Thomas Warner

Thomas Warner
Contributor since: 2012
Actually I lived 18 years in Europe and I know European history very well. I discuss the point you're making at the end of my article, and I go over it at length in my previous article on Spain. My two key points are:
The idea that the ECB's focus on shorter-term bonds will preserve market discipline through the longer-term bonds only makes some sense if the EFSF/ESM also only buy shorter-term bonds. We don't know that yet, and the fact that at this week's press conference Draghi didn't mention preserving market discipline among the benefits of the ECB's focus on shorter-term bonds should lower expectations that this will even happen.
Second, even if the EFSF/ESM also only buy shorter-term bonds, the "market" for longer-term bonds will still be very dependent on the ECB. Buyers will be mainly Spanish banks engaged in selling their shorter-term bonds to the ECB so they can buy longer-term bonds. Traders will be trying to profit from price appreciation as bonds approach eligibility to sell to the ECB. I discussed this in my previous article:
My position has been consistent: the European economic crisis will continue to worsen, but don't expect any Euro breakup. I've been right so far.
My "technical" argument is mainly about China's capacity to stimulate without making its problems worse. I'm doing it with very broad macro numbers, but those represent reality on the ground: China has already had so much credit stimulus, so much of which is of the ghost town sort you mention, that trying more is obviously dangerous. I think Chinese politburo members understand that. But we can disagree.
"Need" is a subjective word. I'm sure a lot of people in industrial sectors would very much like some stimulus.
The point I'm making about this year's growth is that it's actually mostly driven by the low-key credit stimulus that's already happening. China's latest monthly report has investment expenditures up 20.6% y-o-y in July, 20.9% Jan-July. That's gross output, which last year grew about 6pps faster than the investment-related portion of nominal GDP. So the investment-related half of the economy is growing at around 15% nominal vs 10.4% for the economy as a whole. That helps explain why you see 7.6% real GDP growth and PMIs hovering near 50. The non-investment part of the economy is hardly growing. If this year's investment-related growth turns out to be unproductive, this year's contribution to long-term growth could also be nearly nothing.
I would say China's economic performance this year is mediocre, but more of the same kind of stimulus that China has been using won't help.
Thanks for your reply. We agree that the decision will be made by a very small group of people, who will decide based on their own incentives as they see them. They directly control banks and their favored lever over the economy is to tell banks how much to lend, not fiscal policy. The most important thing for China's leaders is to avoid the kind of financial crisis that could threaten their authority. I think I made all those points in my article.
There surely has been a tightening, and you can see that in my chart in the reduction of credit supply from 45% of GDP in 2009 to 25% of GDP this year. That's a big, rapid tightening.
- I think the current situation is not as severe as you describe. China's domestic demand is collapsing because its credit supply is less than last year's while export demand is collapsing mainly because of Europe. But China is not littered with frozen, half-finished projects. The government is making sure that even uneconomic projects aren't cut off from credit, by, for example, ordering banks to roll over loans to local government vehicles. You see the government's efforts in the stabilization of credit supply this year despite shrinking market demand for credit.
- I think a big new stimulus would greatly increase the risk of getting into a situation like the one you describe.
- I'm guessing that China's leaders probably understand that. But I admit nobody can know what they'll do.
I think you need to re-read my section on home mortgages. That was my point that very few have defaulted. But it is a big problem, because repaying all those mortgages is going to suppress Spanish consumer demand for a long time. Look at Japan for a parallel.
But yes the Spanish cafes will always be full! Even if the beans aren't as premium as they used to be.
Thanks. I can't write everything in one article! To some extent the Spanish provinces are in a similar situation to the US states. They don't have as much revenue or borrowing flexibility as the central government. The interesting thing is how in Spain the central government appears to be using this to regain power over regional levels. That could be another long article, but I think I'll leave it to someone else.
I think my answer to your question is in my article. This bailout will hold down the interest rates that Spain pays on its debts. Spain will be selling bonds to a quasi-market in which the ECB and EFSF/ESM will determine prices. So there can't be a crisis of falling prices on Spanish state bonds, as long as this bailout is implemented. But there will be a worsening economic crisis in Spain.
Greece also has no problem with falling bond prices. It borrows from Eurozone governments directly, without the pretense of a market that Spain will have. Is that a reason to be bullish on Greece?
Thanks, I think, but I don't understand your remark about financial companies sometimes consuming what they borrow. I was explaining how I measured credit supply to the real economy. When doing so it's important to avoid double-counting credit that's lent to one party who lends it on to another. The most practical way to do that is to exclude all credit to financial companies, since they mostly re-lend what they borrow. But some credit to financial companies they invest in other ways, and some, yes, they consume. Particularly during a bubble. That's credit that reaches the real economy, and I'm giving you a heads up that I couldn't count it.
My data comes from the Spanish government, via Eurostat.
Hi all and thanks for reading and commenting. Yes, I am working on something about Spain.
I didn't mean to start a rag-on-the-Greeks parade. Greece has always had weak tax collection, low productivity relative to western Europe and low labor-force participation relative to northern Europe. Those things didn't cause this crisis, a credit bubble that blithely ignored them did. Part of the tragedy is that the conflicts between creditor and debtor nations are tearing Europe apart, on a gut level that's more important than who is in or out of the Eurozone.
But this also isn't simply a story of powerful foreign creditors unreasonably demanding full repayment on their foolish loans. They just wrote off more than €60 billion. That's a lot for little Greece. The deeper problem is that Greek banks are still hiding how much of Greek depositors' money they lost in the bubble. And I'm explaining how the Eurozone's default response is to let Greece pay off those depositors by issuing what amount to state-guaranteed loans of newly created euros to its banks, even though it's obvious that Greece doesn't have the resources to repay.
Thanks. Actually the ECB system has three kinds of exposure to Greek government bonds: the ones the ECB bought to suppress yields, the ones the national central banks (mostly Greece's) hold in their investment portfolios, and the ones that commercial banks (mostly Greece's) have posted as collateral to the ECB to obtain ECB loans.
The ECB might be allowed to pawn off on the EFSF one or both varieties of direct exposure, but I don't think there's any discussion of letting the ECB pawn off its exposure through bonds posted as collateral.
That's why the Greek banks must be recapitalized at the same time as the bonds are restructured. The collateral that they've already posted to the ECB will be formally devalued, so the ECB will have to ask them to either post more collateral or repay part of the loans.