer [to strategic options available to the Gov]... preserving flexibility is key & solution may be different for each institution"

Does this advice sound like a call for a blanket guarantee on all debt holders?
Link: http://www.oireachtas.ie/viewdoc.asp?fn=/documents/Committees30thDail/PAC/Reports/DocumentsReGruarantee/document3.pdf

There are even deeper issues involved in Minister Lenihan's statement. One of the most troubling ones is why has the Minister summoned the advice of an investment bank that two weeks before the advice was sought (on September 14th) was taken over by Bank of America in questionable condition?

Congressional testimony by Bank of American CEO Kenneth Lewis, as well as internal emails released by the House Oversight Committee, indicate that Bank of America was pushed into the purchase of Merrill Lynch by the US regulators. BofA executives and board were, allegedly, threatened with the firings and were warned of "damaging the relationship between the bank and federal regulators". Full three weeks before Minister Lenihan engaged Merrill Lynch, the company was severely downgraded by its peers in the market (September 5 downgrade by Goldman Sachs is indicative of this and was public at the time).

However, the main issue that arises from Minister Lenihan's letter is that of the purpose of its existence in the first place. Is Minister saying that the Guarantee decision was the correct one? If so, why does he need the defense of being given such an advice? If no, what does his statement about Merrill Lynch advice really tells us? To say that Guarantee was issued because Government advisers said that it was the best option is equivalent to saying that poor weather forecasts has caused Titanic to sink.

Economics 1/8/10: Retail Sales data: to spin or not to spin?

The latest retail sales figures for Ireland highlight two interesting issues. One - deeply fundamental, another - deeply disturbing.

The first issue - the fundamental one - relates to the basic philosophy of 'reporting' the data. CSO's publication on RSI was headlined "Retail Sales volume index increases by 1.0%". The first paragraph of the 'analysis' reads (emphases are mine):

"The volume of retail sales (i.e. excluding price effects) increased by 1.0% in June 2010 when compared with June 2009 and there was a monthly decrease of 0.2%. If Motor Trades are excluded the volume of retail sales decreased by 1.3% in June 2010 when compared with June 2009 and the monthly change was -0.5%."

This, to me, as an example of the poor application of economics to what is essentially a purely economic data series. And it is also an example of poor statistical analysis. Here is why:

1. The series reported are monthly and seasonally adjusted. This means these series are first and foremost about monthly, not annual deviations (annual comparisons can be made unadusted for seasonal / monthly variations). Why does the CSO then elects to report an annual deviation headline?
2. The volume series of retail sales are secondary in importance to the value series. What matters to gauging the overall demand in economy is not the physical quantity of stuff traded, but the value of the sales. Imagine a situation whereby an economy is plagued by a recession (like Ireland). Country largest retailer goes out of business and has a firesale of its stocks. Suppose it sells lock stock and barrel in one month, but at a price of zero euros per item, i.e. it gives stuff away for free. What happens? Volume of sales goes up dramatically. Value of sales goes down. CSO records an increase in volume and reports a headline that implies demand is up, sales are up. Yet, economic impact of this transaction is nill. If anything, it shows that economy has no real demand underlying it. Exchequer returns are nill. Value of stuff sold is nill. Value of transactions is nill. Patient is as dead as it can be!
3. Monthly, not annual series show shorter term dynamics. And it is the dynamics of sales, not their absolute levels or longer term changes that should frame short-term policies, that are suited for a recession.
   

Of course, you might object, saying - hey, you should have read the first paragraph, mate. Not just the headline. Alas, our politicos making bullish noises about turnarounds can't be relied upon to do this much. "It's the good news, folks! Retail sales are up year on year".

CSO has more disturbing analysis presented in the latest release. Paragraph two, in fact, is about as manipulative, as the preceding text:

"A number of sectors showed year on year increases in June 2010, with the most
significant being: Motor Trades up 13.9%, Non Specialised stores up 1.4%, Clothing, Footwear and Textiles up 2.6%".

Now, let's take a look at CSO own data to decipher the spin in the above statement:

• Motor Trades up 13.9% yoy in volume, and 1.4% mom - good news (driven, as I've said before by a tax off-set for new cars - aka the scrappage scheme, and to a larger extent - by the vanity plates for 2010), but Motor Trades are up less significant 9.2% yoy in value and 1.3% in mom terms. So one might ask the question then - why is value of overall Motor Trades lagging behind the volume of these. Is it due to (a) rebates by the Government (VRT offset?) or (b) competition in the Motor Trade sector or (c) because people are buying lower quality, cheaper priced cars? CSO doesn't even attempt to provide an answer. My earlier analysis (here and here) suggests that all three might be at play. If so, Motor Trades figures for the entire 2010 are not exactly a shining example of economic turnaround.
• Non Specialised stores volumes up 1.4% yoy, but down 0.9% in mom terms. Values of these sales are down 3.5% yoy and 1.3% mom. Discounts, discounts, discounts. Selling cheaper doesn't really generate more economic activity, though it does benefit consumers. And this 'cheaper selling' in turn drives up not new demand, but induces a movement right along the same, recessionary demand curve. But wait, seasonally adjusted monthly changes are negative in value, which means that deflation is still there and demand for quantity is not exactly booming.
• Clothing, Footwear and Textiles up 2.6% in yoy volume terms. Really? Well, mom the same series are down 4.1%. In terms of value of Clothing, Footwear and Textiles sold in Ireland in June: yoy sales collapsed 8.1% and mom change was 4.1%. In a normal economy that should start ringing the 'Recession Alert' bells. In Ireland, for CSO this is bunched together with the aforementioned 'good news'.

Here is another good look at the CSO own data, not brought up to anyone's attention by CSO:

• All Businesses excl Motor Trades & Bars: Value down -1.3% mom and -3.9% yoy, Volume down -1.1% mom and -0.2% yoy. Some turnaround!
• All Bus. Excl. Motor Trades, Fuel & Bars: Value down -1.9% mom and -5.3% yoy, while Volume is down -1.1% mom and 0.3% yoy. No turnaround here either.
• Non-Food (Excl Motor Trades, Fuel & Bars): Value off -1.2% mom and -7.1% yoy, while Volume is off -1.7% mom and -0.6% yoy.
• Household Equipment (white goods stuff) Value down -3.1% mom and -6.3% yoy, Volume off by -2.6% mom and -0.1% yoy. Now, this category is important as white goods are subject to demand due to depreciation and new demand. We've had at least 2 years of collapsing demand for these goods, implying that things are so bad, people are reluctant to replace depreciated washers, dryers, dishwashers, fridges etc. Forget buying new jeans and coats...

So to do what I usually do on this blog - here are updated charts plotting actual data (no spin):
If you look closely at the last three months in the series, you can see continued deterioration pressures in both. But to highlight this trend - check out the chart below:
Monthly changes are now in the negative territory, and a positive annual volume bounce of the first quarter 2010 is about to be exhausted.

Removing motor trade:

Why wouldn't CSO just report data, plus charts and leave 'commentary' to others? At least they would be purely objective reporters of data, instead of playing the amateurish 'Spin Economics' commentators?