There are so many reasons for believing that the European ‘recovery’ plan is not working now and will continue to not work no matter how long we are forced to subsidize it. Today we can add one more reason – Mr Francois Hollande is now the favourite to beat Mr Sarkozy and become France’s next President.
For the financial class who rely on endless public bailing of the banks, and whose chosen political agenda is to cut the State, the very prospect that Mr Hollande might replace Mr Sarkozy is enough for all the European markets to head straight down. Germany and Spain are both down over 2.7%. Why should this be so? Because Mr Hollande has made it clear he will ‘renegotiate’ France’s role in Europe’s various bail out plans. Any such renegotiation would leave Europe’s bail-out fund fiction in tatters. What then for the financial elite and their insolvent private banks?
Mr Hollande evidently does not believe the pious fiction that underpins almost the whole European and in fact global fiction of recovery, namely that there is now, or will be soon – quite soon, fairly soon, just over the next hill… some growth. Growth is what is supposed to allow Greece to become solvent, allow Spain to cope with the bursting of the dam of regional debt that is presently engulfing its banks and forcing its CDS rates to unsustainable levels. Mr Hollande is the first but will not be the last to say that the growth plan is not working. The Dutch Parliament yesterday collapsed because they too could not agree to go along with the fiction. We do not have growth. What we have are cuts in public spending while we have increases in public funds being siphoned away to pay for more and yet more bank bail outs.
Just a quick look at what we can expect in Spain is enough to clear away the fog of lies. I and others have said for well over a year that Spain had been hiding debts in its regions. This turns ou to have been true. A recent report by Carmel Asset Management paints a very ugly picture. When you add in regional debts the total debt load in Spain rises from the official 60% of GDP to 90%. This comes ON TOP of the fact that all of Spain’s austerity cuts of last year did not reduce Spain’s’ debts not by even one single euro. They are worse off now than they were, with higher unemployment and borrowing costs shooting up.
According to the Carmel study, with which I agree [EDIT – Please see Joe R’s comment at 1.33pm for a health warning on some aspects of this report. I am mainly concerned with what is has to say about hidden debts but I think Joe’s points are important], Spain’s banks are STILL wildly underestimating the losses they are holding and more losses to come on their huge loans to property developers and owners. Further losses on these ‘assets’ will mean yet more bad debts piling up in the banks. Those debts will be taken on by the National government and this will further corrode Spain’s ability to finance the debts it already has. In 2012 alone Spain will have to refinance existing debts of €186 billion. And the rate of interest it will have to pay on all that debt is above what it currently pays. Spain is sinking.
The problem (one of them at least) is that while our leaders are banking on growth to save us, the banks are not. They are banking instead, on fear. Our leaders keep thinking if they ‘save’ the banks then the banks will help save us by investing in growth. They fail to understand that ‘invest’ is really not something high up on the global bank’s ‘to do’ list. I spoke at length recently to bankers in The City who deal in investing in raising money for Small and Medium businesses. They were unequivocal – it is getting harder not easier to raise money for such investment. The big banks and big funds are looking for short term speculative returns not slow investment returns.
When you have large and growing losses from bad debts you cannot and will not recoup and recover on the basis of wise but slow investment returns. The worse your previous debt mountain is, the greater the pressure to pursue exactly the sort of high-risk speculation that got you in trouble in the first place. If it is a choice between investing in Spanish factories or buying Spanish debt or selling CDS on that debt, the ‘smart’ bonus seeking money goes for the latter every time.
The brokerage Carmel whose study I have quoted is a good example. On page 9 of their study they say,
We began buying Spain CDS in Q4 2011…[with a coupon of] 3.5% of notional per annum –effectively an option premium on the default of Spain.
Should the Spanish crisis flare up in 2012 as we expect, we can generatea 300% return on the annual premium
300%! Investing in small and medium businesses or a potential 300% speculating on Spanish default. You choose.
Banks are banking on fear and the volatility fear causes. They are not banking on or helping to support growth. They will do the politically necessary minimum and no more. The big banks are buying up what they call fixed income instruments (bonds and other debt backed paper) and at the same time offering CDS insurance on the same. Just like they bought and sold protection on mortgages.
The big American banks are some of the biggest insurers of European debt. According to Bloomberg,
U.S. banks increased sales of insurance against credit losses to holders of Greek, Portuguese, Irish, Spanish and Italian debt in the first half of 2011, boosting the risk of payouts in the event of defaults.
Guarantees provided by U.S. lenders on government, bank and corporate debt in those countries rose by $80.7 billion to $518 billion, according to the Bank for International Settlements. Almost all of those are credit-default swaps, said two people familiar with the numbers,…
It turns out that,
The CDS holdings of U.S. banks are almost three times as much as their $181 billion in direct lending to the five countries at the end of June [2011. The five countries being Portugal, Italy Ireland, Greece and Spain]
The money we have given to the big banks to bail them out via all the TARPs, EFSF’s and Bond buying programmes have not been invested in growth. They have gone into betting on failure and default.
And how stable is this betting club? Well, world wide, 20 dealer-banks trade 74% of all CDS. Of those sold in America just 5 banks control 97%. Here are some mind boggling graphic repersentations of the size of the CDS market and bank exposure.
Of course the banks themselves, the biggest and most exposed of which are Goldman and JP Morgan, will say their net exposure to loss in the event of having to pay out is small because it is itself hedged with insurance for their insurance.
But insurance doesn’t ever make the risks or the losses go away. It simply transfers them. And every time a risk is transferred it simply adds one more party to the chain of people each of whom could be the one who fails to pay. It’s what is known as counter-party risk. So as the chain of insurance grows so does the accumulated counter-party risk.
Leaving us with the same questions that arose during the mortgage crisis – who are the counter-parties? Well I spoke to one banker recently who said that he was worried because his counter-party on a large number of risky investments was… Commerzbank.
Germany’s walking dead was the counterparty he was counting on to save him if he became exposed to losses. That’s like having a lead teddy bear for comfort on a sining ship.
So it turns out there is growth in Europe after all – its growth in counterparty risk.