Thursday, October 30, 2014

How SYRIZA Could Succeed

The prominent radical Slovenian philosopher Slavoj Zizek made the statement which I reproduce below. He made that statement in an interview with a Greek newspaper. I picked up a German translation in the blog NachDenkSeiten. I hope my re-translation into English is half-way correct.

"There is no way to succeed in Greece if one has no other idea than to try out a leftist government which then fails, only to have afterwards nice historical memories in the sense of ‘gee, how nice it was then!’ No. In Greece we have a corrupt and clientelistic state. I am aware that what I say now may sound crazy and that certain Marxists will crucify me for it. However, I think that SYRIZA must strike alliances with some truly productive capitalists who are also tired of this situation. We must be pragmatic. Perhaps SYRIZA should form a credible middle-class party which will finally turn Greece into a totally normal state, a state which has some similarities with a normal liberal democratic state. The absence of such a state is a hurdle for SYRIZA but it is at the same time a unique chance. To put in into Marxist language: the middle-class parties are dumb not to occupy this territory and the voters know that. Of course, not all SYRIZA voters are leftists, I know that, but they are sick and tired of the existing middle-class parties. And they hope that someone will finally govern”.

I can't think of a better advice for Alexis Tsipras than the above.

The Ease of Doing Business in Greece

Much ado has been made about the fact that the recent Doing Business Report of the World Bank/IFC showed Greece at the bottom of Europe. Only few commentaries have noted the fact that Greece actually improved its ranking from #65 to #61 over the previous year (out of a world-wide total of 189). Not even that is the key point, however, because such a minor improvement may be due to statistical errors.

The major point, though, is that Greece now ranks in 61st place in a ranking where Greece ranked in position #108 at the beginning of the crisis. That is an improvement which cannot be attributed to statistical errors!

Yes, Greece still ranks at the bottom of Europe. The only countries of significance ranking below Greece which I could find are Croatia and Cyprus. On the other hand, Italy is only marginally better than Greece. Whether that is a compliment to Greece or a criticism of Italy is a moot point; it is a fact.

If Greece jumped 47 positions since the beginning of the crisis but did not overtake any European peers, that can only mean that those European peers also improved their positions. Again, that's not bad for Greece but good for Europe, instead.

The two categories which prevented Greece for attaining an even higher position were 'registering property' and 'enforcing contracts'. The good news is that this cannot be a surprise to anyone and that, according to what I have read, much focus is being put on these two areas (i. e. EU Task Force). The not-so-good news is that it takes a very long time to register improvement in such areas.

Below are links to articles which I have written on the subject since the beginning of the crisis.

Greece vs. the Former Yugoslav Republic of Macedonia
Which way to the future, please?
The ease of doing business in the EU
Doing business with corruption
Doing Business Report 2014

Tuesday, October 28, 2014

A Rather Unsophisticated Analysis of the ECB Stress Tests

The results of the stress test have been released and we now know that all but 25 of the 130 or so largest banks have passed it. Certainly all the really 'big players' have passed it. Everything fine?

Yes and not really. Clearly, any detailed examination/audit of the largest banks is always a good thing. However, the markets will never trust a bank only because the ECB says that it can be trusted. There is much more to the secret of what makes up confidence.

How safe, to take just one example, is Deutsche Bank? Safe enough to pass the ECB stress test, for sure. But safe enough to withstand a major confidence crisis?

At the last reporting date, 30 Jun 14, Deutsche reported total assets on balance sheet of 1.665 BEUR (that is one-thousand-six-hundred-sixty-five billion). A bank is as good as the loans which it has on its books? Once upon a time, perhaps, but no longer today. Deutsche's loans amounted to 388 BEUR; that's only 23% of total assets.

Quite strikingly, Deutsche reported 'total financial assets at fair value' of 927 BEUR. Those were composed of 'trading assets' (211 BEUR), 'positive market values from derivatives' (485 BEUR), 'designated financial assets' (176 BEUR) and 'financial assets available for sale' (55 BEUR). Altogether, these financial assets represented more than half, 56% to be exact, of total assets of Deutsche.

What are those financial assets? Well, typically there is not a customer on the other side but a 'counterparty' instead. Typically, those counterparties are publicly rated, publicly rated by the same rating agencies which gave sub-prime paper a triple-A. And, typically, many of these assets are not traded in a public market where one could derive market prices. Instead, their value is often derived from a formula, be it Black-Scholes or whoever else. The reported value of those assets is as good as the formulae applied. When the formulae no longer work, the value of those assets can no longer be determined (as LTCM found out in 1998).

The equity ratios calculated by the ECB are not based on notional amounts but rather on imputed amounts. The equity requirement is a function of the risk-weighting of the assets (more risk requires more equity and vice versa). The point is that the risk-weighting is done by the banks themselves using very, very complex formulae. Any such system is always prone to manipulation. As a result, one must also look at the equity ratios based on the notional amounts in the financial statements.

Deutsche financed its total assets of 1.665 BEUR with equity of 68 BEUR, i. e. equity accounted for 4% of total financing. That is about twice the equity ratio which Deutsche reported only a couple of years ago; truly a significant improvement. It translates into a leverage of 24:1. Compared to the roughly 50:1 leverage which Deutsche had had, this looks very good. However, such leverage levels are still in the category of hedge funds. One can still argue that Deutsche is a hedge fund with an associated commercial bank.

The ECB examined each bank on its own merits. What was not examined, as far as I know, was the interdependency among the banks. Deutsche probably has its risk financial assets hedged with corresponding financial liabilities but on both sides they have counterparties. If a counterparty fails, Deutsche loses its risk protection.

Looking at the results overall, one gets the impression that the ECB examination had one very positive impact: it made the bankers nervous. Bankers should always be a bit nervous. Nervous about making bad loans; nervous about buying the wrong securities; nervous about getting caught at doing untoward things if they were to do untoward things. Most of the banks had taken some rather significant measures in the last year to improve their reported financial strength. Some banks have even announced to change and improve conduct and culture. Whether those are only temporary phenomena owing the the ECB examination or whether longer-term change will indeed result remains to be seen.

Monday, October 27, 2014

Beware of Cross-Border Capital Flows!

I very much enjoy reading John Mauldin's weekly Thoughts from the Frontline. The latest piece is titled A scary story for emerging markets. Mauldin predicts a rather gloomy future for the emerging markets because he fears a soon-to-happen turn-around of the massive capital flows which had gone into these markets since 2008. The possible outcome for emering markets he describes as something which could rival Greece's economic disaster over the last 5 years.

I comment on this article here because, in my opinion, it has a direct bearing on what happened in Greece (and in the Eurozone overall) since the arrival of the Euro. Of all the many reasons which are cited as causes for Greece's problems, if I had to pick one as the most important one, I would pick cross-border capital flows.

No Greek government can misspend foreign capital if there is no foreign capital in the first place. The same goes for the Spanish banking sector and construction industry. Cross-border capital flows can cause a boom as well as a bust. When cross-border capital flows are distorted by a fixed exchange rate (or a common currency) and, additionally, by a misperception of risk resulting from the implied support of a common currency zone, then all hell can brake loose. To me, the story of Greece and the story of the EZ-periphery is a story of cross-border capital flows!

Let me cite this key paragraph from Mauldin's newsletter: 

"Broad-based, debt-fueled overinvestment may appear to kick economic growth into overdrive for a while; but eventually, disappointing returns and consequent selling lead to investment losses, defaults, and banking panics. And in cases where foreign capital seeking strong growth in already highly valued assets drives the investment boom, the miracle often ends with capital flight and currency collapse. Economists call that dynamic – an inflow-induced boom followed by an outflow-induced currency crisis – a “balance of payments cycle,” and it tends to occur in three distinct phases. 

In the first phase an economic boom attracts foreign capital, which generally flows toward productive uses and reaps attractive returns from an appreciating currency and rising asset prices. In turn, those profits fuel a self-reinforcing cycle of foreign capital inflows, rising asset prices, and a strengthening currency. 

In the second phase, the allure of continuing high returns morphs into a growth story and attracts ever-stronger capital inflows – even as the boom begins to fade and the strong currency starts to drag on competitiveness. Capital piles into unproductive uses and fuels overinvestment, overconsumption, or both, so that ever more inefficient economic growth depends increasingly on foreign capital inflows. Eventually, the system becomes so unstable that anything from signs of weak earnings growth to an unanticipated rate hike somewhere else in the world can trigger a shift in sentiment and precipitate capital flight. 

In the third and final phase, capital flight drives a self-reinforcing cycle of falling asset prices, deteriorating fundamentals, and currency depreciation… which in turn invites more even more capital flight. If this stage of the balance of payments cycle is allowed to play out naturally, the currency can fall well below the level required for the economy to regain competitiveness, sparking runaway inflation and wrecking the economy as asset prices crash".

I am not sure that Greece ever had  a first phase but it certainly had a second phase and it is still living through the third phase, intensified by the fact that Greece could not play out a natural balance of payments cycle with declining exchange rates.

I have argued early on that even the economically most solid country can get into trouble through cross-border capital flows if it has a freely convertible currency and free movement of capital. If foreigners dump irresponsibly high volumes of capital on the economy and if they withdraw that capital at a point where the economy has become used to having it (perhaps even addicted to it), a foreign payments crisis is around the corner.

Sunday, October 26, 2014

How the Oligarchs Ruined Greece

"By bailing out Greece without demanding fundamental reforms, the European Central Bank, the European Commission, and the International Monetary Fund have only strengthened the status quo. Even worse, the troika has lined the pockets of the very forces that brought about the economic collapse in the first place".

Prof. Pavlos Eleftheriadis, Oxford University, in Foreign Affairs.

ADDENDUM October 27, 2014
Below is an article by Nikos Kostandaras, Managing Editor of the Ekathimerini, published in the New York Times.

Greece's economic and political traps

Greece to Pay 89,4 MEUR to the EU Budget Because Of Growth!

Imagine that you are a Head of State attending a plush dinner party with your colleagues from other EU member states after a hard day's worth of haggling and somewhere between the main course and desert, an assistent comes up to you and tells you that the party will cost you roughly 2,1 BEUR. That is how the British Prime Minister must have felt the other day. And the Greek Prime Minister wouldn't have enjoyed his desert either because his bill came to 89,4 MEUR. A much smaller amount but nevertheless.

One never ceases to learn more about the mysteries of how the finances of the EU work. The general picture is easy enough to understand: member states make contributions to the EU and they receive funds back from the EU. Depending on the balance, that makes them a 'net contributor' or a 'net recipient'. The idea is that the stronger countries are net contributors and the weaker countries net recipients. So far, so good.

The mystery starts when one wants to understand the contributions. They are largely calculated on the basis of GDP items. But here is the trick: they do not only depend on one's own GDP but also on one's own GDP relative to that of other member states. If growth of country A outpaces growth of all the other member states, country A will have to pay for that dearly via higher contributions. The mechanism is apparently that contributions are made in advance based on GDP projections and, at the end of a period, there are adjustments based on real GDP data. That's how the UK got into trouble because it significantly outpaced growth of the other member states.

And here comes the Catch 22: earlier this year, the EU started to calculate how much of the hidden economies should be brought on the official books of each country. UK officials calculated that sex work generated 5,3 billion pounds and another 4,4 billion pounds coming from the sale of drugs (cannabis, cocaine, etc.). A boost of 10 billion pounds to GDP which also boosted the calculated EU contribution. A lot of buck for the bang, as American slang would describe that...

The most extreme example of EU calculations is that Greece now has to pay up growth-related EU contributions of 89,4 MEUR even though the country has had a 25% GDP decline in the last 5 years. That will make the Greek government think twice before it brings too much of its hidden economy on its official books.

Much to my surprise, France and Germany are the largest beneficiaries of this exercise, receiving rebates of 1.016 BEUR and 779 BEUR, respectively. Particularly the German rebate is a surprise because Germany, despite low growth on its own, has grown faster than most of the other member states. Perhaps the Germans pay fewer visits to brothels and sniff less cocaine than the investment bankers in the City of London.

True Europeans might have expected the British Prime Minister to respond as follows to the 2,1 BEUR bill: "Great Britain and all the other member states have signed treaties which govern the contributions to and receipts from the EU. Great Britain will certainly not only claim its receipts forcefully but will also pay its contributions without delay". Instead, David Cameron was quoted as saying: "I will not pay!"

The Greek Prime Minister would totally upset the European establishment if he announced "I will not pay!" Naive democrats might wonder why the Greek Prime Minister cannot do what his British counterpart can do. The answer is simple: Greece is not the UK.

Below are two articles from The Guardian and a chart which provide detailed information about the above.

Britain's two billion Euro bill explained 
Paying for bad habits: sex work and drugs lift UK's EU bill

Friday, October 24, 2014

A Brutal Assault On SYRIZA!

"SYRIZA forsakes what appeared to be its own values and allows the current government to continue it’s demolition job, it seems Greek citizens would have to simply go back to sleep while the obliteration continues…" 

This is what Stavros Katsoulis concluded in his article titled "Is Mr. Tispras and the SYRIZA/left party the solution to Greece's problems?" Mr. Katsoulis seems to be a true left radical who feels disappointed/disillusioned by SYRIZA's having become more 'moderate' in the last couple of years. The article was published on the website of the United People's Front which describes itself as follows: 

• EPAM (United People’s Front) was founded on 16 July 2011, following the dramatic events of May 2010 when Greece lost its national and popular sovereignity and the resistance of the people square-gatherings in almost every major Greek city.
• EPAM is open to everybody regardless of political beliefs or social status.

1. Unilateral debt repudiation according to the international law.
2. Cancellation of all memoranda and international treaties signed since 2010 with the IMF, the EU and the ECB.
3. Exit from the European Union and the eurozone, and return to national currency.
4. Nationalization of the major banks starting from the Bank of Greece, in order to control the economy, to redefine the credit policy and to control capital traffic.
5. Trial and punishment of all those responsible for the bankrupcy and the loss of sovereignity of the country.
6. New Constitution.

Well, this is a clear and unequivocal position, for sure! The question of interest would be how many votes this position would gather in a national election. And then the question would be whether this is a viable course of action for Greece. 

Sometimes I wonder whether perhaps the only way to get such romantic feelings out of the minds of many Greeks would be go for this kind of strategy and to let the results speak for themselves.

Thursday, October 23, 2014

Greece - Will the Axe Drop?

"As long as the Samaras-led government continues to act pompously and unsympathetically toward its citizens, however, Greece will have its head shackled to the guillotine. Until, and if, the axe drops, that is!" - Justine Frangouli-Argyris in the Huffington Post.

Wednesday, October 22, 2014

Taking Stock of Greece

"In a nutshell, the Greek banking system, as well as the Greek economy, have undergone profound (and long overdue) structural changes. Reform of the euro area financial architecture is also building confidence. Growth can resume, provided that major local or international political, geopolitical and economic risks are evaded" - Prof. Eleni Louri-Dendrinou.

Prof. Louri-Dendrinou is taking stock of Greece after 5 years of crisis. Quite obviously, it is an assessment which SYRIZA would be unlikely to share because of the overall positive tone. How could SYRIZA expect to replace the current government if it were to agree that there have been positive developments in Greece?

On the other hand, SYRIZA might want to, at least internally, ponder this article and determine whether perhaps some of the points are valid. If some of the points are indeed valid and if there are indeed positives among all the negatives which SYRIZA sees, SYRIZA should build on those positives instead of wiping them out altogether.

Austria & Greece: Two Presidents Meet

As the Austrian President Heinz Fischer is visiting Greece for a couple of days, he will also meet with the Greek President Karolos Papoulias. The two heads of state will have interesting subjects to discuss, among them: the usefulness of their office and the compensation that goes along with it.

The Austrian President has almost exclusively ceremonial responsibilities; his constitutional powers are close to zero. Politically, he is a bit of a male version of the Queen. From what I understand, the constitutional powers of the Greek President are not any greater.

The two offices also have in common almost identical compensations: the Austrian President's annual compensation (not including expenses accounts) is 328.188 Euro. The Greek President's annual compensation (not including expense accounts) used to be 322.000 Euro until about 2 years ago. They were then halved and my understanding is that President Papoulias decided to forego his entire compensation. No such intent has been reported about President Fischer so far.

In an interview prior to his visit, Fischer said he found it hard to imagine how Austrians would have reacted if they had to suffer the same kind of austerity measures as Greeks. President Papoulias might consider asking his Austrian counterpart how he would feel if his compensation would be cut in half. Or perhaps only down to the level of the US President.

The Austrian President is extremely eloquent at saying nothing. He will express great sympathies for the suffering which many Greeks have to endure and he will cite the European solidarity. Whether the Greek President is eloquent I cannot judge because the last thing I have heard of him was when he asked "Who is Mr. Schäuble?" President Fischer is not known to ever have asked such a provocative question.

That leaves the question of the usefulness of their offices and how a potentially useless office could best be used to offer society moral leadership and ethical guidance. Both Presidents seem to share impeccable ethical and moral values. Whether or not they are putting them to use as political leaders is not apparent.

Sunday, October 19, 2014

Why Greece Could Fail

In their book "Why Nations Fail", the authors Acemoglu/Robinson argue that the pillar for sustained political and economic success are a nation's institutions. They coin the terms "inclusive institutions" and "extractive institutions".

Prosperity is generated, so the authors, by investment and innovation, but these are acts of faith: investors and innovators must have credible reasons to think that, if successful, they will not be plundered by the powerful. Order without inclusive institutions may enable an economy to escape poverty, but will not permit the full ascent to modern prosperity. The authors' explanation is that if the institutions of power enable the elite to serve its own interest – extractive institutions – the interests of the elite come to collide with, and prevail over, those of the mass of the population. They argue that there is no natural process whereby rising prosperity in an autocracy evolves into inclusion. Rather, it is only in the interest of the elite to cede power to inclusive institutions if confronted by something even worse, namely the prospect of revolution. The foundations of prosperity are political struggle against privilege.

Yannis Palaiologos of the Ekathimerini blows into the same horn when he writes that Greece's closed society is central to the current malaise: "Some analyses went a little deeper and saw clientelism as the core pathology, an acid corroding everything in Greek life, leaving the country in the hands of well-connected mediocrities and spreading mutual mistrust across the body politic. But even that does not go deep enough. Greece’s biggest problem, which it has done little to deal with, is its lack of openness as a society. It is a stance with deep roots and wide-ranging implications, which decisively undermines its hopes of recovery".

The definition of a problem is always much easier than the proposal for a solution. It's quite a while since I read the book but I do remember that one of the authors' argument was: if a society is controlled by an entrenched elite, particularly a corrupt elite, then it is next to impossible to bring about change in a normal and evolving way.

Would that make a case for Alexis Tsipras?

Thursday, October 16, 2014

Greece - Why Go For Self-Destruction?

"It is impossible to imagine why the government, instead of stressing the increasing instability in Europe and the country’s good fortune at already having secured a loan from the IMF of 12 billion euros at a rate of 4 percent, insists on borrowing from the markets, where the yield of Greek 10-year bonds has skyrocketed to 7 percent" - Ekathimerini, October 16, 2014

"Typically, the more stable and reliable funding is more expensive while the 'hot' money may often be cheaper and less cumbersome to obtain. With Greece's sovereign debt, the opposite is true. The stable and reliable funding comes from EU institutions and, as far as I know, it accounts for almost 80% of Greece's sovereign debt by now. Its cost, if I am not misinformed, is 2% at the most; perhaps even closer to 1,5%. The cost of the anonymous bond money has been down to 5% earlier this year, albeit only for a 3-year tenors. 10-year bond money, which is still rather short-term, would probably cost today 6-7%. Somebody needs to help me out with logic: there is 2% stable and reliable money available but the current government does everything it possibly can to switch to anonymous bond money for shorter terms and at 5% more cost? There must be a reason for doing that except --- I can't fathom it!" - Klaus Kastner, October 2, 2014

There couldn't have been a better example than the last couple of days of what can happen if one throws one's luck into the hands of anonymous bond markets! This only re-emphasizes the question why the government is so eager to throw its luck into the hands of anonymous bond markets. My understanding is that the government's desire is driven by Alexis Tsipras' promise to 'tear up the memorandum' (Greek translation: 'get rid of the shackles of slave owners') once he is in power. So the government seems intent on pre-empting that promise, not by tearing up the memorandum but, instead, by letting it lapse.

The various, extremely painful downsides of the memorandums (if not to say their mistakes/errors) have been debated ad nauseum and I will not belabor them here. However, there has been far too little focus on the infinitely more valuable aspects of the memorandums. I will now be rather controversial and argue what would have happened to Greece if there hadn't been those memorandums; if there hadn't been EU-support; if there hadn't been support of the Euro financial system. Those who think that I am exaggerating are invited to look at Argentina. There it happened more than once during the last 30-40 years. 

Without the memorandums; without EU-support; with the support of the Euro financial system ---

1) The Greek state would have had to default on a large portion of its domestic liabilities (wages/salaries, pensions, etc.).
2) Capital controls would have had to be implemented including a domestic deposit freeze.
3) The banks would have had to be nationalized.
4) Imports of many goods would have come to a sudden stop.
5) Within a short time, Greece might have had a GDP only half the size of what it was before.
6) Etc.

This is assuming that Greece would have decided to hold on to the Euro. Had Greece opted for the Grexit, the situation would have been even more dramatic.

Why does the Greek government fall for Alesix Tsipras' tactics instead of pursuing a self-confident and constructive strategy. A strategy which focuses on the positive aspects of the memorandums and which promises to correct the mistakes/errors of the memorandums which have caused unneccessary pain? 

My sense is that, in the present situation of the Eurozone, Greece could get from the EU just about everything it wants as long as it is within a constructive and controlled framework. If Greece wanted to reprofile its debt to official lenders with a significant extension of maturities, it would get it. If Greece wanted a reduction of interest rates on the debt to official lenders, it would get it. If Greece wanted some financial room for maneuver to establish a social safetey net for the one-third of the population in poverty, it would get it. Etc.

My sense is also that the only thing which the EU does not want is a Greece which returns to its former ways. A Greece which becomes destructive and uncontrollable, and - frankly - a danger for the Eurozone and a nuisance for the EU. Isn't that a legitimate case?

Even if that were not a legitimate case, it is still in the selfish interest of Greece to continue on a constructive and controlled course. The energies must be used for striking better bargains with the EU; not for self-destruction!

Tuesday, October 14, 2014

Sofia Voultepsi - A Government Spokesperson Gone Berserk

In the event that Alexis Tsipras as Prime Minister proceeded with “heroics in Europe”, Sofia Voultepsi, a government spokesperson is quoted as saying, “it won’t be long before the ATMs shut down in Greece, as they did in Cyprus".

I have written before that the best way to eventually start a bank run is to warn of it. I have also written before that, in the sensitive world of high finance, it is often impossible to retract statements after they have been made. And that the wrong statements can become very, very expensive.

Ms. Voultepsi's statement may have been prompted by her being upset about the fact that “SYRIZA curses all day, it is a sewer and a foul stench", as she said. What she may have overlooked in the hectic of events is that close to one-third of Greeks, according to polls, currently favor SYRIZA and it is not a clever political strategy to communicate to one-third of voters that they are a sewer and a foul stench. 

If I were a supporter of ND, I would begin to wonder whether a party which makes such statements really deserves my support.

Gone Missing --- Website of Greece's Ministry of Finance

My primary sources of statistical information about Greece have traditionally been

the Bank of Greece,
the Ministry of Finance.

For quite some time now, I have not been able to access the website of the Ministry of Finance where they have detailed statistics about Public Debt and Budget Execution.

Is that a problem of my computer or a problem of the Ministry of Finance?

Tuesday, October 7, 2014

Sweetheart Deals for Greek Banks

I have read a translation of this article by Prof. Yanis Varoufakis in the German language Griechenland-Blog. It is a summary of all the support actions which the Greek banks have received from the state so far, namely:

1) A 41 BEUR recapitalization after the PSI.
2) Another 41 BEUR in state guarantees for ELA funding from the ECB.
3) Recognition of the 37,7 BEUR losses from the PSI as tax-effective losses.

At issue is point (3) which means that future profits (during the next 30 years) up to 37,7 BEUR will be tax-free. Obviously, if there are no future profits, there will be no benefit from saving taxes on them. If, however, there are future profits, the potential tax saving will be roughly 10 BEUR. In accordance with IFRS accounting rules, the banks record those 10 BEUR as 'deferred taxes' on the asset side. Put differently, a rather substantial portion of the banks' assets are future claims which will only be worth something if there is sufficient future profitability.

The risk that there might not be sufficient future profitability and that those claims might not be worth all that much was apparently too much for the bankers to sleep well. So, the government and parliament passed a law that, regardless whether or not there is future profitability, the banks will have that claim against the state. The side effect of this measure is that the banks can now count those 'deferred taxes' towards their capital base (subject to ECB approval).

What is to be made of all that?

First, there is no question that a state - if it wants to avoid total collapse of its economy - needs to bail out its large banks if and when they get in trouble. The cost to society of not doing that would be so much higher. So the question is not whether the state should have supported its banks. Instead, the only question is whether that support was commensurate and what the state got in exchange for the support it provided.

The logical answer would appear to be that if a bank gets into trouble and needs to be bailed out by the state, the state should get full ownership and the right to replace the board of directors and the management of the bank. That would be too simple a logic. If a bank has a temporary liquidity crisis (a bank run) but is otherwise relatively sound, the state should get less in exchange than from a bank which has essentially become insolvent.

The PSI essentially wiped out the entire aggregate equity of Greek banks. Put differently: even without the 'normal' problems like non-performing loans, etc., the Greek banks had lost their equity. That certainly was a situation where the state could have applied the above simple logic. Did it? No, it certainly didn't! Instead, judging from everything I have read about the recapitalizations, they were EXTREMELY shareholder-friendly! Far from full ownership! Why? No outsider will find the answer to that question.

The 41 BEUR guarantee for the ELA funding is a moot point, as far as I am concerned. Greek banks would have survived without this funding because they could draw on the ECBs target-2. ELA funding was less expensive, as far as I know, and - most importantly - it enabled the banks to buy government bonds. So here I think the benefit was rather mutual.

Recognizing the 37,7 BEUR losses from the PSI as tax-effective losses to be applied against future profits would also appear within the limits of normality. After all, the banks did incur these losses. What is totally out of the ordinary is that the state would guarantee the banks that they will get their future benefit regardless of whether they make profits or not. So that is quite a present for the banks, indeed. What did the state get in exchange? Allegedly, the state will get bank shares as collateral but I have not been able to find details about this collateral arrangement anywhere.

By and large, it seems that the Greek state has been extremely generous to its banks, particularly to the owners of its banks. Will the state need to be generous again in the future?

According to Bank of Greece statistics, the aggregate capital & reserves of all Greek banks is around 70 BEUR. That number is easy to remember because it is identical to the amount of non-performing loans in the Greek banking system. So, if all those non-performing loans were to be repaid in full, the Greek banking system would be in good shape. If they are repaid in half, the banks will again need equity and they will look to the state for support. And if the non-perfomers turn out be complete losses, then the banks' equity is - once again - wiped out. The only thing which is certain at this time is that the requirement on the part of banks of future state support can definitely not yet be ruled out.

Back in 2008, AIG needed to be bailed-out by the US government. AIG was the world's largest insurer at the time and no one really thought that the company was anywhere close to insolvency. However, they needed money in a hurry; a lot of money. It started with 85 BUSD and ended up with 185 BUSD. Given those dimensions, the US government struck a tough bargain (these days, lawyers are arguing in court that it was a 'punitative' bargain). Existing shareholders had to watch how what used to be 100% ownership eventually ended up being only 8% ownership and how the US government took a hefty 22 BUSD profit when it finally exited from AIG. Maurice R. Greenberg, the legendary former CEO of AIG and formerly one of its major shareholders, says he lost 90% of his multi-billion USD net worth in the process and he is now suing the US government for 40 BUSD in damages.

The way the US government bailed-out AIG was anything but shareholder-friendly. If the Greek government had done the same with its banks, all those banks would now have new owners, new boards of directors and new managements. Perhaps the Greek government should read up a bit on the AIG bail-out as it prepares for the next bank support program.

Sunday, October 5, 2014

President Kostas Simitis? Or Perhaps Kostas Karamanlis? Or Even Lucas Papadimos?

"Over the next years Greece will need a political President, with a deep understanding of the country's problems, who will have managed state affairs at the highest level and will be in the position to converse abroad and to demand the respect of political leaders. Based on all of the above, three candidates for the position of President could be Kostas Simitis, Kostas Karamanlis and Lucas Papadimos. In the present circumstances in Greece, there is no room for mediocrities and indifferent non-political figures" --- Antonis Karakousis in To Vima.

As a foreigner observing Greece, I often receive comments that I really don't understand Greece and the Greeks. True. Sometimes, I, indeed, do not understand Greeks. Mr. Karakousis is a case in point with his article in To Vima.

I cannot pass judgement on the governing period of Mr. Simitis but I have read enough comments about Mr. Simitis to know that he is among those who are being blamed a lot for today's misery. Mr. Karamanlis's government certainly stood watch when Greece, financially, completely went overboard. And, finally, Mr. Papadimos did a terrific job from the standpoint of Greece's creditors but from the standpoint of those Greeks who are suffering, he might be seen as a culprit.

True, all three gentlemen have "managed state affairs at the highest level and would be in a position to converse abroad and to demand the respect of political leaders" but my sense is that either of the three would quickly fill Syntagma Square with protesters. But then again, I don't understand Greece and the Greeks...

Thursday, October 2, 2014

Here It Is --- The ECB's Plan For Buying Asset-Backed Securities!

In my recent post on the subject, I had expressed anxiety about the unveiling of the ECBs plan for buying asset-backed securities (ABS) from banks. Well, the anxiety is over; the plan is out for everyone to review in detail.

You won't find all that much exciting, new information in the plan. Essentially, the ECB is saying "we will buy directly from banks only such assets which we would have accepted as collateral for funding, anyway". So no big change. There is a bit of an exception for Cyprus and Greece because, to date, the ECB has not accepted Greek collateral but they will now consider purchases of Greek assets. Ok; no big deal. Since the ECB has put the focus on buying only senior tranches, there won't be all that much to buy in Greece.

The ECB has suggested that they would also consider buying junior tranches if satisfactorily guaranteed but they will announce at a later stage what such a satisfactory guarantee is.

Bottom-line: the ECB is apparently not starting another sub-prime Ponzi-scheme, which is good news. The bad news for the banks is that, without such a sub-prime Ponzi-scheme, they really won't get rid of their problem assets.

Ah, Those Ruthless Bond Investors!

"Greece discovers the ruthless nature of bond investors", this Bloomberg headline reports. Pardon me! Did anyone ever claim that bond investors were warm-hearted, relationship-oriented financial partners? If so, I have never heard of them.

Which raises the question in my mind why the current government is so eager to leave the official lenders and to return to the markets; the ruthless bond investors, so to speak.

One way to differentiate funding sources is by reliablity: there are stable and reliable funding sources and there are those which are reminscent of people selling umbrellas when the sun is out and disappearing from the surface of the earth as soon as the first raindrops arrive. Another way to differentiate funding sources is by cost. Typically, the more stable and reliable funding is more expensive while the 'hot' money may often be cheaper and less cumbersome to obtain.

With Greece's sovereign debt, the opposite is true. The stable and reliable funding comes from EU institutions and, as far as I know, it accounts for almost 80% of Greece's sovereign debt by now. Its cost, if I am not misinformed, is 2% at the most; perhaps even closer to 1,5%. The cost of the anonymous bond money has been down to 5% earlier this year, albeit only for a 3-year tenors. 10-year bond money, which is still rather short-term, would probably cost today 6-7%.

Somebody needs to help me out with logic: there is 2% stable and reliable money available but the current government does everything it possibly can to switch to anonymous bond money for shorter terms and at 5% more cost? There must be a reason for doing that except --- I can't fathom it!

A Superb Propaganda For Greece! (and good business, too...)

I was so excited after reading this article in the Ekathimerini that I decided to reproduce it here in full length. Those are the kinds of things which Greece ought to do more of! 

"Volkswagen has booked Costa Navarino’s entire Westin Resort unit for the promotion of the German automaker’s new Passat model, starting on Friday and ending on December 3. Preparations have been under way since mid-September, while the last departures are anticipated in mid-December, when the complex in the southwestern Peloponnese will shut down for the winter.

The event organizers are expecting the arrival of as many as 22,000 people, while a special course covering 22,000 square meters is being set up to allow for the testing of the new cars. 

Such events are a blessing for units such as Costa Navarino, which has also been booked for one of next year’s biggest tourism events, the annual conference of the Association of British Travel Agents on October 12-14. The ABTA conference will be returning to Greece after 15 years, having been hosted by Kos in 2000. The Peloponnese region secured the hosting of the 2015 event after beating rivals from Portugal and Indonesia".

Public Spenders - Read This Before You Embark On Spending!

"This paper employs a new empirical approach for identifying the impact of government spending on the private sector. Our key innovation is to use changes in congressional committee chairmanship as a source of exogenous variation in state-level federal expenditures. In doing so, we show that fiscal spending shocks appear to significantly dampen corporate sector investment and employment activity" --- Study by Harvard Business School 2011.

The trick which the authors apply to come to their conclusion is somewhat unique American: they have determined that whenever a committee in Congress gets a new chairperson, that new chairperson uses his/her influence to steer public/federal money into his/her constituency. In other words, increased public spending. They have measured that federal funds which flow into their constituencies increased by 9% during the first year. Public orders which are given to the private sector in those constituencies increased even by 24%. According to theory, that should make for a significant impulse for the private sector in the constituency.

The opposite development was observed. Private companies reduced their investment in machinery & equipment on average by 15%. Expenditures for R&D also declined, as did employment in R&D. The authors conclude that increased public spending seems to crowd out activities in the private sector.

Perhaps EU policy makers should take a look at this study.

Wednesday, October 1, 2014

The Miraculous Conversion of Bad Loans Into Good Loans!

"Mr Draghi, ECB president, will this week unveil details of a plan to buy hundreds of billions of euros’ worth of private-sector assets – the central bank’s latest attempt to save the eurozone from economic stagnation" - Financial Times.

The unveiling of this plan will be most interesting. The ECBs declared intent is to buy only good loans. If banks sell their good loans, their demise is programmed because all they would have left on their books is bad loans. So there is a gap which needs to be bridged.

The logic is as follows: an individual loan may be worth nothing. A package of individual loans may include loans which are worth nothing. But the package will also include loans which are worth 100%. Typically, it takes quite some time to find out which loans will eventually be repaid and which not. Thus, one buys a whole package of loans and assumes that a certain percentage of it will be paid for sure.

Greek banks hold bad, or non-performing, loans of about 70 BEUR. Some of them will no doubt eventually be paid in full. Other may turn out to be a complete loss. No one can tell at this point with certainty what the eventual outcome will be. If anyone can make a good projection, it is the ECB because they have just subjected all those loans to intense examination. Let us assume that 30% of these loans, 21 BEUR, will eventually be repaid in full with great certainty. Let us further assume that another 30% of these loans, another 21 BEUR will be repaid at least in part. And, finally, let us assume that the remaining 40% of these loans, 28 BEUR will never be collected. The challenge is that, upfront, one doesn't know which loan is which. So let us retrieve the recipe of sub-prime and make tranches:

Tranche A: this is the Senior Tranche and we will put 21 BEUR of those loans into it which, today, seem to be of the best quality of the lot.
Tranche B: this is the Junior Tranche and we will put the next 21 BEUR of those loans into it which, today, seem to have a fair chance to be repaid, at least partially.
Tranche C: this is for gamblers; we will call it the Equity Tranche and we will put the remaining 28 BEUR into it.

Tranche A will get a rood rating and therefore the ECB can buy it at par. The return on this tranche ought to be a reasonable market return for good quality loans. The rating for Tranche B is going to be much lower but the ECB apparently also intends to buy a bit of Tranche B. The return on this tranche will be fixed considerably higher because there is considerably more risk. And those who buy the Equity Tranche will have a stasggering return potential or --- a significant loss.

This is all fine and dandy but the Greek banks are not helped if Tranche A - or even Tranche B - is taken off their books. They want to get rid of the entire 70 BEUR. And if the entire 70 BEUR is part of Mr. Draghi's plan, someone will have to take a very significant loss. Otherwise, the losses stay on the books of the Greek banks.

Since no one wants to intentially take a loss, the plan will have to be structured in such a way that it appears that every buyer of any of the tranches has a fair chance to make a return. It will be interesting to see how the potential losses are hidden and/or who will eventually end up with the losses.