Scandinavian Sorrows

Includes: FXE
by: Acting Man

Stigende renter? Hvad er det? Hjælp!

If we're not completely mistaken, then the above is Danish for: “Rising interest rates? What's that? Help!” The recent bond market swoon has been a global phenomenon, and it has afforded highly indebted consumers in Scandinavian countries a brief glimpse of what could be a melancholic future in a place called "debt slave hell."

Bloomberg informs us of a beginning "rate pain" attack in Denmark:

“Danish consumers, who owe banks more than three times their disposable incomes, are about to find out how sustainable that debt load is as interest rates rise.

Signals from the U.S. Federal Reserve that it’s preparing to scale back monetary stimulus have already sent mortgage costs higher as yields rise across global bond markets. The Nykredit Index of Denmark’s most traded mortgage bonds sank this week to its lowest in more than four months after investors sold assets once coveted for their haven status.

Though the government and central bank have long argued Denmark’s private debt burden is backed by some of the world’s biggest pension savings, record consumer borrowing has prompted warnings from the European Commission and the International Monetary Fund. The Systemic Risk Board in Copenhagen said this week it will investigate private debt growth in response to international concerns.

“We have decided to initiate an analysis to see if there is a risk to the systemic stability,” central bank Governor Lars Rohde, who heads the board, said in an interview. Though recent studies suggest a “significant level of robustness,” the board has “noted that others outside the country have a different understanding.”

(emphasis added)

Let's see: Denmark's consumers have debt amounting to more than 300% of their income (that sounds like a world record… even Carneyfied Canada is positively thrifty by comparison). Some people say that this debt load just might become a problem (not only for said consumers, but also for their creditors). The solution: we'll let a committee look into it. In that case, obviously nothing can possibly go wrong. Dodged a bullet there!

In Denmark it's Different…

Let us take a look at what arguments are forwarded in terms of "it's different in Denmark"- as that is indeed the argument made by the central bank.

“Mortgage holders in Denmark relied on the government’s stable AAA credit grade to finance debt at record-low rates during the fiscal crisis in Europe. While the Organization for Economic Cooperation and Development estimates Danish households owed 310 percent of disposable incomes in 2010, government debt is less than half the euro-zone average at only 45 percent of gross domestic product this year, the European Commission estimates.


The yield on Denmark’s benchmark 10-year government bond soared to 1.96 percent on Monday, its highest since March last year. The yield on the Nykredit Realkredit A/S 3.5 percent mortgage bond due October 2044 soared 10 basis points on Monday to 3.72 percent, according to generic price data compiled by Bloomberg. That yield was as low as 3.33 percent last month.

“There’s been a sell-off in a lot of markets in part because of the focus on liquidity,” Christian Heinig, chief economist at Realkredit Danmark A/S, the mortgage arm of Danske Bank A/S (DANSKE), said by phone. “We have an extraordinarily high level of gross debt so households are vulnerable if interest rates increase.”

Still, any new study will show that Danish borrowers are backed by “pension savings, and the benefits of the welfare system, including a safety net for the unemployed,” Heinig said. “People don’t have to save as much.”

Banks have been warning households of the risk of higher interest rates, helping them prepare for an increase in borrowing costs, according to Nordea Kredit, a unit of Nordea Bank AB. (NDA)

“Rates have gone up considerably, there’s no doubt,” Lise Nytoft Bergmann, chief analyst and housing economist at Nordea Kredit, said in a note yesterday. “But the increase has been expected for some time, even though it’s come later and at a faster tempo than we’d first anticipated.”

Households are heeding the warnings. Deposits with the country’s lenders climbed last month by 7 billion kroner to 858.7 billion kroner, the central bank said today.

“Danes’ budgets are well padded,” Johan Juul-Jensen, consumer economist at Nykredit A/S, said in a note. The record high savings rate reflects “we are worried about the future and continue to hold back on consumption,” he said.

Some analysts question the wisdom of relying on pension savings to offset debt burdens. The IMF warned in December pension assets can prove hard to tap in times of financial turmoil.

“We have been concerned about the debt levels for some time, and we do not believe the pension assets make any real difference,” Andreas Hakansson, a Stockholm-based bank analyst at Exane BNP Paribas, said in an interview. “However, reducing the debt level is not easy given the negative impact on the real economy.”

Denmark’s $550 billion mortgage bond system — the world’s biggest per capita — is dominated by top-rated covered bonds. The market has proven largely immune to a more-than 20 percent slump in Danish property prices since their 2007 peak as investors fleeing southern Europe bought up the bonds last year.

Denmark’s haven status forced the central bank to cut rates last year to unprecedented lows as policy makers defended the krone’s peg to the euro. The bank’s deposit rate has been negative since July last year, while the benchmark lending rate was cut to 0.2 percent in May, following a quarter-point cut from the European Central Bank to 0.5 percent.”

(emphasis added)

To summarize: although households are drowning in debt, they have large pension assets, the government is not overly indebted compared to the rest of Europe's collection of sovereign deadbeats, there is a strong social safety net on place and people have been "warned" of the coming problems – thus, so it is held, deposits are rising strongly as a precautionary measure.

The lone doubter moreover sits in Stockholm, and we all know what the Swedes think of the Danes.

Danske jävlar! A Swede complains about the Danes.

Allow us to point out why none of this may matter much. A debt-to-GDP ratio of 45% gives the government some room to increase its spending (inter alia on social support). However, we know from Spain that once a real estate bubble bursts for good, this doesn't necessarily mean much. Public debt can quickly spiral out of control if tax revenues plunge and expenses soar concurrently. Pension assets: their value mainly exists in someone's head, just as the value of Danish houses. In a crisis, asset values tend to decline. It could turn out that they will be worth much less than expected – their value is definitely not immutable. As to the idea that all is fine because people have been warned: even assuming that the warning has reached its intended audience, this cannot alter the fact that debt at 310% of income that is largely collateralized by overvalued assets the prices of which are now falling seems very risky.

Single-family home prices in Denmark in crowns per square meter. The value of collateral is now falling after the strong price increases from 1994 to 2007 – via

Lastly, when "deposits are rising" in a fractionally reserved banking system, it means "credit has been increased further." The new deposit money has not suddenly been ferried under Danish mattresses by the Krone-fairy, it has been conjured into existence by the banking system by means of additional credit creation.

The Danes will be happy to learn that the EU has just finalized its "bail-in" directive for banks. This will save tax payers from having to bail out banks (although there remains "national discretion" on how to deal with insolvent banks), but it puts them at risk as deposit holders, as well as holders of – pension fund assets. After all, someone has bought all those AAA rated bonds as well as the bonds issued by banks themselves. Pension funds are high up on the list of the usual suspects.

As an aside: covered bonds are actually quite good for bondholders, but they raise the risks for banks. These are asset backed bonds that give investors recourse to both the loans backing them and the issuer. Usually the issuer must make sure that the collateral pool backing the bond remains adequate. If the quality or value of said collateral declines, he may find himself in a bind. Having said that, covered bonds have history on their side. Such bonds have never defaulted. On the other hand, there has also never been a credit bubble of proportions even remotely similar to what has occurred over the past two decades globally. Remember, people also once thought that U.S. house prices would never decline on a nation-wide basis. And of course bonds are simply a bad asset to hold if/when interest rates rise.

Luckily the bubble was not the Danes' fault. See, the central bank had to impose negative interest rates to "defend the Krone's peg to the euro." The credit bubble was practically forced on them at gunpoint!

Let us finish with another quote by central bank governor Rhode, who is evidently a true Zen master:

“There are still grounds for looking at dynamic consequences of the household debt level,” Rohde said.

The Systemic Risk Board also recommended a Jan. 1, 2015, deadline for establishing rules for imposing additional capital requirements on banks to counter surges in credit growth. Early implementation of countercyclical buffers, which could initially be set at zero, would be a “precaution,” Rohde said.

“It’s sensible to have it in place if we come into a period with strong credit expansion and a risk of overheating,” he said. “There is not, at this point, anything that points in that direction, but it can’t be entirely excluded.”

(emphasis added)

This is a man of supreme serenity. Apparently household debt at 310% of income does not yet count as a "sign of strong credit expansion." So there is still all the time in the world… some new rules that may be imposed by 2015 should do the trick, "preemptively." Religious Danes are advised to pray that he's right.

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