AVA Investment Analytics Global Economic Analysis
Economics / Great Depression II Oct 11, 2011 - 02:53 AM GMTBy: Mike_Stathis
The incompetency of Washington was most recently demonstrated by the debt ceiling drama. Now the dog-and-pony show staged by the ECB, EU and IMF has added to waning consumer and investor sentiment across the globe to create a crisis in confidence. The timing of this charade could not have been worse, as this unnecessary turn of events has hit the global economy during a period when it was predetermined to weaken on its own force due to the depletion of stimulus funds. As a result of these seemingly intentional destructive actions, most of the economic gains made as the result of tax subsidies and bailout funds since the financial crisis of 2008 have been erased.
Meanwhile, substantial downside risks to global growth remain. Notably, a default of Greek sovereign debt appears imminent. Finally, the risk of significant shocks to Brazil and China has increased. At the very least, Brazil is likely to face more problems in 2012, and possibly thereafter depending on several variables. I have been warning about the risks to emerging economies for some time now.
While advanced nations were forced to borrow funds to inject emergency stimulus into the economy in 2009, emerging nations allocated stimulus expenditures primarily for programs that would strength the road ahead. As a result, nations like China and Brazil have lifted millions of their citizens out of deep poverty.
In contrast, advanced nations have generally witnessed increasing levels of poverty. Accordingly, advanced nations around the globe face several economic and social challenges. Although variable in extent depending on the nation under consideration, most advanced nations face the challenges underlying fiscal consolidation and balance sheet deleveraging.
Of more potential concern at least in the short-term, advanced nations must immediately lay forth viable programs to facilitate employment, especially for youths. Otherwise, this could lead to more uprisings.
Finally, advanced nations must deal appropriately and expeditiously with the demographic tsunami that has been in the making for decades, which I cautioned readers about in America’s Financial Apocalypse (2006). The economics of intergenerational demographic imbalances can be seen at their most extreme form by examination Japan’s socioeconomic landscape. However, many EU member nations are not far behind.
Japan also faces numerous short-term issues as the result of recent natural disasters. Shortly after the tsunami, earthquake and nuclear meltdown, analysts marginalized the global impact from Japan. We did not agree with this assessment and warned that it would add to the global slowdown expected in the second half of 2011. Only months later did the entire globe truly come to realize the full importance of Japan in the production supply chain.
Many are now becoming increasingly concerned that another recession will commence within months in the U.S. and Europe. Japan has already reentered a recession a few months ago, as we reported previously. As we have continued to insist, the U.S. never left the recession which began in December 2007. Moreover, it appears highly likely that most of the EU will reenter a recession by early 2012.
As a part of the remedy to address these demographic imbalances faced by advanced economies, pension and healthcare programs must be reformed in an equitable manner so that they are sustainable indefinitely. In the case of the EU, structural changes must be made to increase incentives for elevated labor force participation.
As I detailed in previous issues, the EU and IMF have forced Greek officials to sell off critical public assets at pennies on the dollar to the same bankers which were largely responsible for the nation’s economic collapse.
Adding to this theft engineered by the international banking cartel, the European establishment strong-armed Greek officials to pass a new property tax to be levied on all Greek home owners, tied to their electricity bill. Home owners who refuse to pay these new taxes have been informed that their electricity will be shut off. This is nothing short of extortion. Serving as a role model to all of humanity, the Greek people continue to protest. Unlike Americans, Greeks don’t have guns, but they do have heart. They also have backbone. Those who do not fight for what they have will have it stolen by those who want it more.
Although the possibility of a recession in the EU is close to certain at this point, the European Central Bank must act immediately to lower interest rates by 100 basis points over the next few months in order to contain the spillover effects.
It is also remotely possible that a recession might be avoided in Germany and France if the right elements come together at the right time, such as adequate rate cuts, continued support for EU banks and sovereign bonds by the ECB and so forth. This more optimistic outcome is predicated upon the replacement of current leadership at the ECB, EUC and IMF with competent leaders.
While the European Central Bank has recently stepped in to purchase the debt of some banks, the EU banking system will need to be recapitalized. Otherwise, without some type of European TARP program on a much larger scale, a severe recession remains a strong possibility. The effects would surely spill over to the U.S., causing the establishment to concede “another recession.”
Recently, German Chancellor Angela Merkel advised that Europe’s banks should look first to raise money in the private sector before turning to government assistance. The problem with this is two-fold. First, most European banks cannot issue debt because the interest rate would be prohibitively high. As well, equity financing would further hinder the banks because their market value has collapsed. Second, if the banks were to receive private financing first, the investors would benefit from government support similar to the case seen in the U.S. (Bill Gross, Warren Buffett and countless others).
The Bank of England recently initiated a second round of quantitative easing with an announcement that it planned to increase the asset purchase target by £75bn to £275bn, the first increase since November 2009. Meanwhile, the Federal Reserve is likely to initiate another round of quantitative easing if either consumer spending drops to dangerous territory or else the U.S. stock market collapses below the 9800 critical support. I have addressed these possibilities in recent publications.
Widespread concerns over sovereign debt and fiscal restructuring have severely impacted the Eurozone’s banking system. This has led to large increases in borrowing costs. As well, investors have punished Europe’s largest banks. As a result, faced with collapsed market values, many EU banks are in a vulnerable position since they now have a very limited capacity to raise equity and debt financing. This has obviously compounded what was already a problematic situation.
Since the beginning of 2010, the IMF has estimated that many European nations have experienced such a high level of sovereign credit risk that borrowing costs have increased by €200 billion. This amount represents the additional costs due to higher interest rates associated with new loans and refinancing transactions. Our own estimates indicate these costs to be €320 billion. Finally, we estimate that borrowing costs could approach €1 trillion within 18 months if the EU does not act now to contain the crisis.
Meanwhile, recapitalization of the EU banking system is a much larger, more costly endeavor that is likely to cost several trillion euros, depending on the sequence of events, when the banks are capitalized, by how much, and how the economy responds. Note that while TARP funds were around $800 billion, the bulk of the recapitalization process has been hidden by the 25bp interest rates. It is doubtful that the EU would be able to structure a large portion of recapitalization without a significant threat of severe inflation. This emphasizes the relevance of America’s dollar-oil link.
America’s Ace in the Hole
While the U.S. economy faces several challenges, it is by no means in a more enviable position than the predicament in the EU. The only real economic advantage the U.S. holds over the EU is the dollar-oil link which I have discussed ad nauseam for several years. This is a very powerful lever for the U.S. economy, enabling it to print a vast amount of currency while exporting a good deal of inflation across the globe. Thus, if for any reason this link is severed, it would most certainly result in an economic catastrophe of historic proportions. Even a serious threat of severance of this link could initiate a full-scale war in the Middle East. While the dollar-oil link certainly provides a failsafe during crises, as well as a means of global taxation, it does nothing to address the fundamental issues responsible for America’s economic erosion.
The U.S. housing market remains on life support, all while Washington and the Federal Reserve continue to intervene with various measures in order to lower mortgage rates. This remains as the final means by which to provide consumers with additional disposable income that has not come from borrowed funds. Make no mistake. The measures taken by Washington and the Federal Reserve represent acts of desperation. Unfortunately, similar to all over strategies, this one is unlikely to help much. Many homeowners have already refinanced over the past three years, while others are unable to qualify due to a variety of reasons.
Perhaps most worrisome from both a short- and medium-term perspective is the trend of persistently high unemployment. Washington has done absolutely nothing of any substance to address real job creation. President Obama’s America’s Jobs Act represents yet another ineffective solution, much like his Jobs Council which is comprised of some of the same villains who have been responsible for millions of job losses. It’s truly shocking to witness repetitious patterns of neglect and failure by Washington, lack of criminal prosecution of thousands of criminals responsible for destroying the global economy, and apathy of Americans. We are witnessing a historic turning point in all of human kind.
The remainder of this article can be found at www.avaresearch.com
By Mike Stathis
www.avaresearch.com
Copyright © 2011. All Rights Reserved. Mike Stathis.
Mike Stathis is the Managing Principal of Apex Venture Advisors , a business and investment intelligence firm serving the needs of venture firms, corporations and hedge funds on a variety of projects. Mike's work in the private markets includes valuation analysis, deal structuring, and business strategy. In the public markets he has assisted hedge funds with investment strategy, valuation analysis, market forecasting, risk management, and distressed securities analysis. Prior to Apex Advisors, Mike worked at UBS and Bear Stearns, focusing on asset management and merchant banking.
The accuracy of his predictions and insights detailed in the 2006 release of America's Financial Apocalypse and Cashing in on the Real Estate Bubble have positioned him as one of America's most insightful and creative financial minds. These books serve as proof that he remains well ahead of the curve, as he continues to position his clients with a unique competitive advantage. His first book, The Startup Company Bible for Entrepreneurs has become required reading for high-tech entrepreneurs, and is used in several business schools as a required text for completion of the MBA program.
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