Euro zone’s bailout funds face biggest test yet
By Neil Unmack
The author is a Reuters Breakingviews columnist. The opinions expressed are his own.
Last November, the euro zone crisis forced the European Financial Stability Facility to delay a bond deal. Now the crisis is back, but the bailout fund is holding up. It has just issued its largest public bond, paying just 1.652 percent for five-year money. That has eased concerns after a previous bond issue was not fully subscribed. However, bigger challenges lie ahead.
The EFSF will soon need to raise as much as 100 billion euros to recapitalise Spanish banks. If the crisis worsens, it may also need to provide financial aid to Italy and Spain too, either by buying those countries’ bonds, or by providing lines of credit.
It certainly helps that investors are currently desperate for any half-safe asset that offers a positive yield. Nevertheless, prospective bond buyers have two concerns. First, the EFSF’s funding needs could flood the market, depressing prices. And second, its credit quality will suffer as its guarantors – primarily Germany and France – increase their exposure to the periphery.
One way to avoid market indigestion is for the EFSF to issue bonds directly to Spanish banks, which can then use them as collateral when borrowing from the European Central Bank. The euro zone recently used that trick in Greece.
Europe has another weapon, the permanent bailout fund known as the European Stabilisation Mechanism (ESM) should come on line soon, and will replace the EFSF. Rather than relying on promises of payment from its guarantors, the ESM will have 80 billion euros of hard capital, which should make it easier for the fund to borrow. Its preferred creditor status should also mean loans are safer, easing the strain on its guarantors’ creditworthiness.
BoE governor’s arm-twisting raises tricky issues
By Hugo Dixon
The author is a Reuters Breakingviews columnist. The opinions expressed are his own.
In the old days it used to be said the Bank of England governor could get his way by raising his eyebrows. The current governor, Mervyn King, seems to have engaged in heavy arm-twisting to get Barclays to remove its former chief executive Bob Diamond. While the bank itself should have got rid of Diamond because he could not credibly engineer a change in its brash culture, the manner of his departure raises tricky questions.
Marcus Agius, Barclays’ chairman, told MPs on July 10 that King “made very plain” to him that Diamond “no longer enjoyed the support of his regulators”. But on whose behalf exactly was King speaking? The BoE, after all, is not responsible for supervising banks – and won’t be until next year. That’s still the job of the Financial Services Authority. If King wasn’t speaking for the FSA too, he was arguably stepping beyond his authority.
On the other hand, if the BoE governor was speaking on the FSA’s behalf, why didn’t the regulator itself deliver the message that Diamond should go? And why too did the FSA apparently change its position? After all, the regulator had only just agreed a settlement with Barclays over the Libor rate-fixing scandal. If it had wanted Diamond to go, that would have been the moment to say so.
A further question is how exactly the regulators managed to twist Barclays’ arm. If the FSA doesn’t support a bank director in his role, the current mechanism for removing the executive is to deem him no longer “fit and proper”. But it seems hard to argue that Diamond didn’t meet that test. After all, the lengthy investigation into the Libor scandal did not criticise him personally.
Some people will no doubt say it is good that Diamond has gone and it doesn’t really matter how that was engineered. But methods used in difficult situations can easily become precedents.
Ask Mervyn King what he thinks his job is.
Ask David Cameron what he thinks Mervyn Kings job is.
Ask Bob Diamond what he thinks Mervyn Kings job is.
I am not happy with the BoE becoming the regulator for its own banks.
If you ask me what Mervyn Kings job is, it is to create and maintain inflation. But, I doubt he knows why.
Regulators have to tackle flawed benchmarks
By Pierre Briancon
The author is a Reuters Breakingviews columnist. The opinions expressed are his own.
Regulators chase financial fraud like anti-doping inspectors pursue Tour de France riders: they play catch-up. Innovation – in the form of new products or new drugs – is always a few steps ahead. So the police only come in after the fact – and often before the fact has even been defined as a crime.
In the wake of the scandal over the rigging of the London Interbank Offered Rate (Libor), European Commissioner Michel Barnier and the British government are looking at regulating the benchmark interest rate, as well as other rates. These attempts may get bogged down, and could backfire or miss their targets. They also risk missing new fraud or misbehaviour. But with the financial crisis entering its sixth year, the era of self-regulation for widely-used market barometers must become a thing of the past.
A case can – and undoubtedly will – be made that regulating private benchmarks raises questions of regulatory overreach. Finance is awash with private indicators and those set up by market participants.
The question of when exactly they become so important that public regulation is legitimate isn’t an easy one. But in the case of Libor, which over the years has become the reference for contracts worth trillions of dollars, that threshold has long been passed. Its daily calculation on the basis of hypothetical submissions by a handful of bankers clearly does not stand up to scrutiny.
Credit ratings agencies have tried to resist regulation by arguing that doing so would encroach on their ability to utter opinions. Similarly, free-market fundamentalists argue that mere numbers should remain beyond the regulators’ reach.
Greying China could be left in the red
By Wei Gu
The author is a Reuters Breakingviews columnist. The opinions expressed are her own.
China is developing a rich country problem: old age. The number of Chinese aged 60 or over may more than double to 438 million between 2010 and 2050, according to the United Nations. That will dent China’s competiveness and worsen social strains. A higher retirement age is one idea proposed by the country’s State Council to counter a huge pension fund shortfall. It’s not popular, but there may be little choice.
Chinese pensions don’t seem high in absolute terms, but they are reasonably generous relative to salaries. An average pensioner in Beijing receives $360 a month, half of the average working wage in the city, according to official figures. To fund pensions, employees contribute 8 percent of their pay to the pension pool, and employers contribute another 20 percent. And people can retire young – women as early as age 50. That means they can easily receive their pension for more years than they work.
Perhaps not surprisingly, the system is facing a funding crisis. On a net present value basis, China’s unfunded pension liabilities for the next 70 years amount to $3 trillion, a Bank of China study reckons.
That’s still less than countries like the United States – its social security fund had unfunded 75-year obligations worth $8.6 trillion in present value as of 2011. But China is younger, and less rich. The problem is grave.
Ageing brings other problems. For every Chinese person of 60 or over, there are more than five aged between 15 to 59 years. But the support ratio is expected to fall to just two by 2040, when the first generation of China’s “little emperors” retire. The one-child policy, enforced in the late 1970s following rapid population growth in the 1950s and 1960s, coupled with longer life expectancy is skewing China’s population pyramid.
Scots aim to break Europe’s working currency union
By Ian Campbell
The author is a Reuters Breakingviews columnist. The opinions expressed are his own.
The received wisdom is wrong. Europe doesn’t lack a functioning multi-country currency, fiscal and banking union. But it’s in the United Kingdom, not the euro zone – and Scotland ’s government is keen to break it up.
The Scottish finance secretary said that an independent Scotland – the goal of his Scottish Nationalist Party – would continue to use the pound sterling as its currency. It even wants UK regulators to watch over Scottish banks, although Scotland would no longer be in fiscal union with the UK. It all sounds alarmingly like the euro zone.
The zone is in crisis because it has a common currency, but disparate budgetary positions and no adequate cross-country system to support its banks. A more integrated zone would have fiscal transfers moving between countries and a full banking union – as the UK has long had.
The British system has not served Scotland badly, though it is true that Scotland, just like the rest of the UK, has innumerable problems which might be handled better. Scotland’s desire to govern itself is fully understandable. Devolution makes sense. But to abandon tried and tested currency and fiscal arrangements and experiment is dangerous, as the euro zone shows.
Perhaps Scotland’s leaders see things differently. Spanish banks might go bust but there could never be a Royal Bankia of Scotland, could there? But in fact the 45.5 billion or so pounds required to shore up the Edinburgh-based Royal Bank of Scotland in 2008 comes to 8,750 pounds from every Scottish man, woman and child. Scotland, like a less volcanic Iceland, has a relatively small population and a large financial sector. The two do not go together well.
Central bank stimulus won’t solve the crisis
By Ian Campbell
The author is a Reuters Breakingviews columnist. The opinions expressed are his own.
Following another weak U.S. jobs report, fear abounds. The sense is that the global economy is teetering and central banks can’t do much more. The point is that in the developed world they should not do more. Monetary policy risks becoming harmful if pushed further.
Mario Draghi, the President of the European Central Bank, hinted at the limits of policy on July 5. The interest rate doesn’t work so well when demand for credit is lacking, he said. In other words, you can create pools of cheap money but you can’t make nervous borrowers drink. Nor did it seem that he was thinking of other spurs, such as quantitative easing. It’s “not obvious there are measures that could be effective in a highly fragmented area”.
The hard truth is that Draghi is ill-placed to stimulate growth in the euro zone. Confidence is the problem. The ECB cannot resolve a crisis of insolvent and uncompetitive states locked in a union with solvent and competitive ones. Only politicians can do that. Then the growth horses might drink.
The Bank of England is trying, but it’s hard to imagine the newly launched 50 billion pounds of quantitative easing, taking the total to a colossal 375 billion pounds, will do much for growth. Of course, the BoE could emulate the U.S. Federal Reserve and buy mortgage-backed securities. But UK house-buyers might still be reluctant to drink.
In emerging economies, central banks are far from the end of the stimulative line. China has just cut its lending rate to 6 percent; Brazil is now down from 12 percent last summer to 8.5. Emerging economies can and will ease further, profiting from falling global inflation. But that helpful fall in inflation could itself be undone if the West chooses to push harder on the monetary string. Further QE would push up bonds, commodities and equities, pleasing financial markets – but driving up oil prices and hurting consumers.
The Bank of England is indeed very trying and currently on trial.
Mortgage backed securities? Only after rigorous Regulation is in place. They are what started the current crisis and were rated AAA by the rating companies. They were of course junk.They were wrapped in a cloak of “sub-prime” and wow, they were indded that! Flogging mortgages that have no chance of being repaid is not good practice as millions of people worldwide have found out the hard way.
A National Development Bank backede by Government is what we need, one institution dedicated to funding SME’s who can’t get loans from High Street Banks. The CEO would not be paid £20 million either. Besides, the High Streeters/Hooker Banks will be tied up in current inquiries, hopefully undertaken by Judges, not Parliamentary Committees with no teeth, after hearing “evidence” which within 48 hours is exposed as a series of lies.Let’s put our economy straight, then we can have a National Homeowners Bank againGovernment Bank for the average person on £20,000 a year. HIGH street will look after the rich at a price.
The bottom line is, earn money before you spend it.
Supreme Court gives shot in arm to Obamacare M&A
By Robert Cyran
The author is a Reuters Breakingviews columnist. The opinions expressed are his own.
Expanding health coverage to more than 30 million Americans remains politically contentious. But the Supreme Court’s decision not to overturn the law means that it’s here to stay. The increased number of covered patients is a lucrative opportunity for insurers that helps justify juicy merger premiums. That’s the logic behind WellPoint’s pricey $4.5 billion bet on Amerigroup. More deals are likely.
Amerigroup is one of the biggest providers of managed care for Medicaid, the government program covering poor patients. Medicaid already accounts for 24 percent of the average state’s budget, according to the National Association of State Budget Officers. So getting costs under control is a necessity. Encouraging patients to emphasize preventive care rather than make trips to the emergency room can yield big savings – and Amerigroup takes a chunk of that.
With Medicaid’s budget expected to reach $587 billion in 2014, and only about a fifth of these patients currently in managed care, the opportunity is obvious. But the new law effectively supercharges growth, making at least 7 million people eligible for Medicaid in the states where Amerigroup operates.
WellPoint is paying up to grab this opportunity. At 23 times estimated 2012 earnings, the company is baking in a lot of growth. Moreover, the $125 million of estimated annual synergies over three years are only worth about $650 million currently when taxed, discounted and capitalized. That’s just half the $1.3 billion premium. Yet investors sent WellPoint’s stock up 3 some percent on the news.
Expected growth may explain that. But the synergies are probably a lowball estimate – it’s notable that WellPoint said there were “at least” $125 million. Throwing in too high a figure might encourage regulators and lawmakers to bargain harder. The combined company may also have more heft in negotiations with hospitals and the like.
China grows faster but most Cubans are better off
By Martin Hutchinson
The author is a Reuters Breakingviews columnist. The opinions expressed are his own.
Raul Castro could use his visit to China to pick up a few tips. True, the Caribbean nation hasn’t done so badly despite being isolated by U.S. trade sanctions. It is still richer than China, less unequal and less corrupt. Still, a smattering of China-style reforms, particularly allowing freer movement of prices, could produce a useful boost to growth and prosperity.
China is the great growth story of the 21st century, while Cuba is often deemed a basket case. That’s not entirely fair. China is economically freer than Cuba, according to the Heritage Foundation, but Cuba is less corrupt and ranks much higher on the United Nations’ Human Development Index. Cubans have a higher life expectancy, and more years of schooling. Moreover, Cuba’s per capita GDP, measured in current U.S. dollars, is still somewhat higher even after China’s recent growth, while its incomes are significantly more equally distributed.
Economic policy under the Castros has interspersed periods of ideological crackdown with moments of liberalization. After Soviet subsidies ended in 1989 the economy shrank by 35 percent, but Raul Castro’s ascension to power in 2006 has brought further modest reform. Cuba has not opened up its agricultural sector as China did, maintains more extensive price controls than China, does not allow a free market in housing and remains relatively restrictive and arbitrary in its attitude to foreign investment.
There are some big differences. China’s relative poverty mostly reflects its vastly larger population and the level to which its economy sank under Mao Zedong. Copying some of China’s agricultural policies, its acceptance of the price mechanism in housing and elsewhere and its ability to work with foreign investors could provide a major boost to Cuba and its people.
There’s always the concern that opening up the economy could return Cuba to the ultra-unequal society of its 1950s past and some other Latin American countries. That’s something China itself is wrestling with. But Castro should take a pinch of China’s gradualism as well as its reform. Small-scale opening could help Cuba’s economy without destroying its social fabric. Castro can learn from China’s examples, both good and bad.
Martin Hutchinson and Reuters don’t know what youare talking about. It is just a same old bullshit by western media.
Spain needs to get on with its to-do list
By Fiona Maharg-Bravo
The author is a Reuters Breakingviews columnist. The opinions expressed are her own.
Spain’s current government, like its predecessor, always seems behind the curve. It has made some progress in passing budget cuts and some structural reforms, but it’s not enough. Only recently did it start to mention additional measures to get the country’s finances under control. The hope is that it won’t fall short.
Spain’s 2012 budget target of 5.3 percent of GDP will be impossible to reach and is arguably too ambitious (last year’s deficit ended at 8.9 percent). The central government’s deficit already adds up to 3.4 percent at the end of May – when the target for the whole year is supposed to be 3.5 percent. Madrid argues that it’s due to up-front transfers to the liquidity-starved regions. But the regions themselves will struggle to hit their own targets. And the economy is also getting worse: the Bank of Spain has warned that the recession intensified in the second quarter of the year.
But even if this year’s target looks out of reach, Spain can’t sit on its hands – and doesn’t have to. As part of the 100 billion euro bailout for its banks, the EU said progress on deficit targets would be closely reviewed. The European Commission has already made several recommendations: broaden the VAT tax base, boost other special taxes, eliminate tax breaks on housing, and speed up plans to raise the retirement age to 67. Simultaneously, it recommends actions to fight poverty and a youth action plan.
Boosting VAT may hit consumption, but Spain must find a way to boost dwindling revenues without hurting the economy’s competitiveness. It should also focus on cutting waste in government at the regional and local level: Spain has over 8000 municipalities, 60 percent of which have a population of less than a 1000. Unemployment benefits, the most generous in Europe, should be overhauled to encourage job seeking. Then there is a long list of pending privatisations: airports, buildings, utilities and prime real estate.
Spain needs to come up with answers because the government must soon approve next year’s spending ceiling. Meanwhile, other structural reforms are on the to-do list, such as liberalising services or the energy sector. Spain still hasn’t done everything it can to get the markets off its back.
China rate cut targets financial not economic ills
By John Foley
The author is a Reuters Breakingviews columnist. The opinions expressed are his own.
China’s surprise interest rate cut looks like a response to financial rather than economic ills. Thursday evening’s reduction in the lending rate by 31 basis points and the deposit rate by 25 points won’t alone do much to change the economic picture even if data due next week show activity is markedly slowing down. What it will do is buy banks and lenders some time, and postpone the more imminent danger of a rise in bad loans.
Lower rates can stimulate more borrowing, but they probably won’t in this case. Despite a cut in rates just a month ago, lending in China seems to have slowed dramatically in June. Some banks can’t lend because their deposit funding is too scarce; others can’t find clients who want to borrow. Many state-owned borrowers in sectors like steel and aluminium face overcapacity already. Bank loan approvals are easier to get than they have been for two years, a Nomura analysis shows, while loan demand is at its lowest since 2008.
In a country growing as fast as China, price shouldn’t be a motivating factor for most borrowers. Returns on capital in from 1993 to 2005 were 20 percent, according to a study for the National Bureau of Economic Research*. Even assuming that has moderated quite a bit, it makes little odds for many private companies whether the base rate for borrowing is 6 percent or 6.31 percent.
It’s overstretched borrowers that will feel the difference. With the real estate sector in deep-freeze, many developers will be struggling to service their borrowings. For them, a 31 basis point cut, which banks are theoretically able to turn into an 85 basis point lower rate, might make the difference between getting by and going bust. It may also coax some who have sought short-term funds from non-bank lenders – be they domestic Chinese private equity funds, trust companies or more shady sources – to go back to the banks.
That helps the banks too. While the bad debts they report are still only around 1 percent of all loans, current valuations suggest investors suspect the real figure is as much as 6 percent, according to Bernstein Research. Cutting rates doesn’t make bad borrowers good, but it does delay the day of reckoning. That reduces the chance that a financial crisis brings on an economic one.
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