28/9/2014: Euro area banks deposits: no sign of significant improvements

Courtesy of @cigolo - a nice chart summing up trends in deposits in Euro area banks from 2009 through Q2 2014:

Italy and Slovenia are two countries that managed to raise the deposit levels in their banking system from Q1 2009. Portugal suffered a decline in deposits off the peak, but stayed above 2009 levels. In every other country sampled, deposits fell from 2009 levels. Note: Ireland too suffered a decline in deposits and in fact, once we control for the reclassifications in deposits, the decline has been more dramatic than the one depicted in the chart (see details here: http://trueeconomics.blogspot.ie/2014/09/2792014-growth-just-not-in-irish.html).

Since the Cypriot bailout, and the introduction of bail-in clause for depositors, Euro area banks deposits stayed basically flat in Italy (with slight decline in trend) and Greece, rose in Slovenia, posted a shallow increase in Portugal, declined in Ireland and Spain, collapsed further in Cyprus. While there was no immediately obvious common trend, deposits pre-Cypriot bailout trend was disrupted or failed to improve in Italy, Slovenia, Cyprus, Portugal, Ireland, Spain and Greece despite numerous efforts to shore up the fallout from the bail-ins under the new systems set up for the European Banking Union.

So much for reformed banking sectors, then. Remember that funding in European banks should be shifting toward more reliance on 'organic' sources, e.g. deposits, than on interbank lending. We are yet to see this happening on any appreciable scale across the 'peripheral' economies.

27/9/2014: Growth... just not in Irish deposits...

Here's an interesting question: when economy grows, what happens with the household deposits? The right answer is: it depends on a couple of factors:

1. How long has economy been growing: if we have growth over a month or two, one can safely assume that households are using up cash to cover their short term debts accumulated over the course of the downturn. Indeed, Irish debts have been shrinking, not growing over the downturn - on aggregate - and growth has been ongoing for a long time now, at least in official accounts.
2. What type of growth we are seeing: if economy grows outside the household sector, e.g. via corporate profits that do not 'trickle down' into the real economy in higher wages, etc, then deposits will not follow growth, although this effect too should be short-lived.

So what happened so far with irish households? Here's a chart:

Since Q1 2011, when the current Government came to office and promptly declared yet another economic turnaround miracle, Irish household deposits are down EUR2.08 billion or 2.23%. Worse, household deposits have been running at a flat trend since mid-2011. 

Total private sector (excluding financial firms) deposits are currently only EUR1.289 billion ahead of Q1 2011 average - a miserly increase of just 1.13%. Given Irish firms and households are still pretty much abstaining from investing in the economy, this shows the current recovery to be almost entirely concentrated in the sectors that ship profits out of Ireland with the balance of domestic growth being fully consumed by the debt servicing and repayments. 

Ah, and do note that any talk about 'rising deposits' in Irish banks that we occasionally hear from our politicians is down to one thing: inclusion of the credit unions' deposits into Central Bank statistics. As shown above, absent that, deposits still remain near crisis-period lows: household deposits today are only 1.1% above their crisis period lows, while non-financial corporates deposits are 1.22% above their crisis period lows. And as of July 2014, Irish household deposits fell in 3 months in a row. Just as growth 'accelerated'. 

26/9/2014: BBC covering Irish Fintech sector

BBC cover of Irish fintech sector successes: http://www.bbc.com/news/business-29365484 with comments from a number of people, including myself.

Related: my speech at the Enterprise Ireland annual conference this week: http://trueeconomics.blogspot.ie/2014/09/2392014-ei-conference-domestically.html

26/9/2014: Some recent links on tax inversions

Some interesting recent articles on tax inversions and Irish role as a tax-conduit to tax havens:

US Treasury new rules tightening tax inversions: http://www.treasury.gov/press-center/press-releases/Pages/jl2645.aspx

And Irish reaction to these: http://businessetc.thejournal.ie/us-tax-inversions-ireland-1685263-Sep2014/?utm_source=twitter_self and here: http://www.irishtimes.com/business/economy/us-launches-crackdown-on-overseas-tax-avoidance-1.1938583

While markets broader impact here: http://www.reuters.com/article/2014/09/23/us-usa-tax-inversion-idUSKCN0HI1WK20140923?feedType=RSS&feedName=topNews&utm_source=twitter

Here is a more detailed discussion of the net impact of the new rules, mentioning so-called 'Levin solution' http://fortune.com/2014/09/24/the-treasurys-chicken-soup-take-on-tax-inversions/

And an earlier article from Arthur Cox solicitors on the benefits of inversions into Ireland and associated restrictions: http://www.arthurcox.com/wp-content/uploads/2014/07/April2014_SpotlightOn.pdf Hilariously, the above quotes: "Ireland is a popular country for inversions because of its favorable tax regime and extensive tax treaty network."

And an official response from Ireland to US tightening is 'not our problem': http://www.irishtimes.com/business/economy/kenny-defends-us-firms-irish-presence-1.1939192#.VCKA645RJ3A.twitter

You can track previous articles and posts on Ireland's role in global tax optimisation by searching this blog for "corporate tax". 

26/9/2014: FT on Land Value Taxes

FT runs lengthy discussion about the merits of the Land Value Tax http://www.ft.com/intl/cms/s/0/c92e084a-4300-11e4-8a43-00144feabdc0.html#axzz3EPmKklUV

These have been extensively covered in my paper on the subject here: http://papers.ssrn.com/sol3/papers.cfm?abstract_id=2047518 here: http://papers.ssrn.com/sol3/papers.cfm?abstract_id=2029519 and here: http://papers.ssrn.com/sol3/papers.cfm?abstract_id=2029515 as well as by Ronan Lyons here: http://smarttaxes.org/2012/01/30/ronan-lyons-report-on-site-value-tax-now-available/

26/9/2014: 'Cartoon Economics'? You bet...

Priceless is the best way to describe financial instrumentation antics of Irish Government.

The IMF loan early 'repayment' is really a re-financing. It has its good sides and no one argues it shouldn't be done (see here: http://trueeconomics.blogspot.ie/2014/09/992014-imf-loans-deal-can-be-win-win.html) but 'repayment' this is not.

Still more of the bizarre machinations were publicised today in an Irish Times piece: http://www.irishtimes.com/business/economy/move-on-anglo-debt-set-to-boost-exchequer-earnings-1.1942119#.VCUUnz_O6bw.twitter. The idea is that those Anglo/INBS/IBRC 'shut down' bonds that are being held in the Central Bank (with interest on them payable to the CB and thus recycled back to the State, implying zero cost financing of the bonds) can be sold at a rate faster than that required by the original schedule. Which, of course, means two things:

1. Selling these bonds today is likely to generate a capital gains return to the Exchequer, as Irish bonds are currently trading at lower yields than when issued, which means that the Government can sell these bonds and pocket the price difference over par.
2. But,... the proverbial but, once sold, the bonds ill be paying declared coupon (interest payments) of Euribor + 263 bps to their new holders, and not to the Central Bank. Which means that new interest payments will be an addition to the already hefty interest bill of the Government. What used to be 'free funding' prior to sale will become 'Euribor+263bps' funding after. 

There is an added caveat to all of this. If the Government spends the capital gains on anything other than reduction of debt, interest costs under above pricing become net costs. In effect, we will be funding a quick-fix-drug addiction with a credit card.

Back in 2013, after the Promo Notes deal, myself and others have cautioned as to the risks associated with accelerated sales of bonds. And now this risk is upon us. And beyond all of this looms the largest question of them all: These bonds were issued to cover Irish Government liability to the ECB (Eurosystem) arising from the nationalisation of Anglo and INBS (not nationalisation, per se, but from our state assuming all liabilities of the two failed banks and refusing to burn their bondholders). So, as we all know, Ireland 'took one on the chin' for Europe. 

A symmetric response from the ECB would have been to allow us hold these bonds in perpetuity, so no repayments need to be made at all. Instead, we created these bonds with an intent of selling every year a bit of this debt into the markets to generate cash to close the liability to the ECB (in other words, to raise money to burn money to appease ECB balancesheet exercise). This 'burning' of money means two things:

1. ECB gets accounting 'cancelation' of liability which has zero material impact on the Eurosystem regardless of whether it remains open or is closed; and
2. Irish taxpayers have to fund the debt sold - which means more real pain and suffering for taxpayers and people of Ireland.

With the new move, we are going to accelerate (1) and (2) above and the Irish Times is cheerleading this?! 

The Irish Times misses all of the above points in its article. But one man doesn't: Diarmuid O'Flynn:

As he said, this is 'cartoon economics'...

26/9/2014: Those Fabled Euro Area Structural Reforms: Greece, Spain, Portugal & Italy

EU Commission has published some interesting research on structural reforms in Italy, Spain, Portugal and Greece (strangely, no Ireland or Cyprus).

The full paper is available here: http://ec.europa.eu/economy_finance/publications/european_economy/2014/pdf/ee5_en.pdf

But here is an interesting set of charts, showing the effect of the said 'reforms' on the economies of these 'peripheral' states.

First chart shows employment growth against productivity growth in 2001-2008 and 2008-2013:

Above clearly shows that in two 'peripheral' countries covered, namely Portugal and Spain, productivity (as measured by value added per hour worked) rose during the crisis period, while the same fell in Greece and Italy. Productivity growth accelerated over the crisis period in Portugal and Spain and de-accelerated in Italy and literally fell off the cliff in Greece. And in all four economies, hours worked collapsed.

This all means two things:

• Firstly, jobs destruction failed to sustain growth in productivity in Italy and Greece (in other words, the two economies suffered jobs losses dispersed across all sectors of activity), while jobs destruction did sustain improved productivity for the remaining active workforce in Spain and Portugal (where jobs destruction was more concentrated in several domestic sectors, such as retail and construction). 
• Secondly, given that all four economies developed broadly similar 'structural reforms' packages, albeit with varying degree of implementation, the above suggests that the said reforms had zero-to-negative effect on economic performance in Italy and Greece, and potentially positive effect in Spain and Portugal. This is basically equivalent to saying that reforms overall effectiveness is not anchored in the structure of reforms, but is rather being driven by something else, something more idiosyncratic. Or, alternatively, that the reforms had no discernible effect whatsoever and instead nature of jobs destruction is driving differences in productivity growth.

The second chart shows annual trajectory in hours worked against productivity growth from 2008 through 2013.

Again, the above chart shows that in all four economies, relationship between productivity growth and employment is broadly negative. The diagonal line shows two segments of the chart: above the line, jobs destruction / creation effects are dominated by productivity growth effects. Below the line, the opposite takes place. So in a summary, the chart shows that the dominant driver in every economy as jobs destruction, not productivity growth. If structural reforms are of any significant help in driving productivity of workers, one would expect at least one of the economies to perform above the diagonal line. None do.

Quite surprisingly (or may be not) EU Commission offers an entirely opposite arguments on reforms efficacy. Even in the case of Greece - a country where both employment and productivity collapsed, the Commission paper argues that "Greece made a substantial adjustment in terms of employment while productivity stopped falling down". The folks in Commission believe that once the economy is completely exhausted on the downside, the lack of further declines is a sign of 'reforms-driven improvements'. This is about as crazy as cheering the fact that a lifeless body at the bottom of the empty pool is no longer falling.

Here is the Commission own guide to the above charts:

Do tell me which of the four countries locates in 'jobless growth' (early stage of reforms and structural changes working) area? Do note that other area of "Repositioning (growth less restructuring)" - which sounds exactly what it is: mindless demolition of jobs in hope that such a move can improve the remaining average. This is the best the 'periphery' has been able to achieve so far under the watchful eye of the EU Commission boffins.

26/9/2014: Eurocoin Signals Accelerating Fall in Economic Activity

Eurocoin, euro area leading growth indicator compiled by Banca d'Italia and CEPR has fallen again in September, indicating further slowdown in growth conditions:

• In August 2014 Eurocoin indicator stood at 0.19. In September, the indicator fell to 0.13 - its lowest reading in 12 months.
• Growth forecast consistent with current readings for Q3 2014 are in line with y/y euro area GDP growth of 0% (range between +0.1% and -0.1%).

As usual, updating my ECB Monetary Policy Dilemma chart:

The above shows the proverbial 'growth corner' for ECB: historically low interest rates and virtually zero growth signalled by the leading indicator.

Annualised growth rates are abysmal:

Per release: the latest decline reflects continued losses in consumer and business confidence, slowdown in exports and weakening of industrial production conditions. Those tracking my analysis for previous months would note that in the past Eurocoin was supported to the upside primarily by equity markets valuations. As predicted, these effects are now becoming exhausted and as the result we are witnessing rapid declines in the leading indicator.

25/9/2014: "We sit in the mud... and reach for the stars": ISIS and Western Policy

For the Laughs... or dead serious:

via @bill_easterly

Throw in Russia into the above equation and the 'mud' gets epic. Turgenev once said that "We sit in the mud... and reach for the stars"... it is clearly a permanent cloud cover in the US / Western politics... Or as Wislawa Szimborska wrote: "In every tragedy, an element of comedy is preserved. Comedy is just tragedy reversed."

25/9/2014: IMF Dished Out Some Bad News on Italy... here's a snapshot...

Recently IMF released Article IV consultation paper on Italy. I have missed posting this note for some days now due to extensive travel, so here it is, with slight delay.

A depressing read both in terms of current situation assessment and prospects for the medium term future. Which is hardly surprising.

Key struggles are, per IMF: "Exports have held steady, led by demand from non-EU countries, but investment continues to decline and remains 27 percent below pre-crisis levels."

 

Err… actually no… exports are still below pre-crisis levels by volumes, never mind price effects on value. Exports of goods and services grew by 6.2% in 2011, but then growth collapsed to 2.1% in 2012 and 0.1% in 2013. 2014 projected growth is for healthier 3.0%, and thereafter the Fund forecasts exports to continue expanding annually at just under 3.6% pa on average between 2015 and 2019. Which is handy, but not exactly 'booming'. And worse, net exports having grown by 1.5% and 2.6% in 2011 and 2012 have shown decline in the growth rates to 0.8% in 2013 and projected 0.5% in 2014. Thereafter, net contribution of external trade to GDP is forecast to grow at 0.4% in 2015 and 0.1% every year from 2016 through 2019. Again, this is weak, not strong. And keep in mind: GDP does not grow with Exports, it grows with Net Exports.

Fixed investment is, of course, still worse. In 2011 gross fixed capital formation shrunk 2.2%, followed by an outright collapse of 8% in 2012 and topped by a decline of 4.7% in 2013. Now, the Fund is projecting contraction of 1.1% in 2014, but return to growth in 2015 (+1.8%) and in 2016-2019 (average annual rate of expansion of ca 2.6%). Which means one simple thing: by the end of 2019, investment in Italy will still be 6.2% below the pre-crisis levels.

Now, the IMF can be entertaining all sorts of reforms and changes and structural adjustments, but there is one pesky problem in all of this: investment is something that the young(er) generations tend to do. And Italian young (people and firms) have no jobs and little churn in the marketplace to allow them grow, let alone invest. IMF notes low churn of firms… but misses the connection to investment. 

And, of course, it misses the Elephant in the proverbial Room: Italian families are settled with 30-40 year old sons and daughters still living on parental subsidies. Now, parents are heading for retirement (tighter cash flows) and retirement funds are heading for if not an outright bust, at least for gradual erosion in real value terms. What happens when retired parents can’t nurse their children’s gap between spending and earning?..

Things get uglier from there on. Not surprisingly, due to debt overhang already at play, credit supply remains poor and NPLs continue to strain banks balance sheets. This is holding back the entire domestic demand and is exacerbating already hefty fiscal disaster.

There is no life in the credit market and with this there is no life in the economy. Which, obviously, suggests that credit is the core source for growth. This is not that great when you consider that there are four broadly-speaking sources of investment (and capacity expansion):

1. Organic revenues growth (exports are barely growing, domestic consumption is dead, so that's out of the window);
2. Direct debt markets (bond markets for corporate paper, open basically only to the largest Italian corporates and no smaller firms access platforms in place, which means no real debt markets available to the economy at large);
3. Equity (forget this one - tightly held family firms just don't do equity, preferring to cut back on production) and
4. Banks credit (aka, debt, glorious debt).

Chart above shows the relationship between Financial Conditions Index (FCI) and economic growth. FCI breakdown is shown in chart below:

All of which confirms the above: improvements in the credit volume and credit standards are being chewed up by the ugly nominal rates charged in the banking system that is now performing worse (in terms of profitability) than its other Big Euro 4 + UK counterparts.

And the IMF notes that: "Financial conditions are closely correlated with growth and FCI shocks have a significant impact on growth. For example, a bivariate VAR under the identifying assumption that the FCI affects growth with a one-quarter lag suggests that a negative shock that raises real corporate lending rates by 260bps through a 200bps increase in nominal rates and a 60bps decline in inflation expectations (to 0.5 percent), would lower growth by a cumulative 0.4 percentage point over three quarters. As a reference, real rates have increased by around 300 bps since mid-2012." No sh*t Sherlocks, you don’t need VAR to tell you that growth in Europe = credit. It has been so since the creation of the Euro, and actually even before then.

Now, do the math: in 2013, Italian banks have posted profitability readings that are plain disastrous:

The swing between ROE for Italian banks and Spanish & French counterparts is now around 21 percentage points. While NPLs are still climbing:

But real lending rates are above those in France and below those in Spain:

Taken together, charts 4-6 show conclusively that nominal rates will have to rise AND deleveraging out of bad loans will have to either drag on for much longer, or worse (for the short run) accelerate. All of which means (back to the above IMF quote) continued drag from the financial sector on growth in quarters ahead. Everyone screams 'austerity' but really should be screaming 'deleveraging':

IMF notes: "The analysis suggests that measures to normalize corporate financial conditions would support a robust and sustained recovery, mainly through investment. Since bank lending rates account for the lion’s share of the tightening in the FCI, domestic and euro area measures to address financial fragmentation, mend corporate balance sheets, and strengthen banks’ capacity to lend would minimize the risk of a weak, creditless recovery."

This is all fine, but totally misses the problem: financial 'normalisation' in the above context is not about investment, but about investment via debt. And more debt is hardly a feasible undertaking for Italian firms and for Italian banks. Supply IS closer to demand that we think, because tight supply (banks deleveraging) is coincident with tight demand (once we control for the risks of poorly performing corporates seeking debt rollovers and refinancing).

And, of course, the IMF optimism for “domestic and euro area measures to address financial fragmentation, mend corporate balance sheets, and strengthen banks’ capacity to lend” capacity have just hit a major brick wall at the TLTROs placement last. As subsequent data showed, Italian banks just started re-loading their hoard of Government bonds instead of repairing the corporate credit system. Who could have imagined that happening, eh?

25/9/2014: Forecasting 2015-2016 Growth in the Euro Area: Pictet

Pictet's latest euro area forecasts for 2015-2016 show the full extent of the expected trend slowdown in growth (see details here: http://perspectives.pictet.com/2014/09/25/euro-area-gloomy-sentiment-threatens-recovery-hopes/)

Even dreaming up sustainable steady growth in 2015-2016, forecast growth rates are seen at around 1.5% pa on average, well out of line with the 'Golden' period of the euro so far, the H2 2003-H2 2007.  In other words, in 16 years of euro's existence, 45 quarters (or just over 11 years) is now expected to be associated with below 2% growth rates. Run by me again that tale of the 'European Century'?.. 

25/9/2014: Irish Property Prices: Scary Dynamics in Dublin, Relative Slumber Elsewhere

Latest Residential Property Prices Index for August 2014 continues to point to the same trends and risks as in previous months.

Firstly, historical level of current price levels: Measured in quarterly terms, Q3 2014 data through August 2014 points to Dublin index reading of 77.95 against 72 in Q2 2014 which brings index to the levels last seen in Q3 2010.

As dramatic as the increase from crisis period trough might appear, the series still well below where long-term activity should be, as seen in the chart below:

However, rate of price increases remains of concern in Dublin market. In August 2014, residential property prices across the nation rose 14.93% y/y, the fastest y/y growth rate since October 2006. Nationally, house prices rose 14.61% y/y in August, marking the fastest rate of increase since March 2007. Apartments prices rose 24% y/y in August 2014, marking the fastest rate of increase on record and beating previous historical high attained in July 2014.

All of this activity was down to Dublin price hikes. Excluding Dublin, property prices rose more modest 5.63% y/y in August. House prices rose 5.80% once Dublin is excluded.

Meanwhile, Dublin property prices were up 25.08% y/y in August, marking thirteenth consecutive month of double-digit y/y inflation. Dublin house prices rose 24.7% y/y in August 2014, also marking thirteenth consecutive month of double-digit y/y prices growth. Dublin apartments posted price growth of 32.63% y/y in August, for the fourteenth consecutive month of double-digit expansion.

Compare the above chart for Dublin with the same for ex-Dublin:

Over the last 24 months, cumulated growth in national residential property prices was 16.02%, with house prices rising cumulatively by 15.34% and apartments prices up 32.2%. Outside Dublin, all properties prices were up more modest 2.89% in cumulative terms over the last 24 months and house prices were up 3.11%. In Dublin, residential property prices were up 38.39% over the last 24 months, which is 13.3 times faster than ex-Dublin. Dublin house prices grew 12.2 times faster than ex-Dublin house prices, at a 24 months cumulative rate of 37.83%. Dublin apartments prices rose 46.09% in 24 months through August 2014.

So as before: there are very worrying signs in price increases in Dublin, albeit levels of prices still remain subdued compared to both historical trend and inflation-driven trend. In other words, be scared of the speed of price increases, but not of the levels of prices so far.