Greece Casts a Pall over Markets

Over the weekend, Greece's government has announced fresh austerity measures designed to draw the 'troika' (EU/IMF/ECB) back to Athens in order to shake loose the next tranche of the bailout loans. In particular, a new property tax is supposed to raise an additional € 2 billion in tax revenue. Unfortunately, no new measures to actually revive economic activity were announced. The government's tack of raising taxes instead of cutting spending is likely to further depress the economy, leading to renewed revenue shortfalls in the next reporting period. Greece's debt-to-GDP ratio continues to move into the wrong direction in a hurry.

As we noted on Friday, markets are intensely skeptical over the Greek rescue. Whether the latest desperate measures will serve to float the sinking ship for a little while longer is questionable. At the time of writing, Asian stock markets and commodities were under intense pressure, as was once again the euro.



A snapshot of Asian stock markets at the time of writing – click for higher resolution.



The 'troika' seems to actually have decided to return to Greece to continue talks following the latest austerity announcements. However, the Greek government is faced with an increasingly restive population. Once again, protesters are thronging the streets. The fact that foreign creditors now dictate  Greek economic and fiscal policy and that tax payers are pressured ever more in order to keep those creditors happy doesn't sit well with a great many Greek citizens.

As the L.A. Times reports:


“Under intense pressure from international lenders, Greece on Sunday announced a new set of austerity measures to meet deficit reduction targets and stamp out speculation that it would be forced out of the European single-currency zone.

The measures, which include a two-year property tax, are intended to make up for revenue shortfalls that come to about $3 billion this year alone.

Though designed to target mainly high earners, the new tariff could further anger the crisis-weary middle class and pose political risks for the socialist government, which repeatedly has pledged to protect Greek households from being hurt by further austerity measures.

"We know that these measures are unbearable," Finance Minister Evangelos Venizelos said after a heated six-hour Cabinet meeting in the northern city of Thessaloniki. "But once more, we all have to rally together in a national effort."

That could prove tricky. Over the weekend, thousands poured onto the streets of Thessaloniki, the country's second-largest city, to protest austerity policies. In Athens, the Greek capital, youths firebombed a police bus in retaliation for the detention of more than 30 of the protesters in Thessaloniki.


“"We face a difficult predicament," Venizelos said [Greece's finance minister in what must be the understatement of the year, ed.].

"We must silence this speculation and can come out clean with a new and radical drive to implement reforms down to the T."

As part of the new cost-saving measures, Venizelos said, the government would also move to slash the salaries of elected officials, including the president's by 7%, and tap into the deep pockets of wealthy shipowners. Even so, critics warn, it's unlikely Greece's lenders and markets will breathe easier.

"These new measures are a total disgrace," said former conservative Finance Minister Stefanos Manos, who now leads a political action group. "Rather than go after the bloated public sector, the government has saddled homeowners with more property taxes, for the umpteenth time." Greece's lenders, he said, "should reject the plan and the government should resign." 


(emphasis added)

It is probably too little, too late, and anyway the wrong way forward. We would tend to agree with Mr. Manos' view that the government should have rather cut expenses in the public sector. However, as we noted on a previous occasion (see 'Deep PASOK'), there is a dense old-boys network deeply entrenched in politics and the bureaucracy in Greece, that is sabotaging all efforts at reform. The bloated public sector that continues to escape the paring knife is in fact a legacy of PASOK's leadership and it seems inconceivable that it can be brought to heel by a PASOK-led government, if at all.

The privatization program is one of the efforts that keeps wilting under the influence of this nepotistic patronage network and the metastasizing corruption that is its hallmark.

Meanwhile, the 'troika' and EU financial commissar Olli Rehn seem to have decided to grin and bear it one more time.

As Reuters reports:

“The EU's top economic official welcomed new measures announced by Greece to address its debt crisis on Sunday, including a new tax on real estate designed to raise about 2 billion euros.

"Today's decisions, including the levy on real estate, will go a long way in meeting the fiscal targets," EU Economic and Monetary Affairs Commissioner Olli Rehn said in a statement. [we admire his sunny disposition, ed.]

Inspectors from the EU, IMF and the European Central Bank, known as the troika, will return to Athens in the coming days to review the government's progress in meeting its fiscal targets, Rehn said, with the aim of completing their work by the end of September.”


(emphasis added)

However, one can sense all around that the lenders are growing weary as the Greek farce drags on. France's budget minister Valerie Precresse let it be known on Sunday that there are limits to what lenders will put up with. As the WSJ reports:

French budget minister and government spokeswoman Valerie Pecresse Sunday said France would stop lending to Greece if it does not deliver on its part of the bailout program.

"The plan has two aspects; aid to Greece with the guarantees, but also a Greek recovery plan. They have a privatization program, a spending-cut program, a program for taxing revenues. Greece must make efforts, otherwise we won't lend to them," she said in an interview broadcast Sunday on French television channel M6. “


(emphasis added)

Meanwhile in Germany, Mrs. Merkel's political allies in the CDU, CSU and FDP are no longer willing to keep quiet about the possibility of a Greek government  default. The idea that it may be better to battle the fall-out by supporting the exposed banks rather than Greece is gaining ground. Moreover, even the idea that Greece should actually leave the euro-zone is now openly talked about. This was regarded as a taboo subject up until recently, but the ongoing deterioration of the social mood in Europe is evidently beginning to lower Greece's potential escape velocity.  According to Reuters:

To stabilize the euro, there can no longer be any taboos," Philipp Roesler, economy minister and leader of Merkel's junior coalition partner, the Free Democrats (FDP), told Die Welt. "That includes, if necessary, an orderly bankruptcy of Greece, if the required instruments are available," he said. Roesler, also Vice Chancellor, said sanctions should be imposed on states failing to tackle big deficits, including the possible withdrawal of EU voting rights.

FDP general secretary Christian Lindner went further, telling the Berliner Morgenpost his party had not ruled out the possibility of Greece leaving the euro zone. Even senior figures in Merkel's conservative Christian Democrats (CDU) are leaving open the possibility of default.

"The way things are looking, you can no longer rule out a possible Greek restructuring," CDU budget expert Norbert Barthle told Reuters when asked about a default or euro zone exit. Germany has repeatedly said Greece must meet conditions set by the European Union, European Central Bank and International Monetary Fund to get the next tranche of aid.

Partly to ramp up the pressure on Greece to comply, German lawmakers have, in the past few days, adopted a tougher tone. Der Spiegel magazine reported that German finance ministry officials were preparing for the possibility of a default by Greece and working through scenarios including the reintroduction of the drachma.

The stakes are high for Merkel who is battling to convince rebels in her coalition to vote for new powers for the European Financial Stability Facility (EFSF) on September 29. Although she will get the law through due to support from opposition parties, if she fails to secure a majority from the ranks of her own coalition parties her authority will be seriously dented and she may even have to call elections. Some members of her party have raised questions about Greece's continued membership of the euro zone.

"If the Greek government's efforts to make cuts and reform are not successful, we must also ask the question whether we do not need new rules which make possible the exit of a state from the currency union," Der Spiegel quoted senior CDU member Volker Bouffier as saying.

Merkel herself has ruled out an expulsion of Greece, saying it would trigger a domino effect, but rifts have been opening up in her coalition on the subject.”


All of this is obviously a very long way from the full-throated declarations of the euro area's inviolability that were still uttered only a few months ago.

In Germany the debate has received a new twist on account of Jürgen Stark's sudden departure from the ECB. A Reuters headline refers to the event as the 'Stark Shock'.

Juergen Stark's premature departure from the European Central Bank because of his opposition to its controversial bond-buying program was described by German policymakers and editorial writers as a "wake-up call" for Germany.

It comes roughly seven months after Axel Weber, another monetary hawk in the post-war German tradition, abruptly resigned his post as head of the Bundesbank and withdrew his candidacy for the top post at the ECB. That decision shocked the German policy establishment, but at the time many saw it as a one-off move by an impulsive man who had clashed loudly and publicly with President Jean-Claude Trichet over the extraordinary measures taken by the ECB to safeguard the single currency.

The resignation of Stark, a loyal, dedicated central banker who had kept his doubts about ECB policies to himself, tells a very different story, and has unleashed a wave of anxiety across Germany about the direction of 12-year-old single currency bloc.

Taken together, the departures are seen by many as indications of a southern European takeover of the ECB's policy-setting council, a worry sharpened by the looming presidency of Italian Mario Draghi, who takes Trichet's place in November.

Former Bundesbanker Edgar Meister called at the weekend for changes to the ECB's one-country, one-vote rule, saying it was "unbelievable" that a country such as Germany that was shouldering the biggest burden in the crisis could be overruled by central bankers from smaller countries that have already been rescued or are at risk of a bailout.

Norbert Barthle, a senior lawmaker from Merkel's Christian Democrats (CDU) who sits on parliament's budget committee, told Reuters that Stark's exit was "a rejection of the policies that the ECB has pursued and a clear signal that the situation in the broader euro zone has reached a really critical point."


(emphasis added)

This reaction mirrors our own assessment as mentioned in Friday's missive. Evidently Stark's departure signals a possible policy shift at the ECB in the direction of looser and more interventionist monetary policy in the looming post Trichet era. Although Trichet's heir designate Mario Draghi, currently governor of the Bank of Italy, is reportedly a 'hawk' as well (his colleague on the ECB's board, Lorenzo Bini-Smaghi definitely is one), it seems obvious to us  that things that were not possible under Trichet may become possible under Draghi. For politicians eager to preserve the current configuration of the euro-area at all costs, letting the central bank do some of the heavy lifting by inflating the currency seems an 'easy way out'. Hey, if the SNB can 'flood the markets with money', and Heli-Ben across the pond can do it, why not the ECB too?

And yet, in Germany there is a significant interest group that stands fully behind an ECB modeled after the Bundesbank: a conservative entity that does not risk the currency's stability with its policies. Germany's 'institutional memory' is informed by the ravages of the Weimar Republic's hyperinflation and the economic, social and political chaos it provoked.  If it were to come down to trying to 'save Greece by inflating', or 'letting it default while refusing to inflate', many politicians in the EU probably would rather choose the first option. In Germany  massive resistance to such a course must be expected.

We are of course doubtful of everything the central monetary planning agency does. While official 'CPI inflation' rates in the euro-area have remained tame over the  period of the ECB's reign, it would be entirely wrong to assert that it has 'kept inflation under control'. The euro area's money supply TMS increased by roughly 130% in just one decade. The ECB accommodated a massive credit expansion that ushered in housing bubbles in many euro area nations and enticed some governments to incur far more debt that their economies could possibly support in case of an economic downturn.



Euro area true money supply TMS – although growth has flattened since early 2010, this aggregate has grown by 130% since the end of the year 2000 Data via Michael Pollaro – click for higher resolution.



In short, although the ECB has fulfilled the 'price stability mandate', Germany's  politicians are quite wrong if they believe that it has 'kept inflation in check'. A failure to understand what Ludwig von Mises called the 'money relation' is behind this erroneous assessment. The influence of money on the money prices of goods and services depends not only on the supply of money, but also the demand for money and the supply and demand of goods and services.

A rise in the prices of final goods is only one of the many possible effects of money supply inflation, and not the most pernicious one. Moreover it may arrive with a considerable lag time.

Clearly the boom-bust sequence that has led to the current crisis is an effect of the increase in the supply of money and credit in the euro area over the past decade. In addition,  in the wake of the adoption of the euro, interest rates of new member nations converged on the low rates pertaining in Germany, inducing an enormous borrowing spree.

If indeed a much looser ECB policy is considered as a policy option, then yet another error will be heaped on top of all the previous errors.It will be interesting to see how European stock and credit markets act on Monday morning. As we have pointed out on Friday, the increasing worries over Greece continue to pummel the banking sector and keep driving peripheral government bond yields and CDS prices higher. European stock markets ended last week on the edge of a precipice – just barely above or right at the lows seen over the past several weeks. At the time of writing the European open is still several hours away, but a break below these levels can be expected to invite even more selling. By the time our US readers read these  words we will already know more.



The euro is breaking down – this chart show the euro's level at the close of Friday's NY trading session – click for higher resolution.



A 5 minute chart of the euro at the time of writing – sinking further in Asian trading – click for higher resolution.




Charts by:, TFC-commodity charts, Michael Pollaro.




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