Japan's Machinery Orders Plunge at Double Economists' Predictions; Beneficiary of Beggar-Thy-Neighbor Export Policies is Gold

The temporary (very temporary) Band-Aid placed on the global economic dike today by the German court ruling (see Stocks Rally in Yet Another Futile "We are Saved" Trade; Greek 1-Yr Yield hits 97%, "No Blank Checks"; Gold Decouples) is already in question, not in Europe but in Asia.

Please consider Japan machinery orders slump, signal weak investment

Japan's core machinery orders tumbled in July at twice the pace economists' had expected in a sign that companies are delaying investment due to worries about a strong yen, slackening global growth and slow progress in reconstruction from the March earthquake.

The current account surplus fell more in the year to July than the median estimate as exports weakened, highlighting concerns that a strong yen and a stuttering global economy could hamper Japan's recovery from the post-quake slump.

The disappointing data could place some pressure on the government and the Bank of Japan, which highlighted risks to growth after leaving monetary policy on hold on Wednesday, to ensure that the yen doesn't strengthen further.

The yen has been attracting safe-haven demand from investors unsettled by Europe's sovereign debt crisis and signs of U.S. economic slowdown even as Japan struggles with its own debt burden and its new government faces a long battle to gain consensus over how to fund reconstruction from the March 11 earthquake and tsunami.

Japan is on guard against further yen appreciation after intervening in currency markets last month when its currency approached a record high versus the dollar.

Japan's economy probably shrank at a faster annualized pace in the second quarter than the government's initial estimate as corporate spending fell at a quicker rate due to the strong yen and a slowdown in the global economy, a Reuters poll showed before the release of the data on Friday. ($1 = 77.325 Japanese Yen)

Beggar-Thy-Neighbor Insanity

As I have pointed out on numerous occasions, Japan wants to increase exports, China wants to increase exports, the US wants to increase exports, Germany wants to increase exports, Brazil wants to increase exports, and Europe in general wants to increase exports.

Every country on the planet wants to increase exports. Switzerland initiated a policy to "Buy Foreign Currency in Unlimited Quantities" to drive down the value of the Swiss Franc to save its export machine.

Beneficiary of Beggar-Thy-Neighbor Insanity is Gold

It is a mathematical impossibility for every country to be a net exporter. Yet every country attempts to do just that with Beggar-Thy-Neighbor policies.

Gold is the beneficiary of these currency debasement policies.

I see no reason to believe central banks have ended currency debasement. Thus I see no reason to believe the runup in gold prices is over.

Mike "Mish" Shedlock
http://globaleconomicanalysis.blogspot.com
Click Here To Scroll Thru My Recent Post List

Stocks Rally in Yet Another Futile "We are Saved" Trade; Greek 1-Yr Yield hits 97%, "No Blank Checks"; Gold Decouples

Equity markets are up across the board, but particularly Europe following a German court decision that everyone pretty much knew would happen anyway.

Please consider German court reins in Berlin on euro crisis.

The Constitutional Court in the southern city of Karlsruhe rejected, as expected, a series of lawsuits aimed at blocking German participation in emergency loan packages. Chancellor Angela Merkel hailed that decision as validation of her much-criticized euro zone policy.

But the court also said her government must get approval from parliament's budget committee before granting such aid and appeared to rule out more radical solutions floated by Germany's European partners for solving the crisis, such as joint euro zone bonds.

"This was a very tight decision. But it should not be mistakenly interpreted as a constitutional blank check authorizing further rescue measures," the chief judge Andreas Vosskuhle told plaintiffs, government officials and members of parliament in the courtroom.

Merkel, in a speech to parliament following the court ruling, said a radical change in attitude was needed to resolve the crisis.

"I'm convinced that this crisis, if a great crisis of the western world is to be avoided, cannot be fought with a 'carry on' attitude. We need a fundamental rethink," Merkel said.

"We must make it very clear to people that the current problem, namely of excessive debt built up over decades, cannot be solved in one blow, with things like euro bonds or debt restructurings that will suddenly make everything okay. No, this will be a long, hard path, but one that is right for the future of Europe," she told parliament.

Jeered by opposition parties during her address, Merkel faces intense pressure from members of her coalition to resist steps like joint euro zone bonds that might reassures markets, but would also penalize Germany and reduce incentives for peripheral countries to take tough austerity steps.

In its ruling, the court also appeared to rule out such steps, saying parliament was "forbidden from setting up permanent legal mechanisms resulting in the assumption of liabilities based on the voluntary decisions of other states."

No Blank Checks

This is pretty much as expected, with a minor victory for Merkel in that she must only get approval from parliament's budget committee rather than a full parliamentary vote.

Otherwise, the court ruled out Eurobonds, and specifically admonished "This was a very tight decision. But it should not be mistakenly interpreted as a constitutional blank check authorizing further rescue measures."

Nothing much has changed, except we now know some limits of the German court.

Greece 1-Year Government Bond Yield



Italy 10-Year Government Bond Yields



The yields on Italian government bonds is a bit lower at a still very elevated 5.29%. This should not a particularly encouraging reaction given the rally in equities.

Gold Decouples

Every day someone emails me "gold is signaling US inflation". Clearly it isn't. Gold has decoupled from the US dollar. If anything, gold has been inversely correlated with the dollar most days, reacting to credit stress news in Europe and Swiss Franc gyrations more than anything else.

Such is the case again today with Gold down $50 with the US dollar index slightly lower.

If the crisis in Europe is over, gold will pull back hard, regardless of what the dollar does and regardless of what Bernanke does.

However, today is just "Another Futile We are Saved" type of day. Nothing has changed, no problems have been solved, in Europe, In Japan, or in the US.

Mike "Mish" Shedlock
http://globaleconomicanalysis.blogspot.com
Click Here To Scroll Thru My Recent Post List

Bernanke's Waterloo; Midst of Deflationary Collapse or Brink of Inflationary Disaster? 12 Specific Recommendations

The September Contrary Investor It's A Long Hard Road is an exceptional marriage of debt-deflation concepts, long-wave K-Cycles, credit cycles, and Austrian economic thinking. Here is a lengthy snip of several key points with permission.

If there has been one consistent theme since day one at CI, it has been our perhaps near myopic focus and focal point highlight of importance that is the macro credit cycle. Does this play into long wave and perhaps Kondratieff cycle or Austrian economics type of thinking? Call it what you will, but elements of all of these schools of thought very much overlap. Right to the point, we believe THE key thematic construct to keep in mind as a macro cycle decision making overlay and character point dead ahead is the now more than apparent collision of the generational long wave credit cycle with the current short term business cycle of the moment. Without trying to reach for melodrama, this is the first time a multi-decade long wave credit cycle has collided with the short-term business cycle since the late 1920’s/early 1930’s. Most decision makers and Street seers of the moment have absolutely no experience with this type of a generational collision. Moreover, our illustrious academician Fed Chairman has never even considered long wave or credit cycle based Austrian economics thinking in his and the broader Fed’s policy making – absolutely key and crucial mistake. Although it’s just our perception, this will be Bernanke’s legacy Waterloo. It also tells us directly that his only policy tool ahead will be more money printing.

We suggest to you that macro credit cycle issues did not end in 2009. Certainly Europe is a poster child example of this thinking, but it absolutely also applies to what lies ahead for the domestic US economy. We’ve only had a reprieve from long cycle reconciliation over the last few years due to historically unprecedented Government and Federal Reserve balance sheet levering, which itself is unsustainable longer term. Has the election cycle played havoc with needed deleveraging reconciliation and simple identification of the underlying causes of current circumstances? Without question. Although it’s clearly a personal comment, we’ve been disgusted with the short-term focus and actions of politicians at the expense of longer cycle strategic domestic economic thinking and needed financial reconciliation. These actions simply guarantee the deleveraging process will play out over a longer period than may otherwise have been the case. A very important construct with direct implications for the tone and rhythm of the domestic economy over time.

The top clip of the following chart is probably the one graphic we’ve published the most times over our short existence. Total US credit market debt relative to GDP. As is more than clear, the process of total credit cycle reconciliation has barely begun.



The bottom clip of the chart is one you’ve seen a number of times from us and we believe quite important to what lies ahead. To the point, real final sales to domestic purchasers is GDP stripped of the influence of inventories and exports. What we’re left with is as good look at domestic only GDP and as you can see, the year over year change in terms of growth in the current cycle is the weakest of any initial economic recovery cycle over the time in which official numbers have been kept. Message being? We are seeing very weak aggregate demand, exactly as one would expect in a generational credit cycle reconciliation process.


We also need to remember that THE primary goal of the Fed and politicians has been to thwart the generational credit cycle deleveraging process to the best of their abilities while it is occurring, all in the interests of being reelected. So as you look at the bottom clip of the chart above, remember that this is the growth in domestic economic activity in the current cycle that has occurred while the Government has borrowed $5 trillion and used the proceeds for increased transfer payments, cash for clunkers, help for those with mortgage problems, deals for appliances, etc. And yet still we’ve experienced incredibly subdued domestic economic activity. Just what would this have looked like in the absence of historic Government balance sheet leveraging?

Monetary Policy Useless in Deleveraging Cycles

Although it appears obvious conceptually, we're not so sure the markets yet fully appreciate the fact that in true generational deleveraging cycles, monetary policy is powerless to influence credit expansion. Again, our near myopic focus on credit is driven by the fact that credit is the cornerstone of modern economic development and balance, and certainly not just in the US. The character, availability and price of credit regulate the ongoing tone of aggregate demand, so monitoring credit is simply crucial. If credit cannot expand, then neither can aggregate demand. A simple yet key truism, especially in our current circumstances. As you can see below, we've seen literally unprecedented monetary expansion so far in the current cycle, yet private sector credit creation (as is exemplified by the bank loans and leases outstanding) remains wildly subdued at best. The whole pushing on a string thesis? Exactly.



The bottom clip of the chart above has been adjusted for the $450 billion of off balance sheet bank loans that were mandated to arrive back on bank balance sheets as per FASB dictates in April of last year. As is clear, bank loans and leases out since early 2009 have declined significantly. The bulls have trumpeted the growth over the last three months. You can decide for yourself whether this minor uptick is deserving of trumpeting, if you will. To ourselves the message appears absolutely crystal clear. In generational deleveraging cycles, Fed monetary policy is simply a non-event. Rather monetary extravagence finds its way into inflation hedge assets and can be used simply to speculate. Remember, as per Fed monetary largesse, the banks are sitting on $1.5 trillion of excess reserves as we speak. Excess reserves can be used as collateral for derivative and futures trading. You already know trading profits have been a crucial piece of bank earnings since 2009. As of now, monetary policy has been completely ineffective in the current cycle in creating credit - the lifeblood of economic activity and growth - except in one instance. And that instance lies below. Of course we are referring to Government debt.



In typical recessionary periods past, the Fed has been able to lower interest rates and stimulate demand for credit. Demand for credit ultimately stimulates broad economic activity via an increase in aggregate demand. But in deleveraging cycles as opposed to typical business cycles, interest rates can fall to zero and still not positively influence demand for credit. This is exactly what has occurred in the current cycle. You may remember from our discussions over the years we asked one question again and again, "is this a business cycle or a credit cycle?" The only borrower of substance in the current cycle has been the Federal Government, yet we are currently reaching the limits of Government balance sheet expansion tolerance, as clearly witnessed by the debt ceiling melodrama. This has only served to weaken the US as a credit. Again, the inability to generate demand for credit by almost any means (and in our present circumstance historic means) is simply a classic fingerprint of a generational deleveraging cycle.

Bernanke No Student of History

Never in modern history have we faced the type of domestic labor market circumstances we face today. As we've tried to describe, monetary policy is powerless to change this. If Mr. Bernanke was the true student of history he would fully realize exactly the circumstances we've described. It's not that we don't have precedent. The US in the 1930's and Japan over the last two decades are the model. Looking at the Depression years and claiming the issue was that the Fed was not loose enough misses the key fingerprint character points of a generational deleveraging cycle completely. Again, the refusal of Bernanke and friends to even acknowledge Austrian or Kondratieff economic constructs has been and will continue to be their policy making downfall. Who knows, maybe all of this will find its way into the economics textbooks of tomorrow. Let's hope so anyway for future generations. But as the old market saying goes, people don't repeat the mistakes of their parents, they repeat the mistakes of their grandparents.

Government and Fed policy has been aimed at fostering credit creation up to this point. Fed money printing and Government borrowing has been undertaken in an attempt to stimulate credit creation and likewise spark broad reacceleration in consumption. Certainly Government and Fed actions have also been an offset to the contraction in private sector (think financial sector) credit so far in the current cycle. As of now, unprecedented Fed actions have acted to both devalue the dollar and suppress interest rates. But in a generational deleveraging cycle, the Fed is ultimately impotent in terms of being able to successfully spark private sector credit creation that would lead to expansion in aggregate demand and macro GDP growth.

But what has occurred as a result of Fed and Government "solutions" again is a classic macro deleveraging cycle response - a devalued currency and negative real interest rates has driven investors into inflation hedge assets such as gold, oil, ag assets, etc. at the margin. As opposed to having achieved the stated goal of fostering employment growth, credit creation and raising aggregate demand, etc., Fed QE has essentially succeeded in raising the cost of living in a cycle characterized by generational labor market and direct wage pressure among the middle and lower class wealth demographic. From a broad perspective, has Fed and Government policy actually done more harm than good? It simply depends where one sits amidst the wealth demographic pyramid of life. Policy has been fabulous for Wall Street and the banks, but not so fabulous for the average household. The average household has faced vanishing interest income and negative real wage growth amidst an environment of a meaningfully rising cost of every day living (food and energy prices).

Policy has been counterproductive because policy makers continue to focus on short term outcomes as opposed to longer term structural remedies. Remember, people repeat the mistakes of their grandparents, not their parents. Mr. Bernanke is apparently an "expert" on the actions of "grandparents", yet he is very much repeating their same mistakes by his implicit refusal to even consider Austrian/Kondratieff like economic ideas. You already know, THE key character point of successful investors over time is flexibility in outlook and behavior. It's just a shame we can't clone that character point inside the Fed and Administration at present. But of course that would be counterproductive to the interests of Wall Street and the big banks.

Credit Cycle Understanding is Key to Returns

There is much more in the Contrary Investor article. I excepted the ideas pertaining to credit.

It is very refreshing to see someone else writing about debt deflation and how powerless the Fed is to stop it. Instead, we see article after article by people touting high inflation, even hyperinflation.

Hyperinflation is complete silliness at this point. Were it to come, it would be an act of Congress that would create it, not an act of the Fed, and the Fed would probably have to play along. I doubt the Fed would. For all its many faults, the Fed does not want to destroy banks. Hyperinflation would do just that.

The Republican dominated House wants little or nothing to do with more stimulus. Certainly US government debt is going to mount, but it is going to mount in Japan, the Eurozone, and the UK as well.

Moreover, Eurozone structural issues matter now, while US government debt will matter more in the years to come.

Midst of Deflationary Collapse or Brink of Inflationary Disaster?

Although the Keynesian and Monetarist economists have missed the boat on what is happening and why, Austrian minded folks who fail to understand the importance of credit and how little the Fed can do to revive it have blown the call as well.

It pains me to see articles like On the Brink of Inflationary Disaster by Austrian economist Robert Murphy.

We are clearly in the midst of a deflationary collapse as noted in Yes Virginia, U.S. Back in Deflation; Inflation Scare Ends; Hyperinflationists Wrong Twice Over

Focus on Money Supply Alone is Fatally Flawed

Deflation is about credit, it is also about attitudes that govern the demand for credit.

As I have stated many times over the years, and as stated above in the Contrary Investor, there is nothing the Fed can do to force businesses to expand or banks to lend.

That point explains why Austrian economists who focus on money supply alone have failed and will continue to fail.

Until consumer demand returns, businesses would be foolish to expand. Unfortunately, the Fed's misguided easing policies have stimulated commodity speculation thereby increasing manufacturing costs, while simultaneously clobbering those on fixed income and reducing final consumer demand.

I wrote about the plight of those on fixed income in Hello Ben Bernanke, Meet "Stephanie" back in January. Please give it a read if you have not yet done so.

The Deflationary Hurricane of Deteriorating Social Mood

One of the best posts recently on social mood and deflation is by Minyanville professor Peter Atwater.

Please consider The Deflationary Hurricane of Deteriorating Social Mood

This morning, in the aftermath of Fed Chairman Ben Bernanke’s speech on Friday, the editorial page of the Wall Street Journal noted, “Mr. Bernanke also lectured that ‘U.S. fiscal policy must be placed on a sustainable path,’ though not by cutting spending in the short-term. So the Fed chief joins the Keynesian queue of spending St. Augustines – Lord, make us fiscally chaste, but not yet.”

Everything we need to do for long-term economic, if not societal success and stability comes with very severe short-term consequences. And so the response of most policymakers (and not just those responsible for fiscal policy but also regulatory policemen like Mr. Bernanke himself) has been to advocate for short-term expansionary programs and rules, while postponing the real teeth of necessary change until some later date in the future. Basel III, for example, has a phased-in capital-strengthening requirement for the banking system that does not finish until 2019 – again, "chaste, but not yet."

I am sure that what is behind the thinking of policymakers is the notion that if we can just get through this tough “transitory” period, the economy will turn up; and at that point, whether it is fiscal or regulatory policy, our ability to handle constraints will be much, much easier to bear.

After 11 years of declining social mood, the notion that further monetary stimulus has limited use is hardly a surprise. As I have cautioned so many times, when it comes to the consumer it is not the depth of a recession that matters, but rather its length. And while for policymakers and financiers this may feel like a three-year-old recession (and for some even just a three-week-old recession!), for the American consumer this is a decade-old recession that has deteriorated well into a depression. The average American is now financially and emotionally exhausted. And given the news reports out of Washington over the past month, they are also now afraid that they are at risk of losing some or all of their government safety net, too. Like the children of fighting, divorcing parents, they are now fearful of what an increasingly uncertain future holds.

While further fiscal stimulus – particularly job-related initiatives – may slow the pace of deterioration, I am increasingly afraid that further fiscal and monetary policy actions are now impotent agents against our current social mood. Where in 2000, the future was so bright that we’d need shades, in 2011, the future for many Americans is so dark that they can’t see their way forward.

The consequence will be price deflation -- and not just further price deflation across those debt-dependent purchases like homes and automobiles, but across all categories of consumer goods. And for the first time since the 1930s, American businesses will see that lower prices are not always met with greater demand.

Price Deflation on the Way?

My definition of deflation is "a decrease of money supply and credit with credit marked-to-market". Judging by symptoms of deflation and Fed's efforts at fighting it, the US is back in deflation now by my measure. In my model, falling prices are not a requirement for deflation.

The important point is not definition, but rather the expected conditions. Yet, the conditions I expect and indeed the conditions in the US right now (in aggregate) match deflationary scenarios, not inflationary ones.

Murphy calls for an "inflationary disaster" while Atwater calls for "price deflation across all categories of consumer goods".

I do not know if we see across the board price deflation Atwater calls for given peak oil constraints and an inept US energy policy that also affects food prices.

However, I do expect to see falling education costs and falling medical costs as well as falling prices in a broad array of consumer goods and services, especially if Republicans can get a few sensible deficit measures passed.

Whether that scenario happens or not, the idea "brink of inflationary disaster" is complete silliness unless and until the Fed can revive credit, yet the Fed is powerless to do so.

So, unless Congress goes really haywire, attitudes will change and deleveraging will play out before the US experiences serious inflation. Unfortunately, Fed and Congressional policies have only served to lengthen the deleveraging timeline.

Those looking for hyperinflation or even strong inflation have missed the boat again, and again, and again, and will continue to do so, interrupted by periodic inflation scares until debt-deflation plays out.

Understanding the Deflationary Cycle

To understand what is happening, why businesses are not hiring, why housing is stagnant, and where the economy is headed, one needs a model that takes into consideration five key factors ...

1. Mark-to-Market Measures of Bank Credit and Capitalization Ratios
2. Credit Cycle Theory
3. Attitudes of Banks, Businesses, and Consumers
4. Futility and Limits of Keynesian Stimulus
5. Futility of Monetary Stimulus

1 -Mark-to-Market Measures of Bank Credit and Capitalization Ratios

Banks cannot and will not lend unless they are not capital impaired and unless they have credit-worthy customers. Atwater noted Basel III was delayed until 2019. I noted on many occasions banks are still hiding investments off the balance sheets in SIVs and mark-to-market rules have been suspended several times.

As happened in Europe, delay tactics can only work for so long before the market questions if loans on the balance sheets of banks will ever be repaid. That time is now, not 2019. Thus banks are too capital impaired to take excessive risks, even if they wanted to. Moreover, too few credit-worthy businesses want to expand in the first place.

2 - Credit Cycle Theory

In accordance with long-wave, Kondratieff Cycle (K-Cycle) theory credit expansion and contraction cycles play out over decades. At least 75% of the time, continuously (not on and off), the economy grows in an inflationary manner. When deflation hits, few expect it because all many have known for their entire lives is inflation.

As long as consumers have ability and willingness to add debt an leverage, the Fed seems to have power to revive the economy via various stimulus efforts. Once a consumer deleveraging cycle starts, the Fed's power ends.

3 - Attitudes of Banks, Businesses, and Consumers

The willingness and ability of banks to lend and consumers to borrow and increase leverage is shot. Banks don't want to lend (or are to capital impaired to lend), and boomers are heading into retirement overleveraged in housing, without enough savings.

Consumers first thought tech stocks would be their retirement, then housing. Both dreams have been shattered. Consumers are now determined to pay down debt (saving), even if by outright default or walking away. Default and walking-away impacts banks willingness and ability to lend.

Think of attitudes like a pendulum. Attitudes can only go so far before they reverse. Housing reversed in 2007 as did the Nasdaq in 2000. Both reversed when the pool of greater fools ran out.

The Nasdaq is still nowhere close to old highs. These cycles last longer than most think. I expect housing will be weak for a decade once it bottoms, and it has not yet bottomed.

Finally, it's not just boomer attitudes that affect credit. Kids see their parents and grandparents arguing over debt, worried about bills, worried about jobs and vow not to repeat their mistakes. This point ties in with K-Cycle theory above.

4 - Futility and Limits of Keynesian Stimulus

Keynesian economists always want more, then more, then still more stimulus until the economy heals. Japan with debt-to-GDP ratio over 200% has proven such policies cannot ever work.

Keynesian economists always refuse to discuss the endgame, how the debt can be paid back, and what happens when stimulus stops.

The US has virtually nothing to show for all the make-shift, ready-to-go projects that temporarily put people back to work in 2009 and 2010. Not only did we repave roads that did not need paving, those hired still have debt-overhang and are still underwater on their houses.

All that happened was a delay in the day-of-reckoning. More Keynesian stimulus will only further delay the day-of-reckoning while adding to the national debt and interest on the national debt.

Priming-the-pump Keynesian theory will fail every time in a debt-deleveraging cycle. Indeed, it never works, it only appears to work until debt leverage is maxed out.

5 - Futility of Monetary Stimulus

As discussed above, monetary stimulus negatively affects the real economy for the temporary benefit of the financial economy and Wall Street. The tradeoff was not worth it except through the perverted-eyes of Wall Street.

Telling action in bank stocks says the limits of helping Wall Street may have even run out.

Many point to excess reserves as a sign of future inflation. I point to excess reserves as a sign of failed Fed policy. Commentary from Austrian economists shows they fail to understand how credit even works.

The idea those excess reserves are going to pour into the economy in a 10-1 leveraged fashion is simply wrong. Banks do not lend when they have excess reserves. Banks lend when they have credit-worthy borrowers, provided they are not capital impaired.

It is time Austrian economists finally wake up to this simple economic truth.

Academic Theory vs. Reality

Economists of all sorts stick to failed models.

• The Monetarist currency cranks want more monetary stimulus even though it is counterproductive
• The Keynesian clowns simply will not admit end-game constraints
• The Austrians for the most part either ignore credit or incorporate failed models of credit expansion into their theories.

Each camp points the finger at the others as to why the others are wrong. Ironically, none of the camps seems to understand the combined mechanics of debt-deflation, deleveraging, and attitudes.

That said, I side with the Austrians about what to do (essentially let things play out, while implementing much needed structural reforms).

Twelve Specific Recommendations

1. Banks and bondholders should take a hit. Banks are not going to lend anyway so bailing them out at the expense of taxpayers is both morally and economically stupid. End the bailouts, all of them, and prosecute fraud, the higher up the better.
   
2. Implement serious bank reform now, not 9 years from now. Banks should be banks, not hedge funds. This proposal will necessitate breaking up banks. So be it.
   
3. Scrap Davis-Bacon and all prevailing wage laws. Such laws drive up costs and have wreaked havoc on many cities and municipalities, now bankrupt or on the verge of bankruptcy.
4. Pass national right-to-work laws. Once again, we need to reduce costs on businesses and local governments to spur more hiring and reduce costs.
5. End collective bargaining rights of all public unions. The goal of unions is to provide the least service for the most money. The goal of government should be to provide the most services for the least money.
   
6. Scrap ethanol policy and end all tariffs.
7. Legalize hemp and tax it. Prison costs will go down, tax revenue will grow, and biofuel and fiber research will expand as hemp produces very soft fibers.
8. Corporate income tax rates should be lower in the US than abroad. Current policy encourages capital flight and jobs flight via lower tax rates on profits overseas than in the united states. This penalizes businesses that work only in the US, especially small businesses that do not have an army of lawyers and lobbyists.
9. Stop the wars and set a plan to bring home all US troops from Iraq, Afghanistan, and 140 or so other countries.The US can no longer afford to be the world's policeman.
   
10. Implement Paul Ryan's Medicare voucher proposal. It is the only way so far that anyone has proposed that puts much needed consumer "skin-in-the-game" that will reduce medical costs.
    
11. Legalize drug imports from Canada
12. End the Fed and fractional reserve lending. Both have led to boom-bust cycles of ever-increasing amplitude.

Those are the kinds of things we need to do, not throw more money at problems. The latter does nothing but drive up national debt and interest on the national debt for short-term gratification.

Notice how counterproductive Fed policy is and how counterproductive Obama's policies are.

The Fed wants positive inflation but businesses have not been able to pass the costs on. Instead, companies outsource to China. Those on fixed income get hammered.

Fool's Mission

Obama wants to create jobs via stimulus measures. It's a fool's mission.

Prevailing wages drive up the costs, few are hired, and the cost-per-job (created or saved) is staggering. Money never goes very far because the US overpays every step of the way.

Stimulus plans that do not fix the structural problems are as productive as pissing in the wind. Then when the stimulus dies, which it is guaranteed to do, a mountain of debt remains.

Instead, my 12-point recommendation list will fix numerous structural problems, create lasting jobs, and reduce the deficit. What more can you ask?

Mike "Mish" Shedlock
http://globaleconomicanalysis.blogspot.com
Click Here To Scroll Thru My Recent Post List

Italian PM Calls Vote of Confidence; 70,000 Protest in Rome Against Austerity; Strikers Shut Down Transport; European Stocks at July 2009 Levels

Attention turns to the German courts tomorrow for a ruling on the legality of bailouts. Today, eyes are on Italy.

Italian PM Calls Vote of Confidence

Bloomberg reports Berlusconi Cabinet Will Call for Confidence Vote on Revised Austerity Plan

Italian Prime Minister Silvio Berlusconi called a Cabinet meeting today to authorize a confidence vote in Parliament on an amended 45.5 billion-euro ($64.5 billion) austerity plan that prompted a general strike.

The meeting at 6 p.m. in Rome will pave the way for a vote on the measures, which will include raising the value-added tax rate by one percentage point to 21 percent, a 3 percent levy on incomes of more than 500,000 euros a year as well as an increase in the retirement age of women in the private sector starting in 2014, Berlusconi’s office said in an e-mailed statement.

Travel Woes

The eight-hour walkout by CGIL, Italy’s biggest union, disrupted travel and manufacturing as protests in Rome and other cities attracted as many as a million people, according to the union. Fifteen percent of workers at Fiat SpA (F) took part in the strike, the nation’s biggest manufacturer said by e-mail.

Fifty-eight percent of employees stayed off the job, the union said in a statement on its website, citing a survey. Innovation Minister Renato Brunetta, citing a poll of 10 percent of civil servants, said 3.1 percent of public-sector workers participated in the strike, according to an e-mailed statement.

About 50 percent of trains, most of them regional, were halted, according to CGIL. Rome’s two metro lines and local commuter trains were shut down, ATAC, the company that runs them, said in a statement on its website.

Stranded Passengers

Hundreds of people were stranded at airports in the capital and Milan as flights were delayed or canceled. Alitalia SpA said it canceled some domestic and international flights and Ryanair Holdings Plc (RYA) said it canceled 200 flights to and from Italy, affecting some 35,000 passengers.

Italian Workers Strike Against Austerity Measures

The New York Times reports Italian Workers Strike Against Austerity Measures

Thousands of workers took to the streets in Italy on Tuesday in a general strike to protest a package of ever-changing austerity measures required by the European Central Bank and now up for debate in the Italian Senate.

The eight-hour strike shut down transport and businesses nationwide. It was called by the C.G.I.L. union, which represents 2 million public and private sector workers, in opposition to a 45.5 billion-euro austerity package of tax hikes and spending cuts proposed by the Italian government last month to reduce Italy’s budget deficit by 2013.

The Northern League, the most powerful party in Mr. Berlusconi’s coalition, had been vehemently opposed to raising the retirement age for women, since in Italy public day care is scarce and grandmothers routinely serve as child care providers.

Addressing a crowd of an estimated 70,000 people in Rome on Tuesday, Susanna Camusso, the leader of C.G.I.L., called the change to the labor law “unjust” and threatened more strike actions if it weren’t removed.

“If Parliament doesn’t strike this from the bill, they have to know that we will use every path and initiative possible so that this shameful measure is removed,” she told an estimated 70,000 supporters outside the Colosseum on Tuesday.

Pierluigi Bersani, the leader of the center-left opposition, criticized the measures. “This package should be strengthened and made more equitable,” he said. “It’s useless to pass it quickly if it’s not done well. Otherwise we will end up having a new austerity package every week.”

On Monday, Mario Draghi, the outgoing Bank of Italy president and incoming president of the European Central Bank, became the latest European leader to pressure Mr. Berlusconi to approve the measures swiftly.

He said that Italy should “not take it for granted” that the European Central Bank would continue buying Italian debt.

Expect Hit to Tourism

One of Italy's bright spots is tourism. Don't expect that to last if transportation disruptions become the norm.

European Stocks Lowest in Two Years

Please consider European Stocks Drop to Two-Year Low; Shell, Lloyds Lead Decline

European stocks declined for a second day, dragging the Stoxx Europe 600 Index to the lowest in two years, amid concern that the global economy is slowing.

The Stoxx 600 lost 1.6 percent to 223.13 at the 4:30 p.m. close in London, the lowest since July 29, 2009. The gauge has tumbled 23 percent from this year's peak in February amid concern that Europe will fail to contain its sovereign-debt crisis and that the economic recovery in the U.S. will falter.

The Stoxx 600 pared an earlier loss of as much as 3.6 percent as the European Commission said it may present draft legislation on joint bond sales by euro-area nations when completing a report on the feasibility of common debt sales, putting pressure on Germany to drop its opposition.

Euro Bonds Aren't Happening Anytime Soon, If Ever

This is the third reported euro-bond rally attempt in a few week. Here's the real deal: they aren't happening.

Italy Bond Yields Relatively Quiet



Yield on Italian 10-Year government bonds was relatively quiet on a day of massive turmoil elsewhere related to Swiss Franc intervention (see Switzerland to "Buy Foreign Currency in Unlimited Quantities", Sets Euro Peg 1.20; Extreme Mid-Day Currency Volatility; Gold is Safe Haven, Not Francs)

No Confidence Stunt

Berlusconi's approval rating is 22%. Nonetheless, he will survive a vote of no confidence because for now, he has over 50% of the votes in Parliament. That Berlusconi needs to pull this stunt is certainly not confidence inspiring.

Mike "Mish" Shedlock
http://globaleconomicanalysis.blogspot.com
Click Here To Scroll Thru My Recent Post List

Greek 1-Year Bond Yield Hits 88.48%; No Comments from Trichet, ECB, or EU

Greek one-year bonds march relentlessly towards a yield of 100%.



No Comments from Trichet, ECB, or EU

During this massive spike, there has been no comment from outgoing ECB president Jean-Claude Trichet, incoming ECB president Mario Drahgi, or for that matter anyone in the ECB or EU regarding Greek bond yields and the implications of this move.

Here is some advice for Trichet and Drahgi: If you ignore a default, it will not go away.

Not that Trichet is listening, but I offered additional advice in Trichet Warns Heads of States; Italian President Warns "Markets Lost Confidence in Italy"; IMF Warns again on Bank Capitalization; Mish Warns Trichet

Mike "Mish" Shedlock
http://globaleconomicanalysis.blogspot.com
Click Here To Scroll Thru My Recent Post List

Switzerland to "Buy Foreign Currency in Unlimited Quantities", Sets Euro Peg 1.20; Extreme Mid-Day Currency Volatility; Gold is Safe Haven, Not Francs

In a stunning morning press release, Swiss National Bank sets minimum exchange rate at CHF 1.20 per euro

The current massive overvaluation of the Swiss franc poses an acute threat to the Swiss economy and carries the risk of a deflationary development.

The Swiss National Bank (SNB) is therefore aiming for a substantial and sustained weakening of the Swiss franc. With immediate effect, it will no longer tolerate a EUR/CHF exchange rate below the minimum rate of CHF 1.20. The SNB will enforce this minimum rate with the utmost determination and is prepared to buy foreign currency in unlimited quantities.

Even at a rate of CHF 1.20 per euro, the Swiss franc is still high and should continue to weaken over time. If the economic outlook and deflationary risks so require, the SNB will take further measures.

Line in the Sand

Reuters Reports Swiss draw line in the sand to weaken franc

Using some of the strongest language from a central bank in the modern era, the SNB said it would no longer tolerate an exchange rate below 1.20 francs to the euro and would defend the target by buying other currencies in unlimited quantities.

The move immediately knocked about 8 percent off the value of the franc, which had soared by a third since the collapse of Lehman Brothers in 2008 as investors used it as a safe haven from the euro zone's debt crisis and stock market turmoil.

The move was seen as a new shot in the currency wars, with Japan expected to try to weaken the yen if the Swiss action diverts more safe-haven inflows into the currency. Gold, which hit a record higher earlier on Tuesday, is also seen gaining.

"That was the single largest foreign exchange move I have ever seen," said World First chief economist Jeremy Cook. "This dwarfs moves seen post Lehman Brothers, 7/7, and other major geopolitical events in the past decade."

Gold, is Safe Haven, Not Francs

At 1:25 AM today I wrote Gold Hits New High of $1920; Miners Should Follow.

When I wrote that, I had no idea fireworks would hit about an hour later. First, take a look at what I said:

It only took 7 sessions to take back a sharp $200 plunge about a week ago.



click on chart for sharper image

In 2008, gold sold off with everything else but treasuries. Miners were crushed. This time I expect gold and miners to do much better in a big market decline, perhaps even rise.

Other Currencies Look Sick

The Euro, the US dollar, the Yen, and the Yuan all look sick for differing reasons. The Eurozone may break apart, Bernanke is likely to double up on QE and the US deficit is out of control, Japan has a horrendous debt problem, and inflation is out of control in china as is China's infrastructure spending and housing bubble.

The one thing the Euro, the US dollar, the Yen, and the Yuan all have in common is competitive currency debasement by central bankers hoping to increase export to everyone else. Mathematically that is impossible.

Once currency stands out (and it's not the Swiss Franc). It's gold.

The fireworks started an hour or so later. Here are some charts to consider.

Swiss Franc 15-Minute Chart


US$ Index 15-Minute Chart



Gold 15-Minute Chart



Unlike the Swiss Franc, Gold continued on its merry way in the face of competitive currency debasement.

Mike "Mish" Shedlock
http://globaleconomicanalysis.blogspot.com
Click Here To Scroll Thru My Recent Post List

Economic Crossroads of Immense Consequences: Will Governments and Central Bankers Bail Out Bondholders and Banks (again), or the Public at Large?

As noted previously, it is crystal clear to everyone but bankers and brain-dead analysts that banks need to be recapitalized, in Europe and the US as well.

The crucial question is "how?".

In 2008, US taxpayers bailed out AIG (Goldman Sachs really), Fannie Mae, Citigroup, Bank of America and scores more financial corporations of all sizes, too numerous to mention.

Why?

Ben Bernanke, Hank Paulson, Tim Geithner, Larry Summers, and a parade of bankers and ex-Goldman employees all said this had to be done to spur lending. It was a lie. The bailouts were nothing but a gigantic transfer-of-wealth scheme from the poor to the wealthy.

Banks are not lending because they are still capital impaired, even after the massive bailouts and Fed reflation efforts. Worse yet, corporations do not want to expand because the underlying problem of consumer debt has not gone away.

Similar Setup in Europe

A similar setup is underway in Europe, except it's sovereign debt not mortgages in the spotlight. As in the US, the ECB will not agree to let bondholders take a substantial hit, even though it is perfectly obvious Greece will default.

Greek 1-Year Yield Hits 82%



If 82% interest rates do not scream default, nothing does.

Yet Trichet and the Central Banks do nothing but insist on more austerity measures for Greece.

Yes, Greece has structural problems and they need to be fixed, but where is the written rule "Investing is Winning"?

Investing and Speculation have Risks

Investing and speculation have risks. Those who take risks should take responsibility, not taxpayers.

I salute Iceland and its taxpayers for telling the ECB, the IMF, and the rest of Europe to go to hell. The Icelandic economy is now in repair.

Eurozone Torture

In sharp contrast, Greece, Spain, Ireland, and Italy have nothing but torture to look forward to for the rest of the decade if taxpayers have to foot the bill for stupid loans made by banks.

The rationalization "we need to bail out the banks so they can make loans" has been disproved in spades. Of course anyone with any common sense knew it was a lie in the first place.

Will Bondholders Be Bailed Out Again?

Whether bondholders get bailed out again is the critical question. John Hussman picks up the discussion in An Imminent Downturn: Whom Will Our Leaders Defend?

The global economy is at a crossroad that demands a decision - whom will our leaders defend? One choice is to defend bondholders - existing owners of mismanaged banks, unserviceable peripheral European debt, and lenders who misallocated capital by reaching for yield and fees by making mortgage loans to anyone with a pulse. Defending bondholders will require forced austerity in government spending of already depressed economies, continued monetary distortions, and the use of public funds to recapitalize poor stewards of capital. It will do nothing for job creation, foreclosure reduction, or economic recovery.

The alternative is to defend the public by focusing on the reduction of unserviceable debt burdens by restructuring mortgages and peripheral sovereign debt, recognizing that most financial institutions have more than enough shareholder capital and debt to their own bondholders to absorb losses without hurting customers or counterparties - but also recognizing that properly restructuring debt will wipe out many existing holders of mismanaged financials and will require a transfer of ownership and recapitalization by better stewards.

In game theory, there is a concept known as "Nash equilibrium" (following the work of John Nash). The key feature is that the strategy of each player is optimal, given the strategy chosen by the other players. For example, "I drive on the right / you drive on the right" is a Nash equilibrium, and so is "I drive on the left / you drive on the left." Other choices are fatal.

Presently, the global economy is in a low-level Nash equilibrium where consumers are reluctant to spend because corporations are reluctant to hire; while corporations are reluctant to hire because consumers are reluctant to spend. Unfortunately, simply offering consumers some tax relief, or trying to create hiring incentives in a vacuum, will not change this equilibrium because it does not address the underlying problem. Consumers are reluctant to spend because they continue to be overburdened by debt, with a significant proportion of mortgages underwater, fiscal policy that leans toward austerity, and monetary policy that distorts financial markets in a way that encourages further misallocation of capital while at the same time starving savers of any interest earnings at all.

We cannot simply shift to a high-level equilibrium (consumers spend because employers hire, employers hire because consumers spend) until the balance sheet problem is addressed. This requires debt restructuring and mortgage restructuring (see Recession Warning and the Proper Policy Response ). While there are certainly strategies (such as property appreciation rights) that can coordinate restructuring without public subsidies, large-scale restructuring will not be painless, and may result in market turbulence and self-serving cries from the financial sector about "global financial meltdown." But keep in mind that the global equity markets can lose $4-8 trillion of market value during a normal bear market. To believe that bondholders simply cannot be allowed to sustain losses is an absurdity. Debt restructuring is the best remaining option to treat a spreading cancer. Other choices are fatal.

Greek debt races toward default

On Friday, the yield on one-year Greek debt soared to 67% [Mish note: On Monday it hit 82% as shown above]. Europe is demanding greater and greater austerity as a condition for additional bailouts, but austerity has already resulted in a depression for the people of Greece, and a loss of tax revenues that has paradoxically but very predictably resulted in even larger budget deficits.

To see the one-year yield leaping suddenly to 67% is an indication that we should brace for a very serious turn of events almost immediately.

One problem appears to be that European banks are eagerly volunteering for a 21% haircut on the debt (which is trading far less than that on the open market), but only in exchange for shifting the debt covenants from Greek law to more binding international law. This would be a bad deal for Greece, because it would essentially impose further severe austerity on the Greek people in return for a debt reduction that would still leave the debt/GDP ratio well above 100% and growing. Greece should reject this, because a larger default is inevitable, and it would serve the country best to maintain as much control over the size of the default as possible. Ultimately, my impression is that it would serve Greece best to exit the Euro, but it appears too late for this to be graceful.

What is particularly unfortunate is that all of this is unfolding in a very predictable way, but the constant attempts to ignore reality and defer the inevitable restructuring is imposing enormous costs on the public. As Ken Rogoff and Carmen Reinhart wrote two years ago in their book This Time It's Different, "As of this writing, it remains to be seen whether the global surge in financial sector turbulence of the late 2000s will lead to a similar outcome in the sovereign debt cycle. The precedent [a close historical overlap between banking crises and external debt crises in data from 1900-2008] however, appears discouraging on that score. A sharp rise in sovereign defaults in the current global financial environment would hardly be surprising."

Stimulus

By the way, unlike Hussman, I think the best stimulus measures would come from structural changes such as scrapping prevailing wage laws, slashing military spending, and ending collective bargaining of public unions, combined with a serious overhaul of Medicare.

If we are going to revamp infrastructure, it should be done sensibly and at the lowest cost possible to taxpayers. That means scrapping Davis-Bacon for sure.

Should Greece Exit the Euro?

Hussman writes "Ultimately, my impression is that it would serve Greece best to exit the Euro, but it appears too late for this to be graceful."

One might wonder what the consequences of that action might be.

In Euro break-up – the consequences UBS addresses that very issue. It's a 21 page PDF that interestingly begins with the statement "The Euro should not exist".

That's a true statement but the reason as UBS explains "the Euro as it is currently constituted – with its current structure and current membership – should not exist. This Euro creates more economic costs than benefits for at least some of its members – a fact that has become painfully obvious to some of its participants in recent years."

Simply put, currency unions without fiscal ties have never worked and the Eurozone as it exists today will not work either.

The report goes through an analysis of the costs if a strong nation pulls out (say Germany) and a weak nation pulls out (say Greece).

In the case of Germany leaving, the report states "If a strong economy like Germany leaves the Euro there arenon-currency trade consequences. The exit from the European Union raises potential trade barriers and border disruption. Further, the exit causes a growth shock to the rump Euro, which undermines the export potential."

This is the same conclusion of Michael Pettis as noted in Long-Term Outlook for China, Europe, and the World; 12 Global Predictions. Here are predictions 10-11.

10. Spain, other PIIGS Leave Euro

Spain will leave the euro and will be forced to restructure its debt within three or four years. So will Greece, Portugal, Ireland and possibly even Italy and Belgium.

The only strategies by which Spain can regain competitiveness are either to deflate and force down wages, which will hurt workers and small businesses, or to leave the euro and devalue. Given the large share of vote workers have, the former strategy will not last long. But of course once Spain leaves the euro and devalues, its external debt will soar. Debt restructuring and forgiveness is almost inevitable.

11. Germany Will Not Voluntarily Share Costs

Unless Germany moves quickly to reverse its current account surplus – which is very unlikely – the European crisis will force a sharp balance-of-trade adjustment onto Germany, which will cause its economy to slow sharply and even to contract. By 2015-16 German economic performance will be much worse than that of France and the UK.

For one or two years the deficit countries will try to bear the full brunt of the adjustment while Germany scolds and cajoles from the side. Eventually they will be unable politically to accept the necessary high unemployment and they will intervene in trade – almost certainly by abandoning the euro and devaluing. In that case they automatically push the brunt of the adjustment onto the surplus countries, i.e. Germany, and German unemployment will rise. I don’t know how soon this will happen, but remember that in global demand contractions it is the surplus countries who always suffer the most. I don’t see why this time will be any different.

Do monetary unions break up without civil wars?

UBS tackles an interesting question "Do monetary unions break up without civil wars?"

It takes enormous stress for a government to get to the point where it considers abandoning the lex monetae of a country. The disruption that would follow such a move is also going to be extreme. The costs are high – whether it is a strong or a weak country leaving – in purely monetary terms. When the unemployment

consequences are factored in, it is virtually impossible to consider a break-up scenario without some serious social consequences.

Past instances of monetary union break-ups have tended to produce one of two results. Either there was a more authoritarian government response to contain or repress the social disorder (a scenario that tended to require a change from democratic to authoritarian or military government), or alternatively, the social disorder worked with existing fault lines in society to divide the country, spilling over into civil war. These are not inevitable conclusions, but indicate that monetary union break-up is not something that can be treated as a casual issue of exchange rate policy

The likelihood of civil war seems remote.

However, I agree with the UBS statement "it is virtually impossible to consider a break-up scenario without some serious social consequences"

Investing in a break-up scenario

Inquiring minds may be wondering how to play this from an investment standpoint. UBS concludes ...

Our base case for the Euro is that the monetary union will hold together, with some kind of fiscal confederation (providing automatic stabilisers to economies, not transfers to governments).

But what if the disaster scenario happens? How can investors invest if they believe in a break-up, however low the probability? The simple answer is that they cannot. Investing for a break-up scenario has not guaranteed winners within the Euro area. The growth consequences are awful in any break-up scenario. The risk of civil disorder questions the rule of law, and as such basic issues such as property rights. Even those countries that avoid internal strife and divisions will likely have to use administrative controls to avoid extreme positions in their markets.

The only way to hedge against a Euro break-up scenario is to own no Euro assets at all.

Zero Hedge offers more comments in UBS Quantifies Costs Of Euro Break Up, Warns Of Collapse Of Banking System And Civil War

Warnings Everywhere

In case you missed it, please consider Trichet Warns Heads of States; Italian President Warns "Markets Lost Confidence in Italy"; IMF Warns again on Bank Capitalization; Mish Warns Trichet

Breakup or Not, Avoid Euro Assets

UBS does not think a breakup will happen. I think a breakup is quite likely, as does Michael Pettis. Timing is uncertain.

Regardless, avoidance of Euro assets seems wise for multiple reasons.

• The ECB and Eurozone governments seem hell-bent on protecting bondholders and imposing severe austerity measures. Those will impede growth in Europe.
  
• Trichet will be gone in October and will be replaced by Italian central bank head, Mario Draghi. Draghi will act to protect Italy and that may not be good for the rest of Europe.
• Draghi is an ex-vice chairman and managing director of Goldman Sachs International. I presume we can guess whether he will act to protect banks and bondholders or promote growth.
• Recapitalization of European banks is coming and it is likely to be painful, perhaps more painful than needed actions in the US.
  

Mike "Mish" Shedlock
http://globaleconomicanalysis.blogspot.com
Click Here To Scroll Thru My Recent Post List

Gold Hits New High of $1920; Miners Should Follow

It only took 7 sessions to take back a sharp $200 plunge about a week ago.



click on chart for sharper image

In 2008, gold sold off with everything else but treasuries. Miners were crushed. This time I expect gold and miners to do much better in a big market decline, perhaps even rise.

Other Currencies Look Sick

The Euro, the US dollar, the Yen, and the Yuan all look sick for differing reasons. The Eurozone may break apart, Bernanke is likely to double up on QE and the US deficit is out of control, Japan has a horrendous debt problem, and inflation is out of control in china as is China's infrastructure spending and housing bubble.

The one thing the Euro, the US dollar, the Yen, and the Yuan all have in common is competitive currency debasement by central bankers hoping to increase export to everyone else. Mathematically that is impossible.

Once currency stands out (and it's not the Swiss Franc). It's gold.

Mike "Mish" Shedlock
http://globaleconomicanalysis.blogspot.com
Click Here To Scroll Thru My Recent Post List

Trichet Warns Heads of States; Italian President Warns "Markets Lost Confidence in Italy"; IMF Warns again on Bank Capitalization; Mish Warns Trichet

The warnings are flying today so let's take a look at a few of them, including a couple of my own.

Trichet Warns Heads of States

The New York Times reports Euro Zone Leaders Get Warning From Central Bankers

With stock and bond markets on a roller-coaster ride reminiscent of the 2008 financial crisis, Jean-Claude Trichet and Mario Draghi, the current and incoming chiefs of the European Central Bank, had a pointed message for European leaders Monday: Get your act together.

Europe’s top central bankers couched their admonishment in diplomatic terms during speeches in Paris focusing on the world three years after the collapse of Lehman Brothers. But the warning was clear: politicians are still not moving quickly enough to ensure that the euro zone’s debt crisis does not become seriously worse.

Europe needs to “make a quantum step up in economic and political integration,” Mr. Draghi said as the bond yields of Greece, Italy and other countries with weak finances jumped Monday amid investor fears that such efforts might be unraveling.

Mr. Draghi’s call goes to the heart of what politicians now acknowledge is a root cause of Europe’s crisis, but that few seem ready to change: the lack of a federal fiscal union that would make the euro zone look more like the United States. The idea is something that Germany and others are wary of because it could undermine their national authority.

“All this reminds one of the fall of 2008,” Josef Ackermann, the chief executive of Deutsche Bank, said in Frankfurt, Bloomberg News reported.

Mr. Trichet, who turns over the E.C.B. presidency to Mr. Draghi at the end of October, renewed calls for a federal European government, with a federal finance ministry. Those institutions would have the power to “impose decisions on countries” whose own policies threaten the rest of the euro union, Mr. Trichet said at the Paris conference, sponsored by the Institute Montaigne, a research group.

In Brussels, meanwhile, an unusual gathering of former European leaders, academics and industrialists urged politicians to recognize that part of the answer to Europe’s ills was to relinquish some sovereignty to keep the euro alive.

“It has become clear that a monetary union without some form of fiscal federalism and coordinated economic policy will not work,” the group said in a statement. Its members include a former German chancellor, Gerhard Schröder; a former Finnish prime minister, Matti Vanhanen; and Nouriel Roubini, a New York University economist.

Italian President Warns "Markets Lost Confidence in Italy"

Italy's president is nothing more than a figurehead with little power. Nonetheless, his message comes through loud and clear.

Reuters reports Italian President warns on "alarming" debt signals

Italian President Giorgio Napolitano urged swift action to strengthen planned austerity measures on Monday, saying a severe market selloff was a clear warning that markets had lost confidence in Italy.

"No one can underestimate the alarming signal from today's surge in the differential between the prices of Italian public debt instruments and those of Germany," Napolitano said in a statement.

"It is a sign of the persistent difficulty in regaining trust as is urgently and indispensably required," he said, adding that he urged all parties not to block measures needed to restore credibility.

ECB Warns its Willingness to Buy Bonds "should not be taken for granted"

Here is a pair of bonus warning from the Reuters article.

The ECB has also stepped up its warnings, with Mario Draghi, who takes over as head of the central bank in November, delivering a pointed warning on Monday that its willingness to continue buying bonds "should not be taken for granted."

The CGIL, Italy's largest union, has called a general strike on Tuesday to protest the austerity measures, which have also been condemned as "weak and ineffective" by the country's main employers federation, Confindustria.

A poll published by the left-leaning daily La Repubblica on Monday showed support for Berlusconi's government has crumbled, falling to 22 percent in September, from 27 percent in June and 29 percent in February this year.

The Prime Minister's approval rating falling to 22% is a huge warning sign as is the strike by CGIL. Voters have had enough austerity programs.

In Germany, voters warn Merkel thay have had enough of her.

IMF Renews Warning on Bank Capitalization

France 24 reports IMF head warns again about Europe bank capitalisation

The head of the International Monetary Fund Christine Lagarde insisted that European banks needed extra capital, in a magazine interview on Monday.

"We believe that overall it is necessary to recapitalise European banks so that they are strong enough to withstand the risks linked to the debt crisis and weak growth," Lagarde told the weekly magazine Der Spiegel.

Recapitalisation was needed "to avert contagion" of the problems, she said.

German banking shares fell heavily in initial trading on Monday.

Shares in Deutsche Bank were showing a fall of 5.34 percent to 24.63 euros and Commerzbank shares fell by 4.37 percent to 1.84 euros on renewed concern about the eurozone debt crisis owing to new strains over the Greek programme to reform public finances.

Hello Trichet, Draghi How about a Little Realism?

This is my warning to Trichet:

Hello Mr. Trichet.

The odds 17 sovereign states "get their act together" quickly regarding a fiscal union is zero.

There is no agreement on Eurobonds even from Germany and France, so how are 17 countries supposed to quickly agree on that?

Finland and Austria want collateral, and pray tell why shouldn't they? Is every country supposed to do exactly what you want?

Greece is going to default and you and your big ego made matters worse by refusing to accept that fact, so much so that you and the ECB failed to plan for it.

You want 17 countries to get their act together. How about one central bank, the ECB, led by you, get its act together and admit your policies have failed? How about the ECB coming up with a legitimate plan for dealing with it this crisis instead of illegally making demands on sovereign nations?

The market gave you fair warning on Greece and you refused to see it. Now the market has said "time's up".

Face the facts Mr. Trichet "The Euro has failed."

Mr. Trichet, you better come up with a plan to deal with the aftermath, because odds of a Eurozone breakup are large and growing.

Given Trichet was one of the key architects of the now-failed Euro experiment, much of what is happening now is his fault.

General Market Warning

I repeat my general market warning made on August 4: Crashes Happen When "Oversold"

Last evening in an interview with Chris Martenson I said "This is not a prediction Chris, but markets does not crash on overbought conditions, they crash on oversold conditions."

This is not a crash yet, but it could very well be the start of one.

Mike "Mish" Shedlock
http://globaleconomicanalysis.blogspot.com
Click Here To Scroll Thru My Recent Post List

CAM Bank, Taken-Over by Bank of Spain, Reports €1.1 Billion Loss, 19% Non-Performing Loans

On July 25, the Wall Street Journal reported Bank of Spain to Take Over CAM

Spain's central bank said Friday it decided to take over Caja de Ahorros del Mediterraneo as the country's plans to clean up its ailing savings banks enter their final phase.

Spain's Fund for Orderly Bank Restructuring, or FROB—which is controlled by the central bank—will take over the management of CAM, inject €2.8 billion ($4 billion) of new capital and prepare to sell it on to another institution. It will also give CAM a €3 billion credit line to ensure it has sufficient liquidity to meet all its obligations.

"As a result, creditors and depositors can be completely at ease," the Bank of Spain said in a statement.

CAM had already requested €2.8 billion in new capital to meet new minimum solvency requirements the Spanish government set earlier this year, which meant that the FROB would have a large stake in the bank. But the Bank of Spain's decision to take over the institution and prepare it for sale signals it believes CAM is no longer a viable stand-alone entity.

CAM Lost €1.1 billion in Recent Announcement

Please consider CAM lost 1.136 billion, delinquencies reached 19%

It do not take long for CAM to blow much of that €2.8 billion injection.

• CAM informed the National Securities Market of a loss of 1,136 million euros in the first six months of the year.
• The non-performing-loan ratio was 19% as of June 30, 2011 compared to of 9.1% in December 2010.

CAM is tiny relative to all the other European bank issues. However, the important point is to expect to see more Spanish bank implosions because they are coming.

Mike "Mish" Shedlock
http://globaleconomicanalysis.blogspot.com
Click Here To Scroll Thru My Recent Post List

Deutsche Bank CEO says "It's Obvious Many Banks Will Not Survive if Forced to Value Sovereign Debt at Market Prices"

Josef Ackermann, CEO of Deutsche Bank admitted the obvious today with statements recognizing that many organizations will fail at mark-to-market pricing. To show you the Fantasyland world these bankers live in, Ackermann also believes European banks are now much better capitalized and less dependent on short-term financing.

Courtesy of Google Translate please consider Many banks will not survive if forced to value sovereign debt at market prices

The chairman of Deutsche Bank, Josef Ackermann, today highlighted another obstacle to resolving the debt crisis that crosses the euro zone.

"It is obvious that many organizations will not survive in the event of having to reassess their portfolios of sovereign debt at market prices," Ackerman said in his speech at a banking conference held in Frankfurt.

These comments came after the controversy arose Christine Lagarde, managing director of IMF, which has called for an urgent recapitalization of European banking. According to the institution, the shortage could reach 200,000 million euros, resulting from exposure to sovereign debt.

Ackerman believes that the turmoil facing the financial sector is reminiscent of the crisis suffered in 2008 after the collapse of Lehman Brothers, but also believes that European banks are now much better capitalized and less dependent on short-term financing term.

However, the president of Germany's biggest bank predicted a long period of difficulties for entities to still "have not provided convincing answers to the crisis," while the prospects for revenue growth are "limited to some extent ".

Somehow we are supposed to believe banks do not need to raise capital, even though banks cannot survive mark-to-market pricing, and even though a very biased head of the IMF states that European banks need to raise capital.

Only in the fantasyland world where there are no sovereign debt defaults can banks remotely be considered adequately capitalized. The stress-free tests came to the same conclusion as Ackermann by the same ridiculous measure (assuming no losses on sovereign debt).

Europe rejects IMF call for more bank capital

Reuters reports Europe rejects IMF call for more bank capital

European politicians on Thursday rejected an International Monetary Fund call for banks to raise up to 200 billion euros ($290 billion) in new capital, adding to fears that policymakers may be underestimating the severity of the debt crisis.

IMF chief Christine Lagarde's call on Saturday for mandatory capitalization of European banks to prevent a world recession has reignited a debate over whether they have raised sufficient capital to withstand a severe downturn.

The IMF, the International Accounting Standards Board (IASB) and bank analysts have voiced concerns about a capital shortfall, while European regulators, politicians and banking associations argue that banks have a sufficient cushion to cope with market turbulence and worries over sovereign debt after several rounds of capital raising across the continent.

A European source told Reuters on Wednesday that the IMF had estimated European banks could face a capital shortfall of 200 billion euros, a figure rejected by European bankers and policymakers.

The IMF figure is much higher than European Union estimates of banks' capital needs following stress tests in July which showed banks needed to raise 2.5 billion euros ($3.6 billion), less than had been expected before the tests.

DAX Down 30% from Year's High, Bank Stocks Hammered Again

Bloomberg reports German Stocks Drop to Two-Year Low as Deutsche Bank, Commerzbank Decline

German stocks retreated to their lowest level since August 2009 after German Chancellor Angela Merkel’s party suffered its fifth election loss this year and European services and manufacturing growth weakened in August.

Deutsche Bank AG (DBK) fell to its lowest price since March 2009 as the lender is among 17 sued by the U.S. for $196 billion.

The benchmark DAX Index (DAX) slumped 5.3 percent to 5,246.18 at the 5:30 p.m. close in Frankfurt, its third straight decline. The gauge has retreated 30 percent from this year’s high on May 2 as reports in Europe and the U.S. spurred concern that the economic recovery is stalling. The drop has left the DAX trading at 8 times the estimated earnings of its companies, the lowest valuation since Bloomberg began collecting the data in 2006. The broader HDAX Index declined 5.2 percent today.

Deutsche Bank, Germany’s biggest bank, plummeted 8.9 percent to 23.72 euros, its lowest price in more than two years, as it was among 17 banks to be sued by the U.S. to recoup money spent on mortgage-backed securities bought by Fannie Mae and Freddie Mac.

The Frankfurt-based lender declined to comment on a Financial Times report that the U.K. Serious Fraud Office is examining Deutsche Bank’s packaged securities deals for signs of wrongdoing. The SFO hasn’t started an official investigation and is at the stage of gathering evidence, the FT said.

US and European Banks Had Ample Opportunity to Recapitalize

US and European banks had ample opportunity to recapitalize in late 2009 and all of 2010 in the wake of global reflation tactics by Fed chairman Ben Bernanke and central bankers in general. They failed to do so.

It's crystal clear to everyone but bankers and brain-dead analysts that banks need to recapitalize, except now it will happen after share prices have collapsed.

Bank of America is now trading at $7.25 (and barring a miracle it will be lower tomorrow). It could have and should have raised capital when shares were close to $20 in April 2010. Of course Bank of America should never have purchased Countrywide Financial or Merrill Lynch in the first place, so one has to wonder what the hell these CEOs do for the enormous salary and benefits compensation they receive.

Mike "Mish" Shedlock
http://globaleconomicanalysis.blogspot.com
Click Here To Scroll Thru My Recent Post List

European Equities Hammered; German DAX Down 5%; US Futures Down 2%; Italy 10-Year Yield Sharply Higher at 5.56%; Gold Hits 1900 Again

European Indices



Click here to refresh Yahoo!Finance Major World Indices

Asia-Pacific Indices



Italy 10-Year Government Bond Yield



Last month the ECB stepped in to "support" Italian bonds. What is it going to do, buy all of them?

Metals



Much-to-do was made over the recent sharp plunge in gold. The pullback lasted precisely three days and now gold is flirting with all-time highs once again.

In bull markets, sharp pullbacks need to be bought, and in bear markets sharp rallies sold. The only trick is catching the turning point, and that is frequently not easy.

However, given the Eurozone crisis, and the likelihood that central banks and governments everywhere will attempt more fiscal and monetary stimulus, it is foolish to call a top in gold as many have done all year.

Mike "Mish" Shedlock
http://globaleconomicanalysis.blogspot.com
Click Here To Scroll Thru My Recent Post List

Telegraph Reports Italy Needs to Rollover Record €62-Billion of Bonds in September; On September 7, German Court Rules on Bailouts

On September 7 Germany's top court to rule on euro bailouts.

The Karlsruhe-based Federal Constitutional Court will announce its verdict on September 7 at 4 a.m. EDT, it said in a statement on Tuesday.

The court is considering three lawsuits brought by six eurosceptic plaintiffs -- five academics and a lawmaker from the Bavarian sister party to Chancellor Angela Merkel's Christian Democrats -- against German-backed international bailout schemes for Greece, Ireland and Portugal.

The plaintiffs argue that the bailouts, which total 273 billion euros ($393 billion), violate property rights and other protections in the German and European constitutions, and break the "no-bailout" clause in the European Union's treaty, which says neither the EU nor member states should take on other governments' liabilities.

Legal experts believe the court is extremely unlikely to block Germany's participation in the multi-year bailouts, or in an additional 109 billion euro package of official aid for Greece that euro zone leaders announced last month.

However, many legal experts and some government sources say they expect the court to set conditions for German participation in future bailouts, perhaps giving the German parliament a bigger say in approving it. That makes the court's verdict key for the whole euro zone.

For example, the eight judges could require German contributions to the European Stability Mechanism, the planned regional bailout fund which will start operating in 2013, to be subject to a vote by Germany's parliament. Currently, this is not formally mandated.

Any changes, even parliamentary approval will leave the door open at a later date for saying enough is enough.

Biggest Ever Italian Bond Rollover in September

The Telegraph reports Italy needs to rollover €62-billion of bonds in September. The Globe and Mail claims €46-billion.

Either way, September will be a big month.

Please consider German endgame for EMU draws ever nearer.

Finance minister Wolfgang Schäuble could hardly have chosen a more toxic term than "Bevollmächtigung" or general enabling power when he requested blanket authority from the Bundestag for EU rescues, as if Weimar were so soon forgotten. He was roundly rebuffed.

You can feel the storm brewing in Germany. Within days of each other, President Christian Wulff accused the European Central Bank of going "far beyond" its mandate and subverting Article 123 of the Lisbon Treaty by shoring up insolvent states, and Bundesbank chief Jens Weidmann said bail-out policies had "completely gutted" the EU law.

Both believe the EU Project has taken a dangerous turn. Fiscal powers are slipping away to a supra-national body beyond sovereign control. "This strikes at the very core of our democracies. Decisions have to be made in parliament in a liberal democracy. That is where legitimacy lies," said Mr Wulff.

We will find out to what extent Germany’s constitutional court shares these fears when it rules this Wednesday on the legality of the EU rescue machinery, and delivers its verdict of life or death for monetary union.

The assumption this time is that the eight judges will insist on beefed up powers for the Bundestag, but will not disturb the existing nexus of bail-outs and bond purchases. That is the most likely outcome.

Whether they go any further is the existential question for EMU. If they rule that the permanent bail-out fund (ESM) after 2013 breaches treaty law, they will queer the pitch greatly since the viability of the current fund (EFSF) depends on a hand-over.

If they rule in any significant way that the EFSF itself breaches Lisbon’s `no bail-out’ clause, or even that Germany cannot participate until the Treaty is changed, market confidence in monetary union will collapse instantly.

Whatever the court does, the simmering revolt in the Bundestag over recent weeks lays bare the salient strategic fact that Germany is not about to embrace fiscal union or quadruple the EFSF to €2 trillion, as deemed necessary by City analysts and EU officials to stabilize Italy and Spain. Nor will it pay for a third Greek rescue.

The EU-IMF Troika left Athens abruptly on Friday, blaming Greece for failure to comply. The equal failure is the scorched-earth austerity policies imposed by the EU itself. Fiscal deflation cannot work in a rigid economy with a large trade deficit and a high debt stock. It ensures a Fisherite debt deflation spiral.

The IMF must know from its errors in Argentina a decade ago that Greece needs a 40pc devaluation and 50pc debt forgiveness to claw back to viability. Yet the EU has blocked both, and the Fund has until now acquiesced.

Needless to say, battered banks, insurance companies, and pension fund will not wait for further rounds of punishment. They know that Italy must redeem €14.6bn of debt this week and €62bn by the end of September, the highest ever in a single month. It must roll over €170bn by December.

The ECB can in theory hold the line by soaking up the entire public debt of Italy, the world’s third largest at €1.84 trillion. The question is whether it can plausibly act on such a theory when the president of EMU’s dominant power deems this to be illegal.

Troika Abruptly Walks Out of Talks in Athens

In case you missed it, last Friday Inspectors leave Greece after talks are suspended

THE STRUGGLE to keep the ailing Greek economy afloat took a further turn for the worse as the EU-IMF “troika” abruptly suspended talks in Athens on the release of the next round of rescue aid to the country.

A team of troika inspectors unexpectedly left Greece yesterday after the emergence of divisions with the government over the execution of reforms agreed in its first international bailout.

With the release of each round of bailout loans contingent on the delivery of agreed reforms, the latest breakdown raises fresh questions about the government’s capacity to implement the rescue plan.

The dispute comes as Greece tries to persuade private creditors to bear investment losses as a condition of its second bailout. The terms of the second rescue were finalised in July after months of dispute which intensified the sovereign debt crisis.

With Italy and Spain under pressure, the latest turmoil in Athens unsettled bond markets yet again. Greek two-year bond yields soared to a new record of more than 46 per cent and Italian and Spanish borrowing costs also rose.

The troika – comprising the EU Commission, the ECB and the IMF – sent an inspection team to Athens a fortnight ago for the fifth quarterly review of the first Greek rescue. Top officials from the three institutions joined talks with Greek ministers on Monday but the deadlock persists.

“At a certain point you reach the conclusion that there is no point in having new meetings every day – and you leave the Greeks a chance to do their homework,” said a source close the troika.

At issue is the Greek government’s failure to deliver promised reforms to public sector pay and its tax collection system. The troika is also unhappy with the government’s failure to liberalise a number of professions.

Although the IMF had hoped to wrap up the talks next Monday, the troika said yesterday that its inspectors now expected to return to Greece by the middle of the month. It wants Athens to complete technical work by then and to continue talks on policies needed to complete the review.

Can Italy rollover debt without help from the ECB? I highly doubt it, but we are about to find out.

There is lots of Eurozone action in September, that's for sure.

Mike "Mish" Shedlock
http://globaleconomicanalysis.blogspot.com
Click Here To Scroll Thru My Recent Post List