5th October 2012 by The Harried House Hunter
If we add together yesterday and this morning three central banks- Bank of England, Bank of Japan and the European Central Bank- have announced that their official monetary policies are unchanged. As the first two are in the midst of existing Quantitative Easing plans this was not a surprise although the Bank of England’s will complete in the week before its next meeting on November 7th/8th. As for the third the ECB the truth is that we get as much information about its likely actions from the press conferences headed by Mario Draghi as from the official communique. Here we did get a couple of details.
A shift in emphasis from the ECB
Here we did see a change of emphasis as indicated by the quote below from Mario Draghi as he answered a question.
The OMT would not apply to countries that are under a full adjustment program until – and that’s the – that’s what I think I did say last time – until full market, complete market access will be obtained. And this is because the OMT is not a replacement for lack of primary market access.
Let me explain why this correction – and in spite of the denial it is a correction- matters. By OMT he means Outright Monetary Transactions which is the vehicle by which the ECB will purchase government bonds of Euro nations which are in financial trouble. This week Portugal copied Ireland’s bond swap of a few weeks ago where short dated bonds (2013) were exchanged for ones a couple of years longer in maturity (2015) to demonstrate that she now has market access and I think she believed she was establishing access for OMT aid. She knows better now as does Ireland and is probably muttering something about goal posts moving right now.
The Conditionality Conundrum
This is a big issue to my mind and President Draghi reinforced its importance yesterday.
Conditionality – we view conditionality as an essential part of the activation of the OMT.
Conditionality will actually have several roles. First of all, it will reduce the moral hazard by governments. The second thing – the second role it will have is that, really, in a sense, protects the independence of the ECB. Without conditionality, you would certainly have what people call fiscal dominance. With conditionality, the independence of the ECB is protected.
I consider both his points here to be untrue. Later in his speech we see an example of where the independence point is contradicted.
And it’s up to the other euro area governments to decide whether the programs- whether – you know the conditions. You know that it’s necessary to make a request to an EFSF/ESM program.
If you are doing what governments say then it is hardly a demonstration of independence from them is it? To my mind it demonstrates exactly the reverse.
The moral hazard issue also has the flaw that once a government is receiving OMT assitance how does the ECB ensure that it sticks to the reforms. The only weapon the ECB will have will be to stop buying which will cut off its own nose to spite its face. We can see from the experience in Greece that this is likely to be a shambles full of evasions of the truth.
Governments are very reluctant to ask for OMT aid
Since the last meeting we have seen the Spanish government deny and deny again that Spain needs a full bailout. For example her Finance Minister Luis de Guindos said this only yesterday at the London School of Economics.
There is a little bit of misunderstanding–Spain doesn’t need a bailout at all
I gather there was some muted laughter and frankly I am not surprised. Although of course we know from Sir Humphrey Appleby never to believe anything until it is officially denied.
We are seeing several strands come together at once here. Yet again the grand rhetoric of Euro area announcements is being followed by something of a reining back as we head towards any implementation of it. It is something of an irony that the Spanish denial of a bailout illustrates one of them as the fall in her bond yields – her two-year yield is now at 3.25% which is half its July peak- has taken some of the pressure off Spain which is allowing her government to obfuscate and dither. In other words we are already seeing a type of moral hazard just as we are being told it cannot happen.
Indeed there has been another gain for Spain: Target2 balances
For those unfamiliar with this issue Target2 balances are a measure of each individual Euro area country’s liabilities to the overall Eurosystem. It has become a measure of the crisis as previously stable relationships have changed. For example at the beginning of 2011 the Spanish deficit under this was 46 billion Euros and in August 2012 it was 434 billion Euros with much of the surge coming in 2012 as the crisis built.
However as the ECB made promises about support and OMT we saw in September the Spanish debit drop to 400 billion Euros (h/t Pawel morski). Whilst this is by no means a fix it is an improvement and it was also seen on the other side of the balance sheet as the German credit balance fell back from 751 billion Euros in August to 695 billion last month.
However the improvement here to my mind relied on an apparent stepping into a phone booth by the head of the ECB and his emergence as SuperMario. As you can see from the analysis above his superhero status is weakening. So we will have to wait and see if it can continue.
Spain’s economy continues to weaken
So far this week we have had survey data from the various purchasing managers indices which have confirmed that Spain’s economy continues to weaken. Indeed under this measure her output growth is very weak being 41.2 on a scale where 50 represents unchanged.
This morning has seen the release of her latest official industrial production numbers.
The annual variation of the Industrial Production Index stands at –3.1% in August, as compared with –2.7% in July
The average for the Industrial Production Index registered a variation of –5.5% in the first eight months of 2012, as compared with the same period the previous year.
So we see continued weakness of the type indicated by the surveys. Industrial production has been falling for a year and actually last August was a small blip in a continuing downwards trend. If we look to the underlying measure it shows the depth of the fall as it is registering 62.5 where 2005 represents the benchmark of 100. Unfortunately the survey results suggest it has fallen further since then.
Euro area economic growth
Whilst the latest headline quarter on quarter number for the Euro area is unchanged at -0.2% I note that the annual figure is now -0.9% rather than -0.5% so something has changed for the worse. Part of the change is that the former number is seasonally adjusted and the latter uses raw data although that does raise the issue of what was different this year as they did not have a Royal Jubilee.
In some minds the Mad Hatters Tea Party is continuing
Bloomberg is reporting this today.
So a country which has in other news its Prime Minister stating that it will run out of money at the end of November can apparently contribute to the capital of the European Stability Mechanism. The Mad Hatter would be proud of this! Wasn’t using borrowed money as capital one of the causes of the credit crunch?
Of course we also have Greece’s Euro partners and the IMF loaning Greece money to in effect reduce their own payments. Let us hope that this idea gets kicked into grass so long that it cannot be found.
So we see yet again rhetoric that has over stated the likely action. Meanwhile the economies in the Euro area and in particular Spain are weakening so the dithering means that the issues will only be addressed when she is weaker. Mind you if you look at the chaos which is the bail out for Greece it is hard not to have a little sympathy for Spain’s attempts to avoid being in the same unstable lifeboat.
And later we have the US employment and unemployment report,good luck to those of you who will be involved in it.