Monday, June 18, 2012 – G-20 Declares Ceviche Tasty and Democracy Messy – by Sinclair Noe

DOW – 25 = 12,741
SPX +1 = 1344
NAS + 22 = 2895
10 YR YLD un=1.58%
OIL -.26 = 83.01
GOLD + 2.00 = 1629.70
SILV un= 28.84
PLAT – 1.00 = 1489.00

The results of the Greek election shows conservative New Democracy taking 29 percent, with the radical leftist Syriza bloc just behind on 27. The Pasok Socialists were set to take 12 percent of the vote. The scenario is similar to the results of an earlier round of voting. ND also came in first in May 6 elections, again with Syriza running a close second, but failed to form a government then. And 38% of eligible voters did not vote yesterday; that’s more votes than any one party received. 

The headlines say that a pro-bailout, pro-remain in the Euro-union party won the Greek elections; it’s not that simple. There was no majority. The next step is for New Democracy leader Antonis Samaras to form a coalition government; not an easy or certain task, and it must be done within the next 10 days. Look for a combo of the New Democracy conservatives and  the Pasok socialists; the same group that governed Greece into this mess in the first place. 

Pasok, the Socialist party, called for a government that would include Syriza, the far left party, but  Syriza ruled out joining a coalition that would stick to the punishing bailout terms that have helped condemn Greece to five years of record recession. Alexix Tsipras, the leader of Syriza, had vowed to tear up the terms, betting that European leaders cannot afford the financial market turmoil that could be unleashed by cutting a member of the euro zone loose. Even though Tsipras has consistently said he supports the euro zone and wants Greece to remain in it, Samaras framed this election as a referendum on the euro; ND ran TV spots showing a sad little schoolgirl asking why Greece wasn’t a member of the euro zone.

Greece’s lenders say a new government must accept the conditions of the bailout – on top of a 110 billion euro package in 2010 – or funds will be cut off, driving Athens into bankruptcy. If the Greeks can form a government, the first visitors will be the Troika – the ECB, the IMF, and the EU. Today, Angela Merkel, the German Chancellor gave the Troika its marching orders, saying she would not accept revisions to the bailout deal.

A Greek euro exit has the potential to unleash shocks that could even break up Europe’s single currency and plunge the global economy into chaos. The result will dominate today’s meeting of the Group of 20 world economic powers in Mexico. The central bankers have been standing next to their fleet of helicopters, ready, willing, and able to take flight and toss out cash on bankers in the event the markets freaked out today. The markets did not freak, but we’ve got a few days to see if a deal will actually happen. 

Meanwhile, Spain Economy Minister said Spain is solvent and has the capacity to grow and the reforms already undertaken to cut its budget deficit will make the country more competitive. Spanish bond yields hit a new Euro-era high above 7%. And from Reuters, Italy’s European Affairs Minister said: “Italy will push this week at a meeting of euro zone finance ministers for a semi-automatic mechanism involving the European Central Bank or the permanent bailout fund ESM to reduce spreads of euro zone bonds over Germany.”

While the Greeks were not enthusiastic about the election they have been actively pulling money out of Greek banks. The government is helping itself to people’s savings and forcing businesses to prove the tax purity of their funds. In Italy, the government has colluded with several banks (like BNI) to freeze customers out of their accounts with no warning or explanation. ATM limits are being imposed at many banks across the continent. More severe controls may be required to prevent capital flight.

The conclusion to draw from all of this is clear: finance the government, save the banks, screw the people. This reality, coming soon to a western civilization near you.

It wasn’t too long ago that a vaguely positive statement from an EU “source” or a salacious rumor from almost anywhere could spark a robust rally in credit spreads. Now we get a favorable result in one of the most important elections for many years and the rally has dissipated by mid-morning. This is not a done deal, not by a long stretch.

Meanwhile, the big wigs from the G-20 are holding a meeting in Los Cabos, Mexico. They claim their top priority remains strong, sustainable, and balanced growth that reduces unemployment. The G-20 issued a preliminary communique that states: the shrimp ceviche is very good and there is reason to hope the talapia will not be overcooked.

Another area of agreement in Los Cabos is a call for peace in Syria. President Obama and Russian President Vladimir Putin are urging an immediate end to violence in Syria. Details of how peace might happen remain vague but  they said they shared a belief that Syrians should determine their own future. Today, Syrian security forces pounded opposition areas across the country, and at least 79 people were killed in violence that has escalated since international observers suspended their mission. Welcome to the future. 

Meanwhile, Egypt’s ruling military council has vowed to hand over power to an elected president by the end of June. The promise comes as votes are counted after Sunday’s presidential run-off election, with both candidates claiming they are ahead in early results. The results of the vote count won’t be announced until Thursday, to allow the military time to count the way they want. The presumptive winner is a candidate of the Muslim Brotherhood. The vote stuff doesn’t really matter, the military council had earlier issued a declaration granting itself sweeping powers over legislation and the introduction of a new constitution, control of the budget, and they also stripped the president of any authority over the military. 

Clearly this democracy stuff can be messy and when it gets too messy, it will not be tolerated. 

Meanwhile, the Federal Reserve Federal Open Market Committee meets in D.C. Tuesday and Wednesday. Hiring has slowed, economic growth has eased, inflation is tame and millions of Americans remain unemployed. Hints of recovery have stalled. The Federal Reserve has made a terrible mess of their dual mandates of price stability and maximum employment. What will they do this week? 

The Fed might extend Operation Twist, which is the policy that swaps $400 billion in short-term bonds for ones with a longer duration. The idea is to push down long-term interest rates,  making it cheaper for businesses to get loans and consumers to get mortgages and other forms of credit. Except there is still not much lending, punching a hole in the supply side thinking. 

While it’s unclear just how effective Operation Twist has been so far, it is true that long-term rates have come down since October, when the program started. Mortgage rates have hit record lows, but there hasn’t been a surge in lending activity. Operation Twist is scheduled to expire June 30; if they want to extend it, this would be the time to say so. 

The Fed might try a third round of QE. Buying more Treasuries is a possibility for the Fed, but it comes along with greater risks. The central bank has already tried this policy — known as quantitative easing or QE — twice now, and while it has pushed interest rates lower, it has yet to solve the unemployment problem. Adding a third round of QE is unlikely to change that, plus it’s risky. It would increase the Fed’s balance sheet. It’s still a possibility later this summer, but only if the economic outlook gets worse; most likely the Fed will keep their powder dry, regarding QE3, at least for now. 

Another option is to modify the ZIRP, Zero Interest Rate Policy.  The Fed has kept interest rates near zero since December 2008 in an attempt to boost the economy. But the central bank can also have an impact merely by signaling to investors where it thinks interest rates should be in the future. The Fed’s most recent most recent proclamations say rates should stay “exceptionally low” until late 2014. Extending that language to say 2015 or later could shake things up.

And the other option for the Fed is to do nothing at all. The Fed will release its official statement at 9:30 p.m. PT on Wednesday, 

In case you haven’t had enough of Congress lobbing softballs at Jamie Dimon, the JP Morgan CEO is appearing before the House Financial Services Committee tomorrow. Last week was incredibly embarrassing, and showed just how unlikely it is that you’ll ever get anything like real questioning in a Senate hearing when the level of general expertise among the members is so shamefully low, and the witness is a man who controls millions of dollars of campaign contributions. JPM is supporte by the US Treasury, they receive loans from the Fed and bailouts and less obvious subsidies like GSE purchases of mortgages and implicit guarantees of bank debt. This was a chance to show Americans how a too-big-to-fail commercial bank like Chase uses the crutch of government support to gamble recklessly in search of huge profits, with the public on the hook for any potential downside.

 But most important, they had an opportunity to demand explanations, such as what that trade actually is, who was involved in approving it, when did it start to go bad and when did management realize there was a problem, and how did they not control it better. For the overwhelming majority of the legislators, that was no accident.

Dimon took what is actually an indefensible position: that any bank risk taking should be permitted, so long as it will make money when there is a crisis. This logic would justify engaging in systemically destructive high-risk trading activities, with government backstops for good measure. That is a very risky proposition.

Dimon’s defense seems to be: “we got on top of this pretty quickly, we’re a big bank and this isn’t much of a loss, it happens and we’ve learned from this mistake.” In addition, Dimon claimed the underlying portfolio of about $370 billion of securities in the CIO weren’t all that risky, because, among other things, it had an average rating of AA; pay no attention to the incredibly risky derivatives – largely unregulated, no idea how big and nasty they were, no idea if those derivatives positions might be the bets that destroy the global financial system. Nope, just a few highly rated securities.

That sounds pretty tame, right? Well actually, JP Morgan was taking more risk in its CIO that any of its peers were. So the concern about the failed CIO trade is well warranted. It provides a window into undue risk-taking at JP Morgan, and a generalized industry policy of pushing the envelope, which is the right thing to do if you have managed to set up “heads I win, tails you lose” wagers with deep-pocketed suckers.

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