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No cryptocurrency has any purpose other than to hide or launder dirty money

May 26, 2021

I am not sure how I got onto their lists but I have lately been getting many calls from telephone-marketeers trying to get me to invest in cryptocurrencies. I had rejected investing in these a few years ago but thought I would revisit the scene. It worries me that so many “financial journalists” put out stories in praise of cryptocurrencies which defy common sense. They often use jargon to try and hide the lack of substance in their stories. I would not be at all surprised to find that they are being paid for their advertising efforts. 

No matter. My conclusion remains the same now as then. Don’t bother to buy into cryptocurrencies.

Economics 101 (another label for common sense) tells us that money is an intangible representation of wealth while a currency is a quantifiable manifestation of money. It used to be that currency was always some physical thing. Any thing – with the emphasis on thing – could be used as a currency. It could be gold or cigarettes or bits of metal or pieces of specially printed paper. Nowadays, the thing can even be abstract as a record in an accounting book or a computer. The purpose of any currency is only as a medium of trade. It’s stability as a medium of trade depends upon the stability of the issuing authority. When that authority is a state or government, the stability then depends upon the strength of the economy propping up that state or government. Here in Sweden, which has almost become cashless, my money is held as electronic records at a number of banks and financial institutions. It is already almost entirely digital and in the last 12 months (albeit corona restricted) I have used cash on just two occasions (once for ice cream and once for private parking in a field). My digital monies are fairly transparent to the institutions holding the records and to the state authorities (tax authority) who have legal access to certain information. The security of my wealth, and my ownership of that wealth, are entirely dependent upon the stability of the government and the legal system in place. 

Now consider cryptocurrencies. Bear in mind that almost every currency today is already essentially digital. There are many financial journalists and other shady characters who write about the advantages of such and they fantasise about the high purposes of these schemes. But every cryptocurrency is fundamentally designed to hide wealth, hide transactions and to provide a channel for laundering dirty money. The value of any such currency is not grounded on anything more than supply and availability of itself. There is no legally accountable body or institution responsible for holding deposits of the currency. It is claimed that cryptocurrencies have many advantages over regular currencies, such as:

  • Freedom and autonomy for the user
  • Complete confidentiality
  • No or low banking fees
  • accessibility
  • decentralised….

The “freedom and autonomy” they offer is to make clandestine payments (usually for prohibited goods or services) without regulation. For regular, lawful payments they provide no advantage whatsoever, and add a great deal of risk. For clandestine payments they reduce the risk of disclosure even if the currency-value risk remains high. The “confidentiality” claimed is a euphemism for “hidden from regulatory scrutiny”. The advantage is of value only for illegal transactions. There are always fees involved though nominally they are low. However the exposure to value fluctuations is total and cannot be hedged. The touted accessibility is no different to that in any regular, on-line banking system. Claiming “decentralised” as an advantage is entirely a PR invention. What is truly decentralised (and therefore absent) is any kind of accountability.

A cryptocurrency is not real money. It is, to be precise, a virtual, on-line claim to be money. The amount of the currency held is represented by an encrypted token. In theory the amount represented by the token can be used for a transaction with a new token representing the new value of the holding. The token can be “sold” at whatever value a buyer is prepared to pay in some other regular currency for that token. It has no other inherent value than what a buyer is prepared to pay. The value is open to heavy manipulation. There is no guarantee of convertibility. 

Cryptocurrencies do not provide a more convenient medium for trade than conventional currencies, except for those wishing primarily to trade dirty money for dirty goods and services. They are not more digital than regular currencies. Drugs, stolen goods and hit contracts are obvious examples of trade facilitated by a cryptocurrency. Certainly they provide a means of hiding wealth away from prying regulatory eyes but at the cost of an increased risk on the value of that wealth. They provide a channel for secret transactions, without any regulatory oversight, across country boundaries. Of course, they are not without the risk of that wealth not being convertible to anything. 

In my layman’s view, cryptocurrencies are designed primarily for hiding money and to facilitate unlawful transactions in secret. In fact, I would suggest that all cryptocurrency transactions be treated as suspect. Naturally all those holding cryptocurrencies should be tagged as potential law-breakers!

I will not be buying any Bitcoins anytime soon.

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Market Sell-Off! Corona Crash! But there can only be sellers if others buy

March 13, 2020

Markets have crashed globally.

The value of stocks has tanked and unrealized wealth has vanished.

“Poof”.

Just like that, your portfolio may soon be worth half of what it was just 10 days ago.

But even in the worst market sell-off, there have to be buyers prepared to buy what sellers will divest.

Warren Buffet’s much quoted line comes to mind:

“Be fearful when others are greedy, and be greedy when others are fearful” 

I found this text about the Great 1929 Depression on my computer which I probably saved after the 2008/9 crash. Unfortunately I no longer have the author or the source. It does seem correct. Certainly more millionaires were created by the Depression than were destroyed.

Not everyone suffered during the Great Depression. More people became millionaires during this time than in any other time in American history. Opportunities, that were not present during the 1920s economic boom times, suddenly became available. An economic downturn is a good time to start a business. Start-up costs are much lower in a recession than in boom periods. Savvy entrepreneurs edged in and positioned themselves for when the economic climate improved. Many poorly run businesses closed during the Depression years and their equipment and assets could be bought at fireside sales for next to nothing. Commercial rents were cheap and wages were low. There was also time to get the business fundamentals right before increased orders made it too hectic for the entrepreneur to build and test his business model. It was these ‘if you can dream it, you can do it’ Great Depression entrepreneurs that made the best of the crisis to provide a service, or product, for new markets.

Who were some of these maverick entrepreneurs? Some very famous names made their money during the Depression era. In Kentucky, a grandfather, called Colonel Sanders, started serving fried chicken at his gas station. By 1937 he had expended to a 142 seat restaurant due to popular demand. Two young electrical engineering graduates stared a electrical machine business in a rented garage during the 1930s. Bill Hewlett and Dave Packard officially became business partners in 1939 with only $538 in investment money.

Many people with small amounts of liquid cash were able to buy bankrupt businesses at bargain prices. Towards the end of the 1930s some business people watched the upsurge in military spending by some countries. The world was preparing for war and those that invested in companies that made in-demand products for the government stood to make lots of money. Companies dealing with shipping, military vehicles, textiles (for uniforms, tents, etc.), metals (copper, steel, aluminum and iron), shipping and petroleum products made a fortune. Well known companies that were bought at this time were John Deere, Reynolds Metals and Douglas Aircraft. 

Another huge opportunity was real estate. During the Depression years, demand was low and thus prices were low as well. Visionary business people knew that real estate values would go up in the future and when they did they used the equity to leverage their business growth and expansions. Those wise folk that were not caught up in the stock market frenzy in the 1920s, and saved their cash, were well positioned to snap up bargain businesses and became millionaires as a result.

There will be winners coming out of the Corona-Depression.

Not everybody who buys will be a winner, but all the Corona Crash winners will be buyers.

Most of those who sell now will be among the losers.

 

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Language follows economy: 150 years of US/English hegemony

June 25, 2017

The domination of English as a world language probably begins only about 200 years ago and 1820 is as good a starting time as any.

Language influence, I would suggest, follows economic influence. The predominance of English today is merely a consequence of growth and spread of the English speaking economies. And the role of the US has been decisive in the last 150 years. The Latin of 2,000 years ago which had gained dominance in Europe died during the dark ages, evolved into Italian at home and was replaced by a plethora of local dialects in the rest of Europe. Latin was possibly the first ever which could be considered a “world language”. As a language of international communication it was probably preceded by Greek and Egyptian before that. Perhaps Arabic came close to being an international language during the Middle Ages. As European countries colonised the Americas and parts of Asia, they took their local languages with them. But the key for English was that North America adopted English rather than Spanish (or French or German). The US does not formally have an official language but English is the de facto national language. (According to legend German came close to being adopted in Pennsylvania in 1794).

There is no official language at the U.S. federal level. However, 32 states of the United States … have adopted legislation granting official status to English. Out of 50 states, 30 have established English as the only official language, while Hawaii recognizes both English and Hawaiian as official and Alaska has made some 20 Native languages official, along with English.

…… American schools, public as well as private, require English classes at every grade level, even in bilingual or dual-language learning. Semesters of English composition are required in virtually all U.S. colleges and universities to satisfy associate’s and bachelor’s degree requirements. – Wikipedia

Harald Haarmann writes in his Mosaic of Languages:

Europe has far exceeded all other continents regarding the export of languages. There is no other continent from which so many languages have been spread around the world, taking root elsewhere in the world and giving rise to global language communities. Most world languages, i.e. languages with global communicative functions, are European in origin and belong to the Indo-European family of languages. The result of this language export from the 15th century onward is a vast increase in the numbers of speakers. Today, the majority of speakers of languages such as English, Spanish, Portuguese and French live in regions outside of Europe. The proportion of speakers in Europe compared to those in other continents varies considerably between the individual languages:

German and Russian are Europe-centred, with the vast majority of speakers of these languages living in Europe. Languages such as Portuguese, English and Spanish, on the other hand, have far more speakers overseas, and the speakers in the countries of origin constitute a minority of the total number of speakers.

The spread of language cannot be divorced from economic well-being. Angus Maddison’s important work on historical GDP’s is insightful and fascinating. In his Millenial Perspective of the World Economy he begins:

Maddison world economy Vol 1

Over the past millennium, world population rose 22–fold. Per capita income increased 13–fold, world GDP nearly 300–fold. This contrasts sharply with the preceding millennium, when world population grew by only a sixth, and there was no advance in per capita income. From the year 1000 to 1820 the advance in per capita income was a slow crawl — the world average rose about 50 per cent. Most of the growth went to accommodate a fourfold increase in population. Since 1820, world development has been much more dynamic. Per capita income rose more than eightfold, population more than fivefold. Per capita income growth is not the only indicator of welfare. Over the long run, there has been a dramatic increase in life expectation. In the year 1000, the average infant could expect to live about 24 years. A third would die in the first year of life, hunger and epidemic disease would ravage the survivors. There was an almost imperceptible rise up to 1820, mainly in Western Europe. Most of the improvement has occurred since then. Now the average infant can expect to survive 66 years. The growth process was uneven in space as well as time. The rise in life expectation and income has been most rapid in Western Europe, North America, Australasia and Japan. By 1820, this group had forged ahead to an income level twice that in the rest of the world. By 1998, the gap was 7:1. Between the United States (the present world leader) and Africa (the poorest region) the gap is now 20:1. This gap is still widening. Divergence is dominant but not inexorable. In the past half century, resurgent Asian countries have demonstrated that an important degree of catch–up is feasible. Nevertheless world economic growth has slowed substantially since 1973, and the Asian advance has been offset by stagnation or retrogression elsewhere.

What he writes about population and income applies as well to language

Advances in population and income over the past millennium have been sustained by three interactive processes:
a) Conquest or settlement of relatively empty areas which had fertile land, new biological resources, or a potential to accommodate transfers of population, crops and livestock;
b) international trade and capital movements;
c) technological and institutional innovation.

I would suggest that the spread of English during the colonial expansion (say 1650 – 1850), immediately followed by the economic dominance of the English-speaking US (1870 – present), led to English happening to be the dominant language at just the right time during the explosion of Maddison’s period of technological and institutional innovation. It is being adopted as the language of science and engineering and innovation which has given English the decisive penetration it now has.

World GDP by country 1 – 2008AD (Maddison)

The US became the country with the largest GDP in about 1872. By 1918 (after World War 1) the US economy exceeded that of the UK, France and Germany combined. By 1942 the US economy was larger than that of all of Western Europe. China and India are rising though their per capita GDP is diluted by their large populations.

GDP rising

Within 10 – 20 years the Chinese economy will be significantly larger than that of the United States.

GDP 2030 projection

The question is whether another language will replace English, in time, to reflect the economic realities of the age. I suspect it will not happen for another 200 years – if ever. The position of English as the language of innovation and science and now as the language of the internet presents an inertial barrier that even Mandarin Chinese may not be able to overcome. Hindi and Tamil are the only Indian languages that could even be remotely considered, but either becoming a dominating language is in the realm of fantasy. It is the same type of inertial barrier which will also keep English predominant in Europe, even after BREXIT. In fact, English may have an added strength in a Europe without the UK, as a non-French, non-German, “neutral” language. There are those who name Spanish or Arabic as potential world languages but I find the case for them replacing English less than convincing. The adoption of Spanish would require that the economies of South and Central America (without Brazil but including Mexico) become dominant in the global economy and that is a very remote possibility. German and Russian are too Euro-centric to be considered. The case for French rests entirely – and implausibly – on the economic dominance of France and French-speaking Africa.

Unless the world shifts from the economic growth model that has served us for over 8,000 years (at least) – and I cannot imagine what that paradigm shift could be – I cannot see any language replacing an English (which will of course mutate and change and evolve) as the dominant world language for at least a few hundred years.

 

 

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Indian Budget today – Economic Survey published

February 1, 2017

The Indian budget will be presented today and the annual Indian Economic Survey (which forms the basis for the budget) is also out. The Economic Survey is the responsibility of the Chief Economic Adviser to the GoI (this year Arvind Subramanian).

india-economic-survey-2016-17

The budget itself is expected to be mildly expansionist (especially after the jolting brake applied to the economy by the demonetisation circus of the last few months). Certainly some black money was removed from the system but this may be a one-off affair. Certainly, from the anecdotes I hear, the generation of “new” black money has not been slow to start. Maybe demonetisation will have to become an annual affair – or a regular occurrence every so often. But, no doubt, India has made a step-change in the level of electronic transactions being used. It has also brought a huge number of people into the banking system. One of the main concerns for the government is that the cash economy has allowed so many to remain invisible and completely outside the tax base. Considering that only 7 of every hundred voters is even registered for tax, it was imperative for the government to reduce the huge number of the tax-invisible. This they probably have done.

The Economic Survey itself highlights “8 interesting facts”:

  1. Indians on The Move – New estimates based on railway passenger traffic data reveal annual work-related migration of about 9 million people, almost double what the 2011 Census suggests.
  2. Biases in Perception – China’s credit rating was upgraded from A+ to AA- in December 2010 while India’s has remained unchanged at BBB-. From 2009 to 2015, China’s credit-to-GDP soared from about 142 percent to 205 percent and its growth decelerated. The contrast with India’s indicators is striking.
  3. New Evidence on Weak Targeting of Social Programs – Welfare spending in India suffers from misallocation: as the pair of charts show, the districts with the most poor (in red on the left) are the ones that suffer from the greatest shortfall of funds (in red on the right) in social programs. The districts accounting for the poorest 40% receive 29% of the total funding.
  4. Political Democracy but Fiscal Democracy? – India has 7 taxpayers for every 100 voters ranking us 13th amongst 18 of our democratic G-20 peers.
  5. India’s Distinctive Demographic Dividend – India’s share of working age to non-working age population will peak later and at a lower level than that for other countries but last longer. The peak of the growth boost due to the demographic dividend is fast approaching, with peninsular states peaking soon and the hinterland states peaking much later.
  6. India Trades More Than China and a Lot Within Itself – As of 2011, India’s openness – measured as the ratio of trade in goods and services to GDP has far overtaken China’s, a country famed for using trade as an engine of growth. India’s internal trade to GDP is also comparable to that of other large countries and very different from the caricature of a barrier-riddled economy.
  7. Divergence within India, Big Time – Spatial dispersion in income is still rising in India in the last decade (2004-14), unlike the rest of the world and even China. That is, despite more porous borders within India than between countries internationally, the forces of “convergence” have been elusive.
  8. Property Tax Potential Unexploited – Evidence from satellite data indicates that Bengaluru and Jaipur collect only between 5% to 20% of their potential property taxes.

Trade IES 2016-17

Trade IES 2016-17

 

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Fake economics at the Bank of England

January 6, 2017

Not just fake news. There is also quite a lot of fake science around and there always has been fake economics. Ancient alchemists had more rigour and integrity than many economists today. What characterises fake science and fake economics is that they start with a “politically correct” result and then “generate” the science (by cherry picking, ignoring inconvenient data and even fakery) as proof.

I have long thought that economics is  a “black art” and if anything a social study and a long way from being a science. Much of the status economics enjoys as a discipline is due to the existence of a Nobel prize (which was not wanted or instituted by Alfred Nobel himself). It was something dreamed up by the Swedish Central Bank to elevate the status of their own charlatans. Economists are usually very good at making hindcasts and developing theories about what has just happened but are remarkably useless in making forecasts. There is no economic theory that does not contain a large measure of political or religious advocacy.

The Bank of England economists who made dire predictions about the consequences of Brexit are now desperately trying to justify why they made such utter fools of themselves. But it has been the same with IMF and World Bank, EU and UN economists. Excellent at hindcasts and useless at forecasts.

The Telegraph: 

The Bank of England has admitted its dire warnings of a downturn in the wake of the Brexit vote were a “Michael Fish” moment and said that the economics profession was now in “crisis”.

Andy Haldane, the Bank of England’s chief economist, said there was a “disconnect” between political warnings about Brexit and the “remarkably placid” state of the markets, adding that the worst predictions may turn out to be “just scare stories”.

He made the concession as new figures suggested Britain was the fastest growing of all advanced economies last year after the services sector defied gloomy forecasts to hit a 17-month high. 

The FTSE 100, the index of Britain’s biggest companies, closed on a record high for the sixth time in a row on Thursday – the longest run for 20 years.

At an event at the Institute for Government in London, Mr Haldane said that criticism of economists was a “fair cop” after they failed to predict the financial crisis and were wrong about the impact of the Brexit vote.

He compared their performance to Mr Fish’s infamous weather forecast in October 1987, in which he dismissed warnings that a hurricane was “on the way” but noted there could be high winds in Spain. 

Mr Haldane said: “Let’s go back to a different crisis, the crisis not in economic forecasting but weather forecasting. Michael Fish getting up: ‘Someone’s called me, there’s no hurricane coming but it will be windy in Spain.’

“It is very similar to the sort of reports central banks issued pre-crisis, that there is no hurricane coming but it might be very windy in sub-prime.”

When it was put to him that the Bank of England had forecast a “hurricane” after the Brexit vote which had not materialised, Mr Haldane replied: “It’s true, and again fair cop.” …… He said: “Right now there is a very interesting disconnect between what we read in the papers about the degree of political and policy uncertainty, which by any historical metric is at high levels, and what we have seen from the economy and financial markets, which have actually been remarkably placid. That disconnect cannot last forever. There will need to be a reconciliation between the two … Maybe some of the scarier stories politically will be seen to be just that – scare stories. ”

Economists have claimed to be “experts” but have failed to be of real use more often than not:

Economics Has Failed America

There are “positive” questions in economics that have mathematical answers — things that simply must be true — and then there are “normative” questions that amount to value judgments on points of policy. In economics classes, we teach the former and usually stop short when faced with the latter. This leaves a hole in any discussion of economic policy; students acquire first principles but rarely consider real-world applications, because to do so would presuppose a social or political point of view.

In the case of free trade and globalization, this omission has been disastrous. All first-year students of economics learn the theory of comparative advantage and gains from trade. They see a mathematical proof showing that when two countries trade goods or services, the benefits to the winners outweigh the costs to the losers. They are assured, correctly, that this result allows everyone to be made better off — or at least no worse off — by trade.

Yet the redistribution required to generate this broad improvement in living standards is hardly addressed, or sometimes even mentioned.

I can’t quite remember what set me off then, but I posted this rant some 3 years ago:

Economists are – by and large – religious or political advocates

A recent article …. got me to wondering why “Economists” and “Economics” – in spite of their gross and sometimes spectacular failures – have the high status they do. I come to the conclusion that “Economists” are – by and large – just religious or political advocates and “Economics” is no more than a study of social behaviour. …..

The practice of the black-magic that is considered economics – for it is certainly no science in the Popper sense – gets much of its cloak of respectability from the fact that the Nobel Prize exists (more correctly the Sveriges Riksbank Prize in Economic Sciences in Memory of Alfred Nobel).  

The Nobel prize in Economics should never have been created. In fact Nobel never wanted one and he is probably spinning in his grave as prize winners, one after another, prove – at best – to be mere historians and – at worst – religious or political zealots.  The prize adds more stature to the discipline of economics than it deserves. Almost every economic theorist has developed wonderful hindcasts but few – if any – have produced theories which can consistently make correct forecasts. …..

The political advocacy which is inherent in the theses promoted by Nobel Economics laureates have led to spectacular failures. Milton Friedman and his rabid monetarism gave rise to many of the crises today, Muhammad Yunus and the Grameen bank with their concept and practice of microcredit have exacerbated the risks of the debt trap into which so many small farmers have fallen. Krugman’s politics are essentially of the left and usually encourage profligacy. His analyses are more destructive than constructive and he has fault to find with almost every other theorist cutting across all political boundaries. He himself has yet to advocate any consistently successful theories. Amartya Sen focuses on analysing the “economics of poverty” but has nothing real to offer for its alleviation beyond platitudes representing his own political values from his ivory tower.

The world’s economies lurch from one crisis to the next but rarely are the crises foreseen. The only constant that can be observed is that growth – when it happens – leads to the improvement of the human condition but no “economic theory” has been able to deliver sustained growth. Growth – when it happens – achieves more for poverty alleviation than any social welfare program. Real wealth creation achieves more in achieving full employment or achieving social equality than merely redistributing a static pot of wealth.

graphic from Study Blue

graphic from Study Blue

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Doubtful if NAFTA has been good for US trade or US jobs

January 4, 2017

That NAFTA has provided benefits for Mexico and Canada is evident.

Certainly volume of trade has increased sharply since NAFTA was established in 1994. But for the US the trade deficit has also ballooned. Some US jobs have shifted to Mexico. And whether NAFTA has created any real, net benefits for the US economy is more than a little doubtful.

from Berkeley Review of Latin American Studies, Spring 2014

from Berkeley Review of Latin American Studies, Spring 2014

When Donald Trump castigates US industry for shifting jobs to Mexico, he has a point.

 

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The Italian Dilemma: Weak banks and faltering domestic demand

September 22, 2016

Reblogged with permission from Focus Economics

The sudden panic about a potentially imminent Italian banking sector collapse back in July has somewhat subsided for now, but sooner or later the issue will inevitably rear its ugly head again. Two months after Italian bank stocks collapsed even further in the aftermath of the Brexit vote, fears of an imminent need for a bail-in have receded as the Italian government works on plans to shore up its weakest bank, Monte dei Paschi di Siena (MPS). This will be achieved via an alternative but rather ambitious method culminating—if all goes according to plan—in a new capital injection. However, MPS, which came up short in July’s ECB stress tests, has already received capital injections in the past. Such plans to patch up banks have tended to involve kicking the can down the road rather than providing a more definitive solution to the 360 EUR billion of non-performing loans (NPLs) weighing down Italy’s banking sector, equivalent to one fifth of its GDP. If a sustainable solution is not found to clean up Italian bank balance sheets in the near future, they will inevitably constrain domestic demand and thereby weigh on the country’s already feeble growth even further.

focuseconomics_italy_economy-01.png

 

 

Domestic demand, the longstanding mainstay of the Italian economy, is already under intense pressure. In the second quarter, GDP failed to grow in quarter-on-quarter terms, primarily on the back of a broad-based deterioration in all components of domestic demand (private consumption, government consumption and fixed investment), which could not be offset by the unusually-positive contribution of the external sector to growth. The difficult climate for domestic demand in Italy is nothing new, since the austerity policies implemented in recent years have taken their toll and Italian governments have centered their efforts on trying to boost external demand instead in order to reverse the current account deficit Italy had until 2012 and keep it positive going forward. And yet private consumption has remained the main driver of Italy’s feeble economic recovery. Analysts foresee that the poorer-than-expected performance of domestic demand (especially private consumption) in the second quarter this year will be temporary, but its growth rate will nevertheless decelerate in 2017.

Our latest September Consensus Forecast for Italy, obtained by polling 37 local and international analysts, sees GDP growing a meagre 0.9% both this year and next, a figure which has in both cases been gradually revised down in recent months from the 1.2% forecasts for both years back in January. The panel are basing their growth projections primarily on modest improvements in consumer spending, albeit at a slower rate than initially expected, on the back of gradual gains in household disposable income fueled mainly by improving employment and low inflation. Domestic demand is forecast to contribute 1.1 percentage points to total growth this year (which will be dragged down slightly by a 0.2% contraction in the external sector), of which 0.7 percentage points will come from the strongest component, private consumption. In 2017, domestic demand is expected to decelerate and contribute 0.8 percentage points to growth while the external sector will pick up slightly. Of the domestic demand components, private consumption is seen remaining the main cornerstone of the tentative recovery next year, decelerating from 2016 but still contributing 0.5 percentage points to growth.

A failure to swiftly clean up bank balance sheets means domestic demand will inevitably suffer as bank credit supply constraints continue to prevent the recovery of investment. Loan-loss provisioning reduces the credit banks have available for lending, especially to small and medium-sized enterprises (SMEs) and consumers, which are perceived as risky. Arguably, analysts assessing the Italian banking sector are now most worried about the risk of chronically constrained growth rather than another systemic shock, as banks are trapped in a vicious circle whereby poor economic growth means bad loans keep growing, which in turn weigh on growth even further. The latest ECB stress tests showed that most Italian banks do have loss-absorbing capacity to withstand a theoretical three-year economic shock, but strong concerns remain about their profitability as NPLs reduce their lending ability and deter investors.

Moreover, this scenario of sustained weakness prolongs the risk of banks eventually being forced to resort to a bail-in. A recapitalization of the banking sector involving substantial losses for retail investors would strongly hit consumer confidence and spending, the backbone of Italy‘s economy, which analysts we surveyed foresee as remaining essential to its fragile recovery. For a country whose already weak economic growth is heavily dependent on domestic demand, this would therefore bode disaster, and not only for the individual citizens with affected bond holdings.

Italy’s banking sector woes

The Italian government is desperate to avoid any need for a bail-in, especially after the politically disastrous bail-ins of a handful of small regional banks last year. In this context, it has sought to reassure the markets that individual critical cases of weakness are contained and new capital can be raised without the need for individual investors to take a hit. But exactly how the overwhelming quantity of NPLs in the Italian banking sector will be dealt with is still far from clear. Italian banks have only made provisions to cover just under half of the 360 EUR billion NPLs weighing down their bank balance sheets, of which 201 EUR billion are already estimated by the IMF to be bad loans that will be irrecoverable. Plans such as that affecting MPS, where NPLs are to be offloaded into a securitization vehicle in an attempt to sell them to investors, would seem to be in line with the IMF’s recommendation that Italy build a robust market in NPLs. And yet many analysts consider such ambitions rather wishful thinking, especially since most of the bad loans on Italian bank balance sheets are uncollateralized loans to small businesses and consumers (in contrast to the mortgage NPLs that dominated Spanish and Irish bank balance sheets during their time of stress), and specialist NPL buyers tend to be more attracted to loans with easily recoverable, tangible collateral.

Moreover, if Italy is to create a functioning NPL market, banks will need to accept significant write-downs on their loans compared to their current book value. There is a sizeable discrepancy between banks’ valuations of the NPLs and the price they would get for them if they attempted to sell off the loans to specialist distressed debt players, which will create yet more of a gaping hole on bank balance sheets. The small private Atlante fund and its successor Atlante 2, set up by the Italian government to help participate in distressed banks’ recapitalization and also to buy NPLs from banks, are unlikely to be anywhere near large enough to resolve these problems.

To complicate matters further, holdings of bank bonds by retail investors are exceptionally high due to the longstanding practice in the country of selling (or rather mis-selling) bank bonds to ordinary citizens. An IMF report published back in July calculated that retail investors own about one third of around 600 EUR billion of senior bank bonds and nearly half of an estimated 60 EUR billion of subordinated bonds on the balance sheets of Italy’s 15 largest banks. Under the bail-in requirement of the EU’s Bank Recovery and Resolution Directive (BRRD) in force since the start of this year, at least 8% of a failing bank’s total liabilities must be written off before state aid can be requested, if the EU enforces strict adherence to the rules (the Italian government has been investigating every possible loophole in case). In Italy, the IMF estimates that this requirement would hit the majority of subordinated bond holdings by retail investors in the fifteen largest banks and that it would also hit some of their senior debt holdings in two thirds of those cases.

After the experiences of massive publically-funded bank bailouts in countries such as the UK, Ireland and Spain during the height of the financial crisis, the whole idea behind the BRRD was to break the link between banking and sovereign risk and to stop putting taxpayers on the hook for private banking sector failures, making bank bondholders pay instead. But this assumes that the bondholders are institutional investors, and fails to take account of the specific circumstances of countries such as Italy where retail investors risk having their holdings wiped out too. In Italy’s case, many of the bank bondholders at risk are ordinary citizens and taxpayers, who were mis-sold bank debt as if it were as safe as placing their money in a savings account but with the added benefit of a much higher interest rate. In fact, retail investors are likely to be disproportionately affected compared to institutional investors, since individual citizens are usually sold more risky subordinated debt rather than its safer senior counterpart.

Reviving the risk of recession?

Unless concrete plans for how to create a functioning NPL market are devised, it is unclear how banks that need to recapitalize will be able to do so without ultimately ending up hurting at least some of their equity and subordinated debt holders. For a country where consumer spending is the cornerstone of an already weak recovery, imposing losses on retail investors, if they are not somehow exempted, would risk dampening consumer confidence to the extent that this could in itself push the country back into recession. This is before the wider downside risk implications of a struggling banking sector are even taken into consideration. Even if a bail-in remains avoidable, if banks are forced to use their own precious reserves to increase loan-loss provisions and capital buffers in the absence of any substantial state aid injection, this risks prolonging the Catch-22 of poor growth leading to a weak banking sector and vice versa.   

Author: Caroline Gray, Senior Economics Editor

Date: September 19, 2016

 

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Posted in Economics, Economy, Italy | Comments Off on The Italian Dilemma: Weak banks and faltering domestic demand

Good monsoon (so far) points to Indian GDP growth of over 8%

July 28, 2016

The monsoon season is half over and the rains are at the long-term average which is considered “good”. The difference between a “good” and a “poor” monsoon is generally thought to be over 2 percentage points for GDP.  The Indian ratings agency CRISIL is sufficiently encouraged already to begin talking about a GDP growth of over 8% for the Fiscal Year ending March 2017.

moneycontrol:A good monsoon with even rainfall distribution across regions will give a boost to farm sector and may push India’s GDP growth beyond the 8 percent mark in the current fiscal, Crisil said. However, stress in rainfall in certain parts of the country and excess downpour in some other regions may be a cause for worry, the credit rating agency said in a report. In a positive scenario — good monsoon backed by favourable temporal and spatial distribution — agriculture growth can surge to 6 percent from a weak base of last year and therefore push up GDP growth above 8 percent, it said. According to the report, assuming rainfall is evenly distributed across time and regions, GDP growth may rise to 7.9 percent, if agricultural growth comes at 4 percent and CPI inflation remains contained at 5 percent in the current fiscal. …..

Despite a slow start in June, rains have caught up and were just 1 percent below normal as of July 25. This has helped reservoirs to bounce back from the lows seen in the beginning of the fiscal, boosting farmers’ confidence, the report said. Excess rainfall in 89 districts across eight states could impact sowing and therefore agricultural output for the kharif season. Hence, spatial and temporal distribution of rainfall in the second half of the season, especially in August, will be crucial, it added. 

Today’s picture from Skymet shows the monsoon covering the entire country reasonably evenly.

24-Hours-Rainfall-28-07-2016---600

July 28, 2016 11:46 AM – Skymet

 

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Indian monsoon should be on time as El Niño dissipates

May 18, 2016

The Indian monsoon is influenced by anomalies in the Niño 3.4 region.

nino regions

nino regions

“El Niño (La Niña) is a phenomenon in the equatorial Pacific Ocean characterized by a five consecutive 3-month running mean of sea surface temperature (SST) anomalies in the Niño 3.4 region that is above (below) the threshold of +0.5°C (-0.5°C).”

In the last 2 weeks the Niño 3.4 region has seen the SST anomaly drop from 1.1°C on April 25 to 0.6°C now. So it does look like that the current El Niño is dissipating and will very soon reach neutral conditions. That comes just in time for this year’s Indian monsoon (official season from 1st June to 30th September).

Both the government Indian Meteorological Department (IMD) and the private Skymet forecast an above average monsoon (about 10% above “normal”). However the IMD forecasts that the onset of the monsoon over the south-west coast will be delayed by about a week (June 6th -8th) but Skymet suggests that it will be on time and maybe even a day or two early (28th -30th May).

The Skymet prediction seems a little more credible to me. Right now a depression in the Bay of Bengal is bringing very heavy rain to the south-east tip of the peninsula and augurs well for the establishment of the monsoon. The formal “onset of the monsoon” is itself a complex matter. Technically the onset is declared when:

at least 60% of the 14 weather stations across Kerala and coastal Karnataka should record 2.5 mm rainfall or more for two consecutive days.  ….. Simultaneously, the depth of the westerly winds should be up to 600 hPa (or 12000 ft high),  from the equator to 10°N Latitude, and between Longitude 55°E and 80°E. The zonal wind speed over the area bounded by Latitude 5-10°N and Longitude 70-80°E should be around 25 to 35 kmph in the lower levels. The OLR value should also be less than 200 Wm-2 in the box confined by Latitude 5-10°N and Longitude 70-75°E.

While Skymet predicts monsoon conditions being established by end-May, IMD sees that about a week later. Possibly IMD have a smaller initial peak than Skymet.

Skymet’s Jatin Singh writes:

Skymet Weather believes that Monsoon will lash Kerala by the predicted dates between May 28 and 30. …..

…. There are high chances that the onset of Southwest Monsoon in mainland of India will coincide with El Niño reaching the threshold neutral stage. The in-built complex characteristics of Southwest Monsoon are also influenced by external oceanic-atmospheric phenomena like Indian Ocean Dipole (IOD) and Madden-Julian Oscillation (MJO). IOD will remain neutral for now and MJO will also traverse through the favorable zones of eastern Indian Ocean. Therefore, I think that the onset of Monsoon will not be hampered by El Niño, IOD or MJO.

monsoon onset 2016 prediction - graphic Skymet

monsoon onset 2016 prediction – graphic Skymet

Farmers, the government and industry are all looking for a good monsoon to kick-start the Indian economy into a steady period of growth. A “good monsoon” adds – directly and indirectly – about 2 percentage points to GDP. In the present climate where, in spite of the boost from lower oil prices, the Indian economy is dithering about taking off, a “monsoon factor” could be what is needed to secure the upward trajectory.

 

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BRICS is dead, long live MICKI

April 26, 2016

Brazil (-3.7%) and Russia (-1.3%) are experiencing negative growth and South Africa (+0.7%) is stagnating. Which leaves only China (+6.5%) and India (+7.5%) from the BRICS motor. But Indonesia(+5.1%), Kenya (+5.8%) and even Malaysia (+4.4%) are growing and it is time to bury BRICS and start talking about MICKI (Malaysia, India, China, Kenya and Indonesia).

(Map by Focus Economics)

MICKI - Emerging Markets (map by Focus Economics)

MICKI – Emerging Markets (map by Focus Economics)

 

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