The world is entering the double-dip recession and the euro-zone and UK are already in it.
In the past week the World Bank, the IMF, the ECB and the economic ministries of America, China and Germany have all lowered their growth forecasts for 2012. The world is entering the double-dip recession and the euro-zone and UK are already in it.
At Spear’s, we have long since said the double-dip and banking crisis 2 were inevitable, for the simple reason that the quantum of debt everywhere was too high, or more accurately unsustainable, and because the G7 had gone ex-growth. The crisis has now developed into the backward-feeding loop where banks and their state exchequers are joined together in a desperate last tango, without growth. We are not approaching the end of this crisis, but the beginning.
We start with the US, which is openly flying along on cruise-control racking up another $2.4 trillion of federal debt until after the election, while the Bernanke holds sway at the Fed with his finger on the QE button. Ditto the UK, where the National Debt keeps on rising despite extensive cuts, with Mervyn at the BoE ready with his grease gun for QE3. Their “exit” from this excess is simple: hyper-inflation will eventually shrink their real debts away into thin air, while pensions and assets suffer.
Germany stands implacably against such inflationary monetary policies. The difference is that the US and UK have their own sovereign currencies and can print money; Germany does not, so it refuses to let the ECB follow the Fed and BoE, as the debts would rebound eventually onto the Bundesbank. This would create an EU transfer union from the rich north to the southern periphery, otherwise known in a metaphor of some exactitude as the PIGS.
The ECB, however, has put into practice its own version of QE, but discreetly, below the counter. The ECB charter does not allow it to bail out states, but does authorise it as the lender of last resort to banks. So that’s what the ECB is doing, lending to banks and accepting state bonds as collateral, and allowing the banks to buy yet further state bonds, as the ECB balance sheet is used to fund state bail-outs, but indirectly.
Its first open-window saw €487 billion escape the ECB with a giant sucking sound, at 1% for three years for the borrowing banks. The banks then bought state bonds at 3%+ yields, while yields on Spanish and Italian new bond auctions promptly halved. Nice work for the banks, if they can get it, which thanks to the ECB’s largesse they can, as the ECB plans its second freebies open day. The German government turns a blind eye to all this, as its own busted banks are grateful recipients of the ECB’s no-loss/profit-only carry trade as well.
There is only one problem: the ECB’s balance sheet is now stuffed full of questionable bonds as security. Its balance sheet now holds €40 billion of Greek bonds directly, for which a 70% provision is looming. The EU’s banking system is also still insolvent, and many of these banks themselves are also short of liquidity, and their states have no further capacity for bank bail-outs, without further down-grades, leading to higher interest rates.
Mario Draghi’s ECB is now engaging in QE on a far deeper slope to perdition than the US/UK, given the contagious restrictions of the single currency, and the noose is tightening: this next six-months or so, EU states must repay €770 billion and EU banks €520 billion, or a combined €1.3 trillion. At this point, comparisons between the ECB and the Costa Concordia are definitely not invited – Italian captain, sailing too close to the rocks, capsizing, Germans in the water and all that jazz – being too near the economic truth for comfort any longer.