Poor Italy! So squeezed between inept Brussels’ technocrats and their own redistribution profiteers.

Sir, I read Miles Johnson’s and Davide Ghiglione’s  “Italy’s welfare gamble angers Brussels and worries business” November 10, and I cannot but think “Poor Italy”, squeezed between inept Brussels’ technocrats and redistribution profiteers.

“Italy’s welfare gamble”? That welfare which Brussels’ technocrats, for the purpose of bank capital requirements have with their Sovereign Debt Privileges of a 0% risk weight helped finance? Italy’s public debt is now about €2.450 billion, meaning over €40.000 per citizen? 

That 0% risk weight is alive and kicking even though Moody’s recently downgraded Italy's debt to “Baa3”, one notch above junk status and that even though it might not have yet considered that the euro is de facto not a real domestic (printable) currency for Italy. If that is not a welfare gamble by statist regulators on governments being able to deliver more than the private sector, what is? Poor Italy.

But then I read about a government proposal that could increase welfare payments to poor and unemployed Italians to as much as €780 a month but which eligibility and distribution criteria remain unclear and again I shiver. That sounds just as one more of those conditional plans redistribution profiteers love to invent in order to increase the value of their franchise. Poor Italy. 

For me a way out that would leave hope for the younger generation of Italians would have to include a restructuring of their public debt with a big haircut for their creditors; hand in hand with an unconditional universal basic income, that starts low, perhaps €100 a month, so as to have a chance to be fiscally sustainable.

And if that does not help, then Italy will have to count (again… as usual) on its inventive and forceful strictly citizen based “economia sommersa”, something that is not that bad an option either.

PS. Oops! I just forgot that most of that Italy debt is held by Italian banks, so perhaps a type of Brady bonds EU version could be used. Like Italy issuing €2.4 trillion in 40 years zero-coupon debt, getting an ECB guarantee for a substantial percentage of its face value, and allowing banks in Europe to hold these on book on face value; all so that Italy can use it to pay off its creditors could be a shooting from the hip alternative… and then of course have all pray for some inflation to reduce the value of that debt.

PS. I am not the one first speaking about Nicholas Brady, then US Treasury Secretary, approach in 1989. Here is William R. Rhodes “Time to end the eurozone’s ad hoc fixes” in FT November 2012.

@PerKurowski

Since it can always pay back through inflation, I bank regulator, decree sovereign debt to have a zero risk-weight.

Sir, Diane Coyle begins “A history of inflation – and a future of deflation” April 7 with describing high inflation as “socially and economically corrosive, redistributing purchasing power away from small savers and those on low wages that do not keep up, and also degrading trust in long-term bargains”. In other words a truly public bad.

But then, because of “the effect deflation would have on real debt burdens” and how this would be “inhibiting a return to growth”, she ends arguing that “A quick and political painless way to reduce debt burdens, private and public, is a bout of high inflation.” Clearly a case of the damned if you do and damned if you don’t.

But, if what is really needed is a 30 percent inflation to cut all debts back to something livable, why not an Emergency Act that decrees a 30 percent haircut applicable to all debts in the society, including that of banks to its depositors. Would that not be a more transparent, less distortive and, hopefully, a politically more painful solution, so that we can get a little bit more accountability into the system?

I mention this because clearly the concept of inflation not being a haircut, although intellectually very repulsive, must be a prerequisite for allowing bank regulators to argue something so loony as a zero percent risk-weight for sovereign debt.

@PerKurowski

Anyone not denouncing the distortions produced by bank regulations has little right to lecture EU on morals

Wolfgang Münchau writes “Monetary policy mistakes caused a fall in Eurozone wide inflation rates that made it impossible for Greece and other periphery countries to improve competitive they lost in the early years of monetary union”, “By playing it safe for now, Europe puts its future at risk” March 2. 

And so what Münchau seems to suggest that all other European countries should produce high internal inflation, so as to allow Greece to be competitive. Sincerely, if I was a German, and that was the plan my government presented, I would immediate try to fire my government.

It is by playing it silly safe, with credit risk weighted equity requirements for banks, which blocks fair access to future builders like SMEs and entrepreneurs that Europe is putting its future at risk.

Of course “EU should have confronted Greek debt… early on” but, without getting rid of the distortions produced by regulations in the allocation of bank credit to the real economy, that would not have mattered.

PS. Mr. Münchau, give us one single bank crisis resulting from an excessive exposure to something that was perceived as risky when banks placed that asset on their balance sheet.

That banks are instructed to push out pension funds, widows and orphans from safe havens is absurd, and immoral.

Sir, I refer to Percival Stanion’s “When prospect of certain loss unleashes risk-seeking impulse”, February 19.

There are two major types of risk directions: that of loans to those perceived as risky, and that of excessive exposures to what is perceived as “absolutely safe”. Regulators have instructed banks, in no unclear terms, by means of portfolio invariant credit risk weighted equity requirements, to stay away from the first type, but they have not said a word about the second.

As a result, and most specially in these days of scarce bank equity, European banks are entering more and more into that terrain that already in some places signify at its best “locking in a loss at redemption”. In fact, with pre-announced inflation targets you do not even need negative rates for that.

Today Roula Khalaf gives a nice illustrating account on what is happening to Russia, by means of looking at Russian tourism in Switzerland, “A slippery slope for Switzerland’s Russian skier”. How sad that the Financial Times does not ask its journalists to look equally look at what is happening in Europe, by looking at where bank credits in Europe have been traveling ever since Basel II was introduced in June 2004. At this moment those credits are going into sovereigns squeezing out widows and orphans. Is that not an absurd and even immoral state of affairs?

PS. I have been lately been calling those negative rates as “pre-agreed minimum haircuts” because that is what they are… and so not only does Greece want a haircut… Germany and others are already giving de facto haircuts.

PS. Sir I have also asked you whether a pension fund would be authorized to accept such haircuts in the name of the beneficiaries… but I have not yet been given an answer.

But our besserwisser bank regulators express no doubts about what banks should do.

Sir, Henny Sender asks: “Which is better - to invest in the debt of lower-rated issuers because they offer more attractive absolute yields; or, to invest in the debt of higher-quality companies but do so with leverage in order to generate acceptable returns?”, “When investing is all about second-guessing the Federal Reserve” February 15.

I don’t know the answer… but bank regulators, with their portfolio invariant credit risk weighted equity requirements, imply they know that very well. They have definitely instructed the banks to go for high-quality-very-high-leverage... like for AAA-rated-securities and sovereigns. 

By the way Sir, with respect to second guessing the Fed: If I now bought a10-year US government bond which pays 1.97%, and the Fed’s declares its inflation target to be 2%, would that imply I am buying a preannounced haircut?

10-year US government bonds yields 1.97%. Fed declares an inflation target of 2%. Is buying those bonds a prepaid haircut?

Sir, today, Friday the 13th, February 2015, I read on your first page that a 10-year US government bond yields 1.97%. And I have a question for you. If the Fed tells us that they are targeting a 2% inflation, if I purchase that bond, would that be sort of a prepaid haircut?

The Financial Stability Board, like the Basel Committee...is to “minimize disruption”? Fat chance!

Sir, you write “the FSB should not shy away from making markets safer. But it should try to minimise disruption along the way”, “Making repos safe: Financial Stability Board seeks shadow banking rules” September 2.

Fat chance, neither the Financial Stability Board, nor the Basel Committee, care one iota about how they distort. Just look at how they so blithely ignore that their capital requirements for banks, which causes to provide the banks with different risk-adjusted returns on equity for different assets, has distorted all common sense out of the allocation of bank credit in the real economy.

And here, for the repo market, the FSB now wants to impose a minimum .05 percent haircut for corporate debt securities with maturity of less than a year – and a 4 percent haircut on longer term securities. Why the discrimination? In general terms of stability, what is wrong with long term debt?

The Financial Stability Board, one of the Great Distorters, goes at it again

Sir Brooke Master and Tracy Alloway write about how the Financial Stability Board is focusing on securities lending, like the “repo” market. “Shadow banks face fresh limits to trading” August 30.

The FSB wants to impose: “a minimum .05 percent haircut for corporate debt securities with maturity of less than a year – so a $100 security could be used to raise $99.50. Equities and securitizations made up of debt with durations of five years and longer would be hit by a 4 percent haircut” allowing consequentially these latter only to be able to raise $96 for each $100,

Here one of the great distorters goes at it again. Do they not understand that by differentiating between short and long term they are distorting how the markets will allocate financial resources.

Come on FSB, in general terms of stability, what is wrong with long term debt? In terms of needed liquidity... does not long term debt need that perhaps even more than short term debt?

And I sure hope that Mark Carney, the Bank of England governor, and the FSB chairman, was joking when he called the proposal “an essential first step towards… transforming shadow banking into market-based financing” If not… “Houston we’ve got a problem”

The Torturer and the Haircut

Sir, your “Europe must use borrowed time well” April 21, reminds us of how scary it is when we see someone calculating with complex formulas a sustainable debt level of a sovereign; just like a refined torturer calculating the pain tolerance of the tortured, to keep the poor bastard from passing out.

Also, who are the least hard for politicians to order a haircut? The sovereigns, their creditors the banks, the current voting tax payers, or the future generation of voting tax payers? Is it so hard to guess?

As always, the race is between postponement and realities-catching-up. As always, we are looking on with masochistic fascination, praying and biting our nails.