15/3/2013: IMF Assessment of the Euro Area Banking Sector Risks - part 4

This is the fourth post on today's release by the IMF of the 2013 Financial System Stability Assessment Report for European Union report, and probably last.

The first post - summarising top-line conclusion from the Technical Note on Progress with Bank Restructuring and Resolution in Europe is available here: http://trueeconomics.blogspot.ie/2013/03/1532013-imf-assessment-of-euro-area.html

The second post dealt with the Technical Note coverage of the Non-Performing Loans issues: http://trueeconomics.blogspot.ie/2013/03/1532013-imf-assessment-of-euro-area_15.html

The third part focused on the real economy side of the banking sector risks within the euro area: http://trueeconomics.blogspot.ie/2013/03/1532013-imf-assessment-of-euro-area_5878.html

And related Country Risk Survey study for Q1 2013 covering euro area banking sector risks is available here: http://trueeconomics.blogspot.ie/2013/03/1532013-irish-banks-still-second.html .


This note is focusing on the actual report itself: European Union: Financial Sector Stability Assessment.


Top-level assessment:

Per IMF: "Much has been achieved to address the recent financial crisis in Europe, but vulnerabilities remain and intensified efforts are needed across a wide front:

• "Bank balance sheet repair. Progress toward strong capital buffers needs to be secured and disclosures enhanced. To reinforce the process, selective asset quality reviews should be conducted by national authorities, coordinated at the EU level." [In Irish context, the real review should be carried out, imo, across the quality of capital claimed to be present on banks balance sheets. Rating agencies have highlighted the Ponzi-like risk scheme whereby contingent capital measures are provided by the Sovereign supports whereby neither the Sovereign, nor the banking system can actually sustain a call on capital of any appreciable volume. Asset quality reviews are also needed, as Irish banks are carrying large exposures to unsustainable and already defaulting mortgages.]
• "Fast and sustained progress toward an effective Single Supervisory Mechanism (SSM) and the banking union (BU). This is needed to anchor financial stability in the euro area (EA) and for ongoing crisis management. The European Stability Mechanism (ESM) is to take up its role to directly recapitalize banks as soon as the SSM becomes effective." [It is pretty much clear now that ESM is not going to be deployed unless significant pressure rises on Italy and/or Spain. In this context, calling for 'effective' ESM is like calling for a 'real' Santa Claus. Meanwhile, neither the SSM nor BU can be expected to become functional any time soon. The institutions behind both are yet to be defined, let alone fully legislated. And from legislation line, it's a long distance still to functionality.]

"Restoring financial stability in the EU has been a major challenge. The initial policy response to the crisis was handicapped by the absence of robust national, EU-wide and EA-wide crisis management frameworks. In a low-growth environment,
several EU countries are still struggling to regain competitiveness, fiscal sustainability, and sound private sector balance sheets. Their financial systems are facing funding pressures as a result of excessive leverage, risky business models, and an adverse feedback loop with sovereigns and the real economy."
[This is significant across a number of points. Firstly, in contrast to the European leadership claimed wisdom, the IMF clearly links banking crisis not just to sovereign crisis, but to the real economy, and these links follow not just balance sheet line, but the line of private sector debts. Secondly, the IMF clearly believes that private sector debt overhang is a core structural problem and has contagion implications across the entire system. EU leaders, even in countries heavily impacted by debt overhang, like Ireland, are solely obsessed with banks balance sheets (less) and sovereign finances (more).]

"Much has been done to address these challenges… Nevertheless, financial stability has not been assured. Recent Financial Sector Assessment Program (FSAP) assessments of individual EU member states have noted remaining vulnerabilities to:

• stresses and dislocations in wholesale funding markets; 
• a loss of market confidence in sovereign debt; 
• further downward movements in asset prices; and 
• downward shocks to growth." 

"These vulnerabilities are exacerbated by

• the high degree of concentration in the banking sector; 
• regulatory and policy uncertainty; and 
• the major gaps in the policy framework that still need to be filled."

"The SSM—while critically important––represents only one of a number of crucial steps that need to be taken to fill key gaps in the EU’s financial oversight framework.

• "As crisis tensions abate, it is important that the implicit unlimited sovereign guarantees in place for the last several years be effectively removed through affirmation and implementation of the principle that institutions with solvency problems must be resolved." [Note: in Ireland's case once again there is a departure from this principle - we are, simply put, not resolving insolvent institutions presence in the market. Instead, we are continuing to deleverage and consolidate the insolvent banking sector at the expense of its future viability and current borrowers and non-financial companies requiring credit. Resolving insolvency - especially after 4.5 years of supports - requires shutting down insolvent banks. That would de facto mean survival of the Bank of Ireland and significantly slimmed down AIB. And that's all. None else. We are far, far away from the Government even considering such an action, which means that the zombified banking sector will continue extract excessive rents out of stressed borrowers and businesses in this country for years to come all to dress up the banking sector 'stabilisation' whilst achieving no structural resolution of the crisis.]
• "The Single Resolution Mechanism (SRM) should become operational at around the same time as the SSM becomes effective. Resolution should aim to minimize costs to taxpayers, as well as to deposit insurance and resolution funds, without disrupting financial stability." [The sheer nonsense of this statement is exposed by the core EU authorities insistence that ESM will not apply retrospectively. In other words, the ESM will be a promise of a miracle cure to the dying patient contingent of the patient surviving for a number of years required to devise the cure. And the same applies to the last two points below.]
• "This should be accompanied by agreement on a time-bound roadmap to set up a single resolution authority, and common deposit guarantee scheme (DGS), with common backstops." 
• "Guidelines for the ESM to directly recapitalize banks need to be clarified as soon as possible, so that it becomes operational as soon as the SSM is effective."

So here you go, folks, per IMF, there's an ambulance to help the injured, but currently it exists only on the paper and even as such it is still pretty much unworkable. Good luck with setting up that triage, mates.

15/3/2013: IMF Assessment of the Euro Area Banking Sector Risks - part 3

This is the third post on today's release by the IMF of the 2013 Financial System Stability Assessment Report for European Union report.


The first post - summarising top-line conclusion from the Technical Note on Progress with Bank Restructuring and Resolution in Europe is available here: http://trueeconomics.blogspot.ie/2013/03/1532013-imf-assessment-of-euro-area.html

The second post dealt with the Technical Note coverage of the Non-Performing Loans issues: http://trueeconomics.blogspot.ie/2013/03/1532013-imf-assessment-of-euro-area_15.html

And related Euromoney Country Risk Survey study for Q1 2013 covering euro area banking sector risks is available here: http://trueeconomics.blogspot.ie/2013/03/1532013-irish-banks-still-second.html .

This note is focusing on the Technical Note on Financial Integration and Fragmentation in the European Union.


Let's start with a fascinating chart showing the sources of financing for the real economy in the EU compared to the US:

The scary bit here is the overall significant imbalances built in the system of financing in the EA17, compared to Denmark, and to the US:

• Thin bond markets across ALL euro area states
• Inexistent private credit markets
• Imbalanced over-reliance on bank credit
• In the case of Ireland, Netherlands, Spain, Cyprus, Portugal, Austria, Italy, Germany, Malta, Finland and Greece - mature markets were characterised with exceptionally thin or thin equity markets

And as chart below shows, euro area is also suffering from extreme over-concentration of the banking credit markets in the hands of the 'globally systemically important banks' (G-SIBs):

Per IMF: "The main EU banking systems are dominated by a set of globally systemically important banks (G-SIBs). These European G-SIBs have grown in size and importance and are highly interconnected with the rest of the global financial system (see Annex 1). Their assets more than tripled since 2000, amounting to US $27 trillion in 2010. As key players in global derivatives and cross-border interbank markets, they are also among the most interconnected GSIBs. European G-SIBs tend to be larger and more leveraged than their peers. In particular, they are very large relative to home country GDP, and in many EU countries, their size may dwarf the capacity of the home government to raise revenues."

Per footnote, this over-concentration is driven by the legacy models of banking in the euro area: "In part this is because European banks tend to follow the universal banking model, which combines a range of retail, corporate, and investment banking activities under one roof. There are some accounting differences that would make the balance sheets of the IFRS-reporting banks appear more “inflated” than the balance sheets of banks reporting under the U.S. GAAP (e.g., netting of derivative and other trading items is only rarely possible under IFRS, but netting is applied whenever counterparty netting agreements are in place under U.S. GAAP)."

Not surprisingly, banking sector stress directly links to the real economy and even more so to the sovereign positions:

And, within the real economy, the crisis is hitting the hardest the SMEs: "The deleveraging process raises concerns about a credit crunch that would particularly affect SMEs. SMEs in peripheral Europe are particularly hard hit by the deleveraging process, as deposit outflows and capital shortages at banks limit the availability and raise the cost of bank loans. Data from the European Commission and European Central Bank Survey on the Access to Finance of SMEs show that the availability of external finance from banks has decreased since 2009 while the demand for external finance has increased.

"However, there is much cross-country variation, with the availability of external finance having deteriorated markedly since 2009 in Greece and Ireland and having remained fairly stable in countries like Finland and Germany. Regression analysis suggests that the deterioration in the supply of credit to SMEs is partly driven by the financial dis-integration process, as measured by the decline in cross-border BIS claims."

Which, of course, is not surprising - Big Banks Dominance = Closer Links to the Governments and Big Business via the Social Partnership / Corporatist models for governance.

So, great stuff, Messr Kenny & Noonan - Irish banks (duopoly-modeled super-concentration with above average links to sovereigns and some of the most aggressive delveraging plans on the books within the EA17) offer as much hope of restarting lending to SMEs as that of sustaining viable rice growing industry in Sahara.


The next post will continue with my analysis of the IMF report and technical notes. Stay tuned for more later tonight.

15/3/2013: IMF Assessment of the Euro Area Banking Sector Risks - part 2

This is the second post on today's release by the IMF of the 2013 Financial System Stability Assessment Report for European Union report.

The first post - summarising top-line conclusion from the Technical Note on Progress with Bank Restructuring and Resolution in Europe is available here:


And related Euromoney Country Risk Survey study for Q1 2013 covering euro area banking sector risks is available here: http://trueeconomics.blogspot.ie/2013/03/1532013-irish-banks-still-second.html .

Some beef on the Non-Performing Loans (NPLs):

"NPLs in EU banks continue to rise, outpacing loan growth (Figure 4). Since 2007, loans to the economy have decreased by 3 percent while NPLs increased by almost 150 percent, i.e., €308 billion in absolute terms. And, this trend shows no sign of reversal, reflecting the continued macro deterioration in parts of the EU and the absence of restructuring."

"When NPLs remain on balance sheets, they absorb management capacity, and continued losses can weaken banks’ profitability. They can also foster forbearance, thereby deterring new investors by impairing transparency. In several countries, independent asset quality reviews and stress tests have facilitated a diagnosis of the quality of banks’ assets, supporting prospects for private recapitalization."

Per IMF note: NPLs have jumped from 2.6 percent in December 2007 to 8.4 percent of total loans in June 2012

Euro area periphery is worst-hit, for obvious reasons: "NPLs across EU banks differ largely, with those in the “peripheral” countries (Greece, Ireland, Italy, Portugal and Spain) witnessing the largest increases. For instance, from December 2007 to June 2012, the NPL ratio for Italy increased by 2.5 times, while in Spain, the increase was seven times (Figure 5). Ireland stands out with average NPLs of around 30 percent, followed by Hungary and Greece. However, definitions in this area remain non-harmonized and impair comparability across the EU".

Now, note that 'turned-the-corner' Ireland is in the league of its own when it comes to NPLs ratio to total loans. Taken to the average ratio of total loans to GDP, Irish NPLs must be absolutely stratospheric.


And now, onto IMF view of the NPL resolution processes in the euro area (again, italics are mine and all quotes are directly from the IMF note):

"Borrower restructuring needs to be facilitated, with legal hurdles lifted. The legal framework should facilitate the restructuring of NPLs and maximize asset recovery. In several EU countries, including Italy, Greece and Portugal, the IMF is involved in bankruptcy/insolvency law reform, including by introducing fast track restructuring tools and out-of-court restructuring process. For instance, repossession of the collateral backing a retail mortgage may take several years in Italy versus few months in Scandinavia and United Kingdom. The asset recovery process is also very prolonged in many EEE countries."

[Do note absence of IMF input in the case of Ireland and that is a general gist of the Note - it simply passes no assessment of the Irish personal insolvency regime 'reforms', which is strange given the prominence of these reforms and the fact that these are the first comprehensive reforms in the euro area periphery. Personally, I read this lack of analysis as the IMF reluctance to endorse the Irish Government approach to the NPLs resolution when it relates to mortgages.]

"An efficient framework for handling NPLs is key to rehabilitate viable borrowers and provide the exit of non-viable borrowers."

[Note the IMF emphasis on rehabilitating viable borrowers AND providing the exit for non-viable borrowers. These twin objectives strike contrast with the Irish Government approach to resolving the personal insolvencies and mortgages crises. Instead of rehabilitating viable borrowers, the Irish Government is pursuing an approach of giving the banks full power to avoid any writedowns of the loans, even when such writedowns can define the difference between rehabilitation and insolvency. When it comes to providing exit for non-viable borrowers, the Irish Government has adopted the approach of reforming the personal insolvency regime from 12 years bankruptcy duration to 3 years, but then extended the process of availing of the bankruptcy from few months to up to 3 years. The pre-bankruptcy period of up to 3 years under the new regime is a period during which the banks have full power to extract all resources out of the households with little protection for the household, in contrast with the previous bankruptcy regime. Thus, in terms of life-cycle financial health, Irish households going through the new reformed personal insolvency process are unlikely to gain any meaningful relief compared to the previous regime.]

"Active management of NPLs is needed. In principle, NPLs can either be:

1. retained and managed by banks themselves at appropriately written-down values, while the banks receive financial assistance from the government for recapitalization; or
2. relocated or sold to one or more decentralized “bad banks,” loan recovery companies, or Asset Management Companies (AMCs) that specialize in the management of impaired assets; 
3. sold to a centralized AMC set up for public policy purposes (possibly when the size of NPLs reaches systemic proportions)."

IMF also notes that: "The European Banking Coordination “Vienna” Initiative (2012) in a working group focused on NPL issues in Central, Eastern and Southeastern Europe. Recommendations, among others, focused on establishing a conducive legal framework for NPL resolution, removing tax impediments and regulatory obstacles, as well as enabling out-of-court settlements."


Stay tuned for the third and subsequent posts covering other technical notes released by the IMF.

15/3/2013: IMF Assessment of the Euro Area Banking Sector Risks - part 1

Today's releases of the horror flicks starring Irish financial sector are up and running, folks.

As noted in the previous note - premiering Q1 2013 article on euro area banking sector analysis from Euromoney Country Risk surveys (link: http://trueeconomics.blogspot.ie/2013/03/1532013-irish-banks-still-second.html) - the IMF has released today 2013 Financial System Stability Assessment Report for European Union report.


This is the first blog post on the report and associated technical papers, and it covers the Technical Note on Progress with Bank Restructuring and Resolution in Europe.


From the top-line conclusions by the IMF (all quotes marked, italics within quotes are mine):

1. "The European Union (EU) banking system restructuring is under way, but is far from complete. Some bank restructuring has started, and the level Tier 1 capital ratios of EU banks have been substantially increased."
2. "But system-wide, capital ratios have been met partly by deleveraging or recalibrations of the risk weights on activities."
3. "Consolidation in the banking sector has been slow, with banks rarely closed."
4. "Nonperforming loans are building up in banks’ balance sheets, and addiction to central bank liquidity remains high especially for banks in peripheral countries."
5. "Despite the EBA recapitalization exercise having led to €200 billion of new capital or reduction of capital needs by European banks, fresh capital is difficult to attract in an environment where prospects for profitability are uncertain."
6. "Several hurdles impair restructuring and resolution in Europe, and urgent progress needs to be made:

• "First, EU bank resolution tools need to be strengthened, aligning them with the Financial Stability Board Key Attributes for Effective Resolution. Fast adoption of the EU resolution directive is welcome, but enhancements are warranted. Swift transposition should follow." [We are still ages away from having any effective resolution tools and any sort of functional regulatory consolidation, let alone functional and effective supervisory consolidation.]
• "Second, restructuring of nonperforming loans (NPLs) should be facilitated [more on this below]. The legal framework should not slow down restructuring and maximize asset recovery. In several EU countries, such as Italy, Greece and in Eastern Europe, bankruptcy reforms lag behind in that, for instance, current practice does not allow the seizure of collateral in a reasonable timeframe. Banks should also manage more actively their NPLs, possibly allowing a market for distress assets to emerge in Europe." [Note the absence of Ireland in the list of laggards above. It is generally strange that the IMF is avoiding passing any judgement on the only case of actual reforms that has impacted only one of the peripheral countries.] 
• "Third, further evolution of the General Directorate for Competition’s (DG COMP) practices will be needed in systemic cases to ensure consistency with a country’s macro-financial framework and support viability of weak banks, recovery of market access, and credit provision. Increased transparency would give added credibility and accountability." [Again, we are ages away from delivering on these.]
• "Fourth, disclosure should be significantly enhanced and harmonized by the EBA, to restore market confidence. In particular, interpretable metrics regarding the quality of banks’ assets, in terms of NPLs, collateral, probability of defaults (PD) and loan recovery rates (LGD) are key for assessing the strength of banks and restoring confidence in the banking system." [see comment above]

Summary: what needs to be done is, largely, nowhere to be seen, yet...

Update:


And when it comes to much of hope of the forthcoming regulatory changes altering the status quo of the dysfunctional regulatory system, don't hold your breath, folks.

The Big Hope is on the forthcoming EU resolution directive aiming to create coordinated system of responses to any future structural financial crises. Here's IMF view on that one:

• First, polite stuff: "A critical new EU resolution directive is in preparation. As a national approach to resolution may well not be appropriate in the EU given the importance of cross-border banking, and the failure of existing cross-country coordination mechanisms, the European Commission (EC) has taken steps to harmonize and strengthen domestic resolution regimes. This should help avoid regulatory arbitrage and make orderly resolution effective and efficient for cross-border banks. In June 2012, the Commission issued a draft directive for harmonized crisis management and resolution framework in all EU countries. The Irish Presidency will make the adoption of the resolution framework a top priority and plans to adopt it during the first part of 2013. The new national resolution regimes endow EU countries with strong early intervention powers and resolution tools. The transposition of the directive into national laws should be accelerated relative to the current deadlines (01/2015, and 01/2018 for bail-ins)."

I wrote about this Directive recently (http://trueeconomics.blogspot.ie/2013/02/2422013-eus-banking-union-plan-can.html) and was not too enthusiastic. Alas, here's IMF's less pleasing assessment, although dressed up in polite language of 'suggestions':

• "Box 1. Proposed Resolution Directive––Risks and Areas for Enhancements

1. Resolution of banks is undermined by the absence of a more effective EU-wide framework to fund resolution. Binding mediation powers for the EBA and mutual borrowing arrangements between national funds face inherent constraints (in particular, the EBA cannot impinge on the fiscal responsibilities of EU member states).
2. Passage of the directive will substantially enhance the range of tools available to resolution agencies in the EU. But the scope of the directive should be widened to include systemic insurance companies and financial market infrastructures. The European Commission launched a consultation at the end of 2012 on this issue. All banks should be subject to the regime, without the possibility of ordinary corporate insolvency proceedings.
3. The breadth and timing of the triggers for resolution should be enhanced by providing the authority with sufficient flexibility to determine the non-viability of the financial institution (including breaches of liquidity requirements and other serious regulatory failings, not just capital/asset shortfalls). There should be provision for mandatory intervention in the event a specified solvency trigger is crossed.
4. The directive affords less flexibility for using certain resolution powers than the key attributes. For instance, it does not permit exercising the mandatory recapitalization power and the asset separation tool on a standalone basis. Also, bail-in safeguards should not prevent departure from pari passu treatment where necessary on grounds of financial stability or to maximize value for creditors as a whole.
5. Depositor preference should be established for insured depositors2, with the right of subrogation for the DGS."

Thus, to sum up the best-hope response of the EU - it is useless, largely toothless and predominantly weak. And to add to this - it will only be fully functions in 2018! You might as well think we live in a Natural History museum, where urgency of response is differentiated by months, rather than minutes.




Next post will cover the issue of Non-Performing Loans.

15/3/2013: Irish banks - still the second sickest of the sick euro area banking sector

In anticipation of the today's release (16:00 GMT) by the IMF of the 2013 Financial System Stability Assessment Report for European Union, Euromoney Country Risk analysts have published an interesting article Country Risk: Five years on, banks still inflict chronic pain on eurozone. Here are some of the very insightful charts - including an update on the previously covered banks stability scores (see here for January 2013 post and here for Q3 2012 data).

Let's start with the aforementioned chart on banks stability scores:

Pretty poor showing here for Ireland. Unlike the rest of the economy, we clearly have not 'decoupled' from the peripherals in terms of banking sector health and that is given:

1. Unprecedented and incomparable by the rest of the EZ standards levels of support for banks in Ireland;
2. Lack of any progress on mortgages crisis; and
3. Longer duration of the banking crisis in Ireland than in any other peripheral state.

We had the second weakest banking sector in the EZ throughout 2011-2012 and we still do. So much for the theory that Irish banks are 'lending into the economy' or 'have been repaired' and so much real support for the body of economic knowledge that says the deeper the debt overhang crisis, the longer and the deeper the required deleveraging crisis...

Now, something that shows that despite the consensus in Ireland and in the bonds markets, we are not quite due an upgrade as risks are still favouring continuation of the banking crisis (note, my view is that we are due an upgrade, but a single notch one, to reflect economic decoupling from the peripherals):

And the sovereign-banks links? Well, they are still there and still nasty for Ireland:

And here are few sobering words from the ECR:

"While some observers might still be convinced the worst of the banking crisis is over, the [Euromoney’s Country Risk] survey provides compelling evidence that bank stability risks are as concerning, if not worse now, for many European countries than at the beginning of last year, according to its contributing experts. More than five years on from the catastrophic events of 2007/08, the resolution of the region’s banking sector problems is still firmly at the top of policymakers’ to-do list, but with plans seemingly stalling, the implications of failing to act could prove critical."

Just in case you are in the 'green jersey' 'we've-turned-the-corner' camp, here's ECR quote putting Irish gains in the above scores into perspective:

"Across the eurozone, bank stability risks were unchanged last year in four countries – Austria, Belgium, Cyprus and Slovakia; with Cyprus the lowest of the group – and improved in four more: Malta, Italy, Ireland and Portugal. However, for the latter three, the rebounds were small and their scores remained at low levels of 5.5, 4.3 and 3.3 out of 10 respectively, illustrating heightened levels of risk."

So how bad are things in the euro periphery and in Ireland? Well:  "And the banks are just as problematic across the periphery. Taken as a whole, the seven riskiest eurozone countries (Greece, Portugal, Spain, Ireland, Italy, Cyprus and Slovenia) had an average bank stability score below that of most other regions, worse even than Mena or Latin America – see chart (below)." Keep in mind, that is for the average and Ireland is way worse than the average.

So next time you see Irish 'banks' adds claiming they are 'open for business' and 'doing our bit to help the economy' etc, just check these charts once again. They are, by all international comparatives, graveyard zombies, still holding this island at ransom.

14/03/2013: Irish Construction & Building Sector Activity 2012

Latest index for Irish Building and Construction Production volumes and value is out today, confirming what I wrote about on the foot of new planning permissions data (here), namely that Construction and Building sector continued to shrink in 2012 and there is little hope beyond some public spending projects uptick for the already devastated sector.

Top headline numbers for full year 2012 (these are imputed from Q1-Q4 2012 data):

• Value index for all production activity in Building and Construction sector declined from 25.9 in 2011 to 24.7 in 2012 (using base of 2005=100). This means all activity in value terms has hit another historical low for the series and is running at less than 1/2 of the level of activity in 2000 when the index was reading 53.5.
• 2012 was the sixth consecutive year of declines in the sector activity by value and volume. 
• Peak sector activity was registered in 2006 with index reading of 109.7, which implies a decline from peak through 2012 of 77.5% in value terms.
• Value sub-index for Building excluding Civil Engineering has dropped from 20.9 to 18.2 between 2011 and 2012 (decline of 12.8% y/y) and is down 83.2% on peak attained in 2006.
• Residential Building value sub-index is down to 8.6 in 2012 from 10.2 in 2011, marking a decline of 92% on peak (2006).
• Non-residential building sub-index for value is down to 55.2 from 61.7 in 2011 and is 53.9% below peak levels attained in 2008.
• Civil engineering value sub-index was up in 2012 to 66.0 from 58.6 in 2011 (+12.6% y/y) but is down 49.3% on peak attained back in 2007. 

Similar story is traceable across the volume of production indices.

Charts to illustrate (note, charts are referencing a different base - instead of 2005=100 these have been rebased to 2000=100 for more clear compounded effect illustration):

14/3/2013: Comment of the Appointment of the New Governor of the Bank of Russia

Surprise nomination of Elvira Nabiullina (economic policy adviser to President Putin) as the incoming Governor of the Bank Rossiyii (Bank of Russia) prompted some speculation as to what this all means for the CB interest rates policy. Ms Nabiullina will take her position in June, subject to the approval by Duma (Lower House of the Russian Parliament). Here are my comments to the Central Banker on the topic:

There is no doubt that Ms. Nabiullina is well suited for the job of the Governor of the Bank of Russia both in terms of her qualifications and her knowledge of the Russian economy, economic policy formation and, in particular, the fiscal aspects of the policies. Ms Nabiullina also brings to the table a longer-term reformist perspective on the Russian economy - a much welcomed development especially given the overall environment of moderating inflationary pressures, slower and more sustainable growth rates, lower reliance in growth on domestic consumption and credit, and relative successes in liberalising foreign exchange rates policies recently delivered by the Bank of Russia. 

Perhaps the only three potential critical points in which Ms Nabiullina's appointment can be considered at this time relate to her close connections to the current Administration and her lack of experience in monetary policy and economics, as well as her predominantly applied and policy-focused knowledge of economics. 

The first criticism, while warranting some caution, in my opinion is over-played at this time. Following the sharp correction in economy in 2009, Russian economic environment has improved significantly along structural trend. This suggests that previously present tensions between fiscal and monetary policies have dissipated, as evidenced by the overall successful (albeit still incomplete) execution of longer-term monetary policies objectives by the Bank of Russia in 2011-2012. I do not expect significant fiscal/monetary policy tensions to arise in 2013, allowing Ms Nabiullina sufficient time to establish her relative independence from the Executive branch of the Russian Government. One critical area of the policies overlap is in the area of increasing foreign investment inflows and here too, the Bank of Russia and the Executive branch are on the same page.

It is also worth noting that Bank of Russia core policy targets: reduced inflation and free float for the ruble are supported by virtually all political parties in the Duma and by the Executive branch of the Government. Lastly, completion of structural correction period in Russian banking sector is also politically popular and is unlikely to cause much of a rift with Ms Nabiullina's Governorship.

The second and third areas of criticisms are more important in my opinion. 

Bank of Russia is engaged in continued process of freeing ruble exchange rate regime while simultaneously pursuing the objective of reducing inflationary pressures in the economy extremely exposed to price volatility in oil and gas markets. It is worth noting that recent inflationary pressures in the economy were driven primarily by tariffs and strong ruble weighing on imports bills, including via household consumption. In the near term, I expect capex uplift to add to these pressures, offsetting moderation in consumption growth. Overall, however, longer-term inflation is abating and the wage inflation is likely to become the core driver of the monetary policy in H2 2013 and thereafter. This means that the job of the Governor in months to come will be technical in nature, rather than broad policy-based. Here, technical monetary skills are required.

Critical issue that Ms Nabiullina is likely to face once she takes over the reigns at the Bank of Russia is the overall tighter monetary policy space. With wage inflation and trade policy (trade balance) driven inflation, Bank of Russia simply lacks tools to reduce significantly inflationary pressures. Despite this, Bank of Russia, in my view, has managed to establish (over 2012) its rates policy as a credible tool for combatting core inflation. As the result, I expect Russian headline inflation to moderate from 6.9-7.1% in H1 2013 to 5.4-5.7% in H2 2013. If this trend is established in the next two-three months, we are likely to see Bank of Russia moving to ease the headline rate, starting with a relatively conservative move in Q2 2013 and possibly accelerating cuts toward the end of the year.

13/3/2013: IMHO press release on CBofI Mortgages Plan

Here is the IMHO press release on today's Central Bank announcement relating to mortgages arrears resolution. This sums up my views and views I agree with.

Press release

March 13th, 2013

Government and Central Bank mortgage plan throws borrowers to the wolves, says Irish Mortgage Holders Organisation

Today’s announcement that the Central Bank of Ireland will set targets for six major banks in relation to restructuring of mortgages in arrears is a sad extension of the failed policies of the past that have allowed Irish mortgages crisis to spin out of control and have resulted in total mortgages arrears of unprecedented proportions.

The latest plan lacks any prescriptive solutions and allows banks to determine the nature, the extent and the application of all solutions while setting the terms and conditions with out any supervision. The plan delivers no improvement in transparency of solutions to be offered to borrowers by the lenders and provides no protection for borrowers against potential abuses by the lenders of their powers.

While the review of the code of conduct is to be welcomed the review fails to deliver a meaningful improvement to the previous practices and does not allow for an effective protections for borrowers.

Mr Elderfield's statement claiming that the regulator intends to remove the current cap on number of times a bank is allowed to contact or call or visit a borrower ahead of the review of the code of conduct is very concerning. In our view, the central bank is underestimating the extent to which the banks are willing to go to pressure borrowers. It also pre-empts the actual review of the code of conduct for mortgage arrears..

The borrower is exposed and has been afforded no protection in this plan. The lenders are incentivized to maximize the rate of extraction of savings and income from the already distressed borrowers prior to completion of any long-term forbearance or restructuring agreements, thus reducing the effective relief that can be accorded the borrower in the end.

The net effect of this plan will be additional stress on mortgage holders and more power to banks without an appropriate safety net or independent arbitration for mortgage holders.

The Irish mortgages crisis, now into its sixth year, is still raging beyond any control of the authorities. Per latest figures from the Central Bank of Ireland, 186,785 mortgages (including BTL) in Ireland are at risk (in arrears, restructured or in repossession), accounting for an unprecedented 25.3% of all mortgage accounts still outstanding. The balance of mortgages at risk,  relative to the total balance of all mortgages outstanding has reached a catastrophic figure of 31.9%. With some 650,000-750,000 estimated people residing in the households with the principal residence in mortgages difficulties, we are witnessing a wholesale destruction of savings, pensions and wealth of several generations of Irish people.

State response to this crisis to-date has been woefully inadequate and erring on the side of the financial institutions. Today’s announcement offers no hope for any meaningful change in the ways Irish authorities treat ordinary borrowers in distress.

For further information contact:

David Hall

or

Constantin Gurdgiev

IMHO

13/3/2013: Irish-Russian Trade & Investment - The Moscow News

Report in Moscow News on Irish-Russian bilateral trade, investment links and current state of growth in economic links between Russia and Ireland:

themoscownews.com/business/20130311/191325204/Russia-and-Ireland-forge-trade-ties-in-busts-wake.html

11/3/2013: Irish Services Activity: January 2013

In an earlier post I covered annual figures for Services Index for Ireland (link here). Today's release from CSO also provides data for January 2013 (monthly series) and here is the detailed analysis of shorter-term series.

• Wholesale Trade activity index rose in January 10 118.8 from December 2012 level of 115.2 (+3.13% m/m). The index is down 1.49% y/y. 3mo average is at 117.23 up on previous 3mo average of 115.93, but down on 3mo average through January 2012 which stood at 120.47. 6mo average is 116.6 against previous 6mo average of 120.9 and a year ago 6mo average of 119.9. Thus, at 3mo average activity through January 2013 is slower than through January 2012. Ditto for 6mo average.
• Wholesale & Retail Trade, Repair of Motor Vehicles and Motorcycles activity index increased to 108.9 in January 2013 - up 1.02% m/m, but down 1.27% y/y. 3mo average through January 2013 is static compared to 3mo average through October 2012 and is down on 3mo average through January 2012. 6mo average through January 2013 is down on 6mo average through July 2012 and down on 6mo average through January 2012. Slowdown in the broader category, therefore, is more pronounced and stretched over the last 12 months than in Wholesale Trade alone.
• Transport & Storage services activity index dipped from 112.1 in December 2012 to 111.5 in January 2013, a decline of 0.54% m/m. However, the index is up 10.29% y/y. 3mo average is statistically indifferent in 3mo through January 2013 (111.3), as in 3 mo through October 2012 (111.9), but is significantly ahead of 3mo through January 2012 (101.2). 6mo average through January 2013 (111.62) is ahead of 6mo average through July 2012 and ahead of 6mo average through January 2012.
• Accommodation & Food services index declined in January 2013 to 103.5, down 1.33% m/m and marked second consecutive monthly decline. The index is up 2.38% in y/y terms. 3mo average through January 2013 is at 104.6, which is lower than 3mo average though October 2012 (105.63) but above 3mo average through January 2012 (101.6). On 6mo average basis activity through January 2013 was ahead of activity through July 2012 which itself was ahead of activity in 6 months through January 2012.
• Information & Communication services activity declined in January 2013 from 121.7 in December 2012 to 119.8 (decline of 1.56% m/m) although activity was strongly up (+11.76%) on January 2012. 3mo average through January 2013 was at 118.7, well above 3mo average through October 2012 (112.23) and 3mo average through January 2012 (108.43). Similar increases are traceable to 6mo averages.
• Professional, Scientific & Technical activities index rose to 90.2 in January from 89.4 in December 2012 (+0.89% m/m) although the index is down 1.85% y/y. 3mo average through January 2013 is at 90.53, ahead of 3mo average through October 2012 (87.83), but behind 3mo average through January 2012 (98.13). Similar dynamics can be traced across 6mo averages.
• Administrative & Support services index rose strongly from 100.7 in December 2012 to 104.2 in January 2013 (+3.48% m/m). The index is up incredible 19.63% y/y and I am at a loss as to how this can be explained given the current economic environment and fiscal consolidation. on 6mo average basis index is up from 91.88 average for 6mo through January 2012 to 102.63 average for 6mo through January 2013.

Charts to illustrate:

• Total services activity inched up to 107.9 in January 2013 from 107.7 in December 2012. Year on year, the index clocked a rise of 4.35%. 3mo average through January 2013 was at 107.57 - ahead of 3mo average a year before (105.73).

Despite these above improvements, overall services activity remains below the long-term recovery trend, albeit, owing to the strength of Wholesale Trade and ICT sectors (see the annual data analysis for these) and to the surprise uptick in Admin & Support services, the sector is tracing a shallow U-shaped recovery path so far. From January 2009, it took the index 16 months to hit the bottom, and we are 32 months into the recovery now, with still 1.55% to go (1.86% on 3mo average basis) before regaining January 2009 levels of activity. We will, barring unexpected events, close this gap in the next 2-3 months, but do keep in mind that January 2009 was already 1 year into contracting services activity in the first place.

11/3/2013: Property tax and the markets for property investment

The Irish Government is about to bring in a property tax covering only residential property and excluding land holdings. This is the market for real estate investment that the Government is about to hammer even more:

All permissions for new residential construction are down 87.6% in 2012 (based on estimated full year figure using actual data through Q3 2012) relative to peak. The levels are so low, we are at a historical low now and 2012 was down on 2011. Declines in permissions were recorded every year since 2008. For dwellings - full houses - planning permissions are down whooping 91.8% in 2012 compared to peak attained back in 2005!

Overall planning permissions are down 77.5% on peak. Again, historical series low in 2012 (based on estimate):

This is the same Government that has attempted to 'revive' the property markets via various tax breaks in 2011-2012. Talking about 'policy consistency' then...

11/3/2013: Irish Services Sectors Activity in 2012

Data for 2012 end of the year index of activity in Irish Services sectors is out and before I cover monthly data for January 2013, here are some annual results:

• Wholesale trade services activity expanded 4.03% in 2011-2012, after growing 14.2% in 2010-2011. In 2012 the sub-sector activity was up 31.6% on 2009 and up 18.8 on 2010 making this the fastest growing sub-sector in all Irish services since 2009.
• Wholesale and retail trade, repairs of motor vehicles and motorcycles sub-sector activity grew 2.24% in 2012 compared to 2011 after having expanded 7.2% in 2010-2011. Over 2009-2012 the sub-sector activity grew incredible 14.6% all of which was driven solely by growth in wholesale trade, offset by shrinkages in retail and other sub-sector activities.
• Transportation and storage sub-sector activity expanded 5.39% in 2011-2012 period, having grown at 3.8% in 2010-2011 period. Since 2009 through 2012 sub-sector activity shrunk by 1.88%.
• Accommodation and food services activities expanded at 2.27% in 2011-2012, following growth of 1.4% in 2010-2011 period. Between 2009 and the end of 2012, sub-sector activity was down 6.74%. Accommodation sub-sector alone grew 2.18% in 2011-2012 after posting growth of 5.4% in 2010-2011 and the index is on the aggregate still down 3.67% on 2009. Bizarrely, Food services activities grew since 2009 through 2012 at 1.76%, and this sub-sector posted expansion of 6.80% in 2011-2012 that followed growth of 2.9% in 2010-2011 period.
• Information and Communication sub-sector activity was the star of the show in 2011-2012, rising 8.40% on foot of 3.6% growth in 2010-2011. The sub-sector is now up 20.11% on 2009 making this the second fastest growing sub-sector in Irish services after Wholesale trade.
• Professional, scientific & technical activities sub-sector activity was the worst performing sub-sector in 2011-2012, shrinking 10.39%. This followed growth of 1.1% in 2010-2011. The sub-sector activity is now down 23.80% on 2009 making it overall the worst performing sub-sector, even worse than the Services (68, 92 to 96) sub-sector described below.
• Administrative and support services activity sub-sector clearly doesn't have much in common with the sub-sectors that usually require significant admin & support (e.g. professional, scientific and technical areas of activities) as it posted an robust growth rate of 7.54% in 2011-2012, albeit on foot of strong contraction of 7.2% in 2010-2011 period.The sub-sector activity is cumulatively up 2.67% on 2009. Either Irish exports are becoming more bureaucratised to warrant increases in Admin & supports, or there's some sort of substitution from shrinking public sector employment to temps and outsourced services. Otherwise, why on earth would an economy in a deep slowdown post growth in this category on 2009 figures?
• Services (68, 92 to 96) encompassing Real Estate activities, Gambling and betting activities and Other personal service activities were down 3.48% in 2011-2012, following virtually zero (+0.7%) expansion in 2010-2011. The grouping is down 19.67% on 2009 levels of activity.

Overall, for all services covered in the CSO data, sector growth clocked at 2.52% in 2011-2012 period, down from 3.3% growth in 2010-2011. Not a good sign, but better than posting negative growth, I guess. Compared to 2009, sector activity is up miserly 3.52%. And that is despite increases in R&D spending, massive hikes in availability of state-financed VC and angel investment (via Enterprise Ireland), big-time focus on incentives (including tax incentives) in 'key' sectors etc. Not exactly an achievement to brag about, but, again, could have been worse.

Here's another interesting chart:

As I mentioned above, Professional, scientific & technical activities sub-sector activity was down 23.80% on 2009 making it overall the worst performing sub-sector in all services sectors covered. Which isn't going well with the claims we keep hearing about our 'knowledge economy' and 'smart economy' and the rest of the hoopla surrounding branding like 'Innovation Island'. Looks like stripping ICT, there is not much of 'knowledge'-intensive trading going on out there. And we take out IFSC, the whole landscape of 'knowledge-based economy' might just as well start resembling a veritable desert? Instead, the 'traditional' (aka not 'smart' according to our Government policies priorities) wholesale trade is driving the sector activity, plus the 'smart' ICT sector.

And one last point. Here's the Services PMI data for Ireland for the period covered above in the index (see latest data here: http://trueeconomics.blogspot.ie/2013/03/533013-irish-services-pmis-february-2013.html) ...

Strange that a lift-off in PMI from ca 35 average in 2009 to 52 average in 2012 should be translating into only 3.5% increase in actual services activity, no? Sort of suggests something bizarre going on in PMI data, right? Hello, Markit!.. Station Earth paging...