Archive for June, 2010|Monthly archive page

Fiscal Adjustment Set as Top Priority from G20

In Economics, Financials, Politics on June 30, 2010 at 12:13

The G20 summit in Toronto was highly anticipated due to the vast number of threats the global economy is currently facing. China’s move, days before the summit, to slightly appreciate its currency (yuan) was a good warm-up for the summit as it cleared the road for a more constructive discussion focused on more crucial and urgent issues like EU’s fiscal crisis and the financial markets regulation.

Prior to the summit, the US government had asked from Europe not to de-escalate their fiscal spending as this would jeopardize global economic recovery. Response from Europe was negative as fiscal adjustment is the unambiguous top priority of the EU member states. It’s definitely not the time for Europe to be a big spender. Fiscal discipline is far more important as it influences other areas like the the ‘free-falling’ euro and credit spreads (cost at which countries borrow).

USA has to wait a bit more for Europe to match them in the ‘spending gear’. The kind of measures countries will adopt to tackle their fiscal crisis will be different for each of them given the heterogeneity of their economies and dissimilar scale of the crisis in each of these countries. Germany and the UK have been the main advocates of this effort to postpone government spending and make sure that fiscal crises do not spread out to other EU countries.

Europe’s firm stance on curbing the fiscal crisis is really promising as it fashions patience, long-term thinking, and solidarity. The EU oughts to first restructure its domestic affairs and then gear its economy up. The situation could go out of hand, should the EU decide to focus on expansionary fiscal policies and neglect its uncontrollable deficit. On other news from the summit, the G20 ‘froze’ the prospect of implementing an ‘international bank tax’ but committed on gradually setting stricter bank capital requirements from the late 2012. Isn’t that the year the world is supposed to come to an end?!

Decision-Time for the ‘International Bank Tax’

In Economics, Financials, Politics on June 18, 2010 at 15:01

Ever since the global financial crisis burst in 2008, there has been an ongoing debate about the prospect of imposing levies on banks and their transactions to form a fund that would prevent the repetition of potential bank collapses (i.e. Lehman Bros.) that could jeopardise the global financial web. This is one of the hottest topics on the EU agenda awaiting next week’s G20 meeting.

The imposition of an ‘international bank tax’ sounds a very interesting venture to me but rather complicated and risky for the participant countries. First of all, its structure and main features haven’t been clarified yet. What to tax exactly? At what rate? Will there be a common rate across countries? When can the troubled banks make use of the fund? All these are vital aspects of this radical step which ought to be specified as soon as possible.

I see very warmly this prospect of introducing the ‘bank tax’ but I also want to stress the risks of it. The absence of a common/homogeneous ‘bank tax’ across countries is likely to alter the financial landscape and create new imbalances between ‘financial hubs’ causing the massive outflows of funds from those countries with a heavy tax. If Europe, let’s say, sets higher levies on its banks’ turnovers or transactions than the US, the European banking sector automatically becomes less profitable with lower returns which may translate into a vicious circle of less funds available to European banks and slower economic development for the region.

Moral hazard is another threat; the creation of such a fund to prevent bank collapses, may also nurture a more risky attitude of banks, as they can always utilise the fund in case of a potential failure. Last but not least, national governments should use honest criteria in the setting of such a tax that are serving the sustainability of their economy and not their short-term opportunistic goals. For example, economies with wide budget deficits like Greece and Spain, could abuse the ‘bank tax’ to absorb as many funds as they can from their domestic private banks just to achieve a ‘spectacular’ improvement in fiscal position and have the opportunity to brag about it during elections.

I remain optimistic on this issue as I believe that banks have been ‘free-riding’ for decades on peoples’ misinformation and states’ ignorance and impotence. A robust global financial system is the backbone of a well-functioning global economy. We all saw Lehman’s adverse spillovers and hope we wont’s face similar phenomena anytime soon. The ‘international bank tax’ should be homogeneously imposed across economies, on banks’ turnover and not on their transactions as fast money circulation is essential for liquidity. Finally, the funds from this new tax should be carefully and honestly treated, solely for the protection of the domestic and global financial system.

Greek Debt Restructuring on the Horizon

In Economics, Financials, Politics on June 6, 2010 at 13:01

Despite the massive financial aid granted by the IMF and the EU that amounted to 110 bn euros, debt restructuring is still considered to be a necessary step towards de-levereging or just stabilising debt level in the Greek economy. The recent aid package can only buy Greece a limited amount of time (a year may be). Efforts to contain debt escalation should start as soon as possible. Unlike fiscal deficits and inflation, debt can’t be tackled within couple of years. It’s accompanied with a dynamism and a momentum that needs time to be broken (debt set to rise to 150% of GDP by 2012). This is why an upcoming debt restructuring seems like a natural trajectory.

Debt restructuring is like a partial default. It occurs when an economy struggles to fully repay its creditors and negotiates with them the prospect of prolonging the maturity of those debts or even cutting down interest payments. Either way, this works as an unavoidable loss to the creditors. 338 bn euros is the Greek debt held by other countries, most of which is by banks and the respective public sector. It is hence easy to imagine the catastrophic domino effect that a potential default would trigger in the European inter-bank community.

Some analysts, however, counter-argue the debt-restructuring prospect claiming that the ECB has been aggressively buying Greek bonds which reduces the risk exposure of other private institutions on Greek debt. In my view, this isn’t enough to prevent a debt restructuring given the already wide exposure of foreign banks to the Greek debt and the increasing uncertainty that this dilemma generates amongst banks. Right now, few are the banks which have revealed their size of exposure to Greek bonds and this creates a blurred environment with respect to which institutions are in a dangerous spot or not.

Debt restructuring has been a frequent phenomenon in recent economic history. Russia’s and Argentina’s debt rescheduling in late 90s and early 2000 were deemed necessary but apparently insufficient in deterring the subsequent defaults. Greece has to negotiate its debt as soon as possible for two main reasons: 1) achieve faster results in its ‘fiscal discipline’ process and 2) save the markets from all the drama and speculation, that cultivates uncertainty, on whether it will actually act or not on that front.