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Kiron Sarkar
September 10, 2011
Hi there,
The above is a direct quote of the German Finance Minister, Mr
Schaeuble, during a closed door meeting of German politicians late
last week. The Germans, as are most of the Euro Zone, completely fed
up of the Greeks and, in any event, cannot rescue the Euro Zone -
politically and financially impossible. Indeed, I would argue that the
Germans have been uber generous to date, but even they do not have
unlimited financial resources. The Troika (EU,CB and IMF) revisit
Greece next week, to discuss Greece adherence (or lack of it, more
precisely) to their fiscal commitments. The Greek PM and the Finance
Minister now state that the Greeks will implement the terms of their
aid package - they wont and, indeed, cant. Having lied to get into the
Euro and having lied again and again and again and....., I cannot have
any sympathy for the Greeks. Besides, did they really think they could
survive within a currency union. However, I totally accept that Greece
should have been allowed to default much earlier. Not only would it
have been better for the Greeks, but it would also have been much,
much cheaper. Once again, Trichet and the ECB were totally wrong -
amazingly, they persist with this position.
Greece may just get a little more aid, as the Euro Zone still
(unbelievably) have not figured out how to deal with a Greek default,
but, as I have kept banging on, Greece will have to default this year.
The German's are working on the basis that a Greek default will result
in a haircut of 50% - it will be well above 70%, as they will
discover soon enough. However, even though such a haircut is a
certainty, the Euro Zone, including most European banks, can survive
it - it will be painful, but they can get through it. Those who do not
survive will be bailed out, but expect shareholders (and bondholders)
to take the 1st hits this time - absolutely right in my view. However,
what the European banks cannot survive is contagion spreading to
Italy, Spain and other Euro Zone countries. As a result, the ECB will
have to step up its purchases of Italian and Spanish bonds - it did
last week. I believe it will - it has no other choice.
Legislation to authorise the changes to the Euro Zone's bail out Fund,
the EFSF, are likely to be passed by no earlier than October, though
there are some who suggest it will take until December. Counter
intuitively, it will be easier for Euro Zone countries to pass the
EFSF legislation, if Greece defaults - the whole collateral issue
(which is being demanded by the Finn's) disappears. The next big issue
is whether the Euro Zone can stop contagion spreading and, in
addition, FINALLY face up to the fact that European banks need to be
recapitalised, having, at least, started to address the whole issue of
losses on Sovereign bonds holdings. There is no reason why the ECB
cannot continue to buy the appropriate Euro Zone bonds - its has
unlimited buying power. Indeed, if the focus switches to the EFSF,
there will be more of a credibility issue, particularly as we all
know, its size is limited to E440bn and there is little (current)
inclination to increase its size.
Whilst the ECB has learnt that it must continue with its bond buying
programme to gain the credibility that markets need, it clearly finds
it difficult to admit that its 2 recent rate hikes of 25bps each were
a huge mistake. Mr Trichet, last Thursday, stuck to his very boring
line, though was far more dovish than the previous month, but his game
is to preserve his reputation/legacy, rather than do the right thing
and admit that he and the ECB made a mistake with their recent rate
hikes (as they did in 2008, only to have to reverse them soon
thereafter) and reverse its decision. That's my problem with the Euro
Zone/ECB - it is full of grossly overpaid bureaucrats, who are
financial amateurs learning on the job and only very slowly.
I, for one, really cannot understand the market reaction to Stark's
resignation. It was great news in my opinion. Everyone knew he was
opposed to the ECB's purchases of peripheral Euro Zone bonds and was
unhappy that his concerns were not being listened to. His likely
replacement, Mr Jorg Asmussen, a State Secretary in the German Finance
Ministry is far more canny, extremely competent and less a hardliner
on monetary policy - exactly what you need at present. He is also
extremely articulate and credible. I believe he is also close to the
opposition German party, the SPD, who are more Euro Centric. I can
understand the Euro weakening on the obvious fact that the ECB will
have to reduce rates - most likely by 50bps by the year end. However,
as we all know, Asian Central Banks (especially the Chinese) are
buying the Euro, as will the SNB (to defend the E1.20 peg against the
Swissy) shortly, as markets test the SNB's resolve. However, the Euro
remains fundamentally overvalued at these levels, in any event and, in
my humble opinion, will decline further.
I am very much looking forward to the departure of Trichet, though I
will miss him - having lost the dreadful former UK PM, Mr Gordon
Brown, my other major bete noir, I am going to be at a loss if I cant
find someone else to rant over. However, never fear, this is the Euro
Zone and there will be plenty of up and coming candidates.
A number of people are calling for a break up of the Euro Zone - with
a number of countries exiting the Euro. Personally, I have come to the
conclusion that this is highly unlikely, with the exception of
Portugal. The cost would outweigh the benefits. If on the other hand,
Germany and a few other countries exited the Euro (as you cant kick
anyone out), their resulting currency would be the equivalent of the
Swissy, though even more liquid - the currency would soar and the
German export industry would be crushed. Some countries may leave,
(Greece), though Portugal looks exceedingly vulnerable, but the cost
for most countries of exiting will be horrendous, both to themselves
and the Euro Zone.
What happens next. Well the Euro Zone will cobble together another
elastoplast kind of solution, which means we will head from 1 crisis
to another - great for people like me who play this game, but really
dreadful economically, particularly for the longer term. Eventually,
the Euro Zone will issue Euro bonds, countries will have to meet pre
determined fiscal targets, (which will be subject to verification),
and which they will have to stick to, European banks will be
recapitalised, etc, etc. Its just unfortunate that the politicians are
incapable of sorting this out sooner and without the inevitable and
increasing pain - indeed, the current situation is that they will only
move when there is a crisis. Sheer lack of leadership. Totally
criminal in my view.
Whilst the German's will hate it, the Euro Zone will have to print
money at some stage. It has been the traditional escape route in the
past and will be again. In addition, the ECB will have to reduce the
interest it pays on deposits held with it, as will the FED. Goldman's
talk about the FED, in addition to operation twist/QE3, announcing
that interest rates will be linked to the unemployment rate. This
weekends G7 meeting came out with the same platitudes and very little
in terms of policy action. President Obama's US$450bn plan sounds
great, but I cant see the Republicans supporting it meaningfully. The
worse the economy, the better their election chances. Government
policy action is desperately needed as a matter of urgency - the
markets cannot sort out this mess. However, it's tough to see any
sensible people/plan out there at the moment.
All of this is great for you gold bugs, though given the current and
likely higher Gold price, I would have thought that the way to play it
is through unhedged gold stocks (Gold miners are finally making
money), rather than the commodity itself. My friends, who are totally
plugged into this sector, suggest silver stocks will be an even better
play - well they have been right so far.
Clearly, I remain bearish.
Best
Kiron
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