IMF admits that the West is stuck in near depression

If you strip away the political correctness, Chapter Three of the IMF's World Economic Outlook more or less condemns Southern Europe to death by slow suffocation and leaves little doubt that fiscal tightening will trap North Europe, Britain and America in slump for a long time.


By Ambrose Evans-Pritchard
Published: 8:00PM BST 03 Oct 2010

Spain, trapped in EMU at overvalued exchange rates, had a general strike last week

The IMF report – "Will It Hurt? Macroeconomic Effects of Fiscal Consolidation" – implicitly argues that austerity will do more damage than so far admitted.

Normally, tightening of 1pc of GDP in one country leads to a 0.5pc loss of growth after two years. It is another story when half the globe is in trouble and tightening in lockstep. Lost growth would be double if interest rates are already zero, and if everybody cuts spending at once.

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"Not all countries can reduce the value of their currency and increase net exports at the same time," it said. Nobel economist Joe Stiglitz goes further, warning that damn may break altogether in parts of Europe, setting off a "death spiral".

The Fund said damage also doubles for states that cannot cut rates or devalue – think Spain, Portugal, Ireland, Greece, and Italy, all trapped in EMU at overvalued exchange rates.

"A fall in the value of the currency plays a key role in softening the impact. The result is consistent with standard Mundell-Fleming theory that fiscal multipliers are larger in economies with fixed exchange rate regimes." Exactly.

Let us avoid the crude claim that spending cuts in a slump are wicked or self-defeating. Britain did exactly that after leaving the Gold Standard in 1931, and the ERM in 1992, both times with success. A liberated Bank of England was able to cut interest rates. Sterling fell. The key point is whether you can offset the budget cuts.

But by the same token, it is fallacious to cite the austerity cures of Canada, and Scandinavia in the 1990s – as the European Central Bank does – as evidence that budget cuts pave the way for recovery. These countries were able export to a booming world. They could lower interest rates, and were small enough to carry out `beggar-thy-neighbour' devaluations without attracting much notice. We were not then in our New World Order of "currency wars".

Be that as it may, it is clear that Southern Europe will not recover for a long time. Portuguese premier Jose Socrates has just unveiled his latest austerity package. He has capitulated on wage cuts. There will be a rise in VAT from 21pc to 23pc, and a freeze in pensions and projects. The trade unions have called a general strike for next month.

Mr Socrates has already lost his socialist majority, leaking part of his base to the hard-Left Bloco. He must rely on conservative acquiescence – not yet forthcoming. Citigroup said the fiscal squeeze will be 3pc of GDP next year. So under the IMF's schema, this implies a 3pc loss in growth. Since there wasn't any growth to speak off, this means contraction.

Spain had a general strike last week. Elena Salgado, the defiant finance minister, refused to blink. "Economic policy will be maintained," she said. There will be another bitter budget in 2011, cutting ministry spending by 16pc.

Mrs Salgado has ruled out any risk of a double-dip. But the Bank of Spain fears the economy may contract in the third quarter.

The lesson of the 1930s is that politics can turn ugly as slumps drag into a third year, and voters lose faith in the promised recovery. Unemployment is already 20pc in Spain. If Mrs Salgado is wrong, Spanish society will face a stress test.

We are seeing a pattern – first in Ireland, now in Greece and Portugal – where cuts are failing to close the deficit as fast as hoped. Austerity itself is eroding tax revenues. Countries are chasing their own tail.

The rest of EMU is not going to help. France and Italy are cutting 1.6pc GDP next year. The German squeeze starts in earnest in 2011.

Given the risks, you would expect the ECB to stand by with monetary stimulus. But no, while the central banks of the US, the UK, and Japan are worried enough to mull a fresh blast of money, Frankfurt is talking up its exit strategy. It risks repeating the error of July 2008 when it raised rates in the teeth of the crisis.

The ECB is winding down its lending facilities for eurozone banks, regardless of the danger for Spanish, Portuguese, Irish, and Greek banks that have borrowed €362bn, or the danger for their governments. These banks have used the money to buy state bonds, playing the internal "carry trade" for extra yield. In other words, the ECB is chipping at the prop that holds up Southern Europe.

One has to conclude that the ECB is washing its hands of the PIGS, dumping the problem onto the fiscal authorities through the EU's €440bn rescue fund. That is courting fate.

Who believes that the EMU Alpinistas roped together on the North Face of the Eiger are strong enough to hold the rope if one after another loses its freezing grip on the ice?

http://www.telegraph.co.uk/finance/comment/ambroseevans_pritchard/8039789/IMF-admits-that-the-West-is-stuck-in-near-depression.html

How safe is the cash in your wallet?

By Ian Cowie Your Money Last updated: June 28th, 2010

53 Comments Comment on this article

About a tenth of the £20 notes in circulation, worth a total of £30bn, will cease to be legal tender at midnight the day after tomorrow – Wednesday, June 30. But what about other banknotes in your wallet?

That stash of foreign currency stored up from your last European holiday might not be as safe as you thought. Not all euros are the same and some might be worth more than others.

Each euro banknote’s serial number tells you which country created it. Some could be worth more than others if the Greek crisis causes debt worries to drive a wedge between northern and southern countries in the eurozone.

Worries about sovereign states’ differing abilities to repay their debts prompted world leaders at the G20 Summit in Toronto to pledge they will half their national budget deficits by 2013. But translating words into action will be a more difficult challenge for some than others. For a few, the challenge could prove simply impossible.

Now rising fears about southern European countries’ financial stability mean it could pay to be able to read the code on your euro. SomeGermans are already insisting on holding on to euros issued in their own country and passing on those backed by southern states. They know from not too distant history what it feels like to be left holding worthless paper which used to be official currency.

While it may seem far-fetched to worry about the future of one of the world’s largest currencies, the wealthy speculator George Soros expressed doubts last week and several other commentators have done so earlier.

When I called the European Union Parliament and Commission press offices in London this morning to seek their comments , none was forthcoming. To be fair, there was some sort of a fuss about eggs going on and one of the people I spoke to promised to call me back. I’ll let you know if they do.

All euros are backed by the European Central Bank but the serial numbers prefixed with X may be regarded as most secure because they are issued by Germany. N is also a good prefix, because these come from Austria. P, L, U and Z prefixes may also be favoured because these are issued by the authorities in Holland, Finland, France and Belgium.

If you share widespread fears that the euro cannot last in its present form, you might want to avoid notes with the prefixes F, G, M, S, T or Y. These are issued by Malta, Cyprus, Portugal, Italy, Ireland and Greece.

Here and now, in a long-planned move to make life difficult for forgers, about 150m British £20 notes with a picture of Edward Elgar will be replaced as legal tender on Thursday, July 1, by notes with a picture of Adam Smith. When the change was first announced during the last Labour government, I noted how apt it was that Gordon Brown should replace a great English composer with a Scots tax collector – for that was Smith’s day job before he became an economist.

The transition will no doubt be smooth and the Bank of England says it will continue to honour all the notes it has issued.

Let’s hope the same can be said of the European Central Bank and all its euros.

http://blogs.telegraph.co.uk/finance/ianmcowie/100006707/how-safe-is-the-cash-in-your-wallet/

G20 nations see different paths for securing recovery

REUTERS, Jun 25, 2010, 08.47am IST

TORONTO/WASHINGTON: World leaders aimed for a common target on Thursday of securing the economic recovery, but disagreed over how best to reach it.

With two days to go before the Group of 20 summit convenes in Toronto, officials tried to downplay differences between the United States and Europe over how quickly to shift from crisis-fighting mode to budgetary belt-tightening.

"That's the delicate balance that we need to try to strike this weekend," Canadian finance minister Jim Flaherty said.

His US counterpart, Timothy Geithner, said each country needed to decide what policy mix made sense to ensure both growth and fiscal responsibility.

"Our job is to make sure we're all sitting there together, focused on this challenge of growth and confidence because growth and confidence are paramount," he said in an interview with BBC World News America.

The G20 club of rich and emerging economies joined forces at the height of the global financial panic and poured an estimated $5 trillion into stimulus spending, emergency loans and bank guarantees, helping to ward off a global depression. 

The group still has a long and difficult to-do list, including forging consensus on new rules about how much capital that banks must hold, and making sure national financial regulatory reforms do not clash on a global scale.

The cost of fighting the financial crisis and recession left gaping holes in government finances, and Greece's debt troubles have focused Europe's attention on the need to shrink budget deficits before investors lose patience. 

European Commission president Jose Manuel Barroso said Europe could no longer afford to borrow and spend, and must repair budgets in order to rebuild confidence for growth. 

"It will not be a change overnight but there is no more room for deficit spending," Barroso told a news conference in Toronto.

The United States wants to make sure European countries - Germany, in particular - do not remove government supports too quickly because that could derail the recovery.

US stocks fell on Thursday on concerns over the durability of the economic rebound.

President Barack Obama, pushing Washington's pro-growth, line, said "surplus countries" - often code for Germany and China - must find ways to stimulate growth. But he also acknowledged that countries including the United States with medium- and long-term deficit problems would have to address them.

"Not every country is going to respond exactly the same way, but all of us are going to have responsibilities to rebalance in ways that allow for long-term, sustained economic growth," Obama said in Washington during an appearance with Russian President Dmitry Medvedev.

White House economic adviser Lawrence Summers, in an interview with Reuters, also stressed that growth would be key, but said it was not simply a matter of choosing between austerity and expansion.

"There obviously is an importance in having a growth strategy, but I think it's too simple to think of growth strategies only as running budget deficits or printing money," he said. 

In Europe, senior officials were in no mood to back down on their plans to cut spending.

Saying she expected "controversial discussions" in Toronto over Europe's budget priorities, German Chancellor Angela Merkel insisted Berlin would forge ahead with its biggest program of fiscal cutbacks since World War II.

European Central Bank president Jean-Claude Trichet dismissed the idea budget cuts could torpedo the fragile economic recovery that is taking hold.

"The idea that austerity measures could trigger stagnation is incorrect," Trichet told Italian newspaper La Repubblica, describing the German budget plans as "good" and repeating calls for more fiscal discipline in the 16-nation euro zone. 

Merkel, who aims to save 80 billion euros in the next four years, told ARD television that sustained growth could only be guaranteed through getting a grip on deficits and debt. 

"I and the EU will argue this position. There are others who are not yet so convinced of this exit strategy," she said.

The G20, which includes the world's biggest economies and two-thirds of its population, holds its summit in Toronto on Saturday and Sunday. It will be preceded by a meeting on Friday and Saturday of the G8, composed of Britain, Canada, France, Germany, Italy, Japan, Russia and the United States.

Downtown Toronto's downtown banking district has seen business drop off as heavy security is mounted. Canadian police said on Thursday they had arrested the driver of a car near the meeting site who was carrying a chainsaw, crossbow and fuel containers.

BANKING REFORM

Economic policy has not been the only issue dividing the G20, which has also seen its unity tested by reforms to the banking sector.

European proposals for global taxes on banks and financial transactions have run into opposition from countries like Canada that say their banks are in good health. 

European countries are concerned that planned new rules requiring banks to set aside more capital may crimp lending.

Obama, meanwhile, hopes to sign off on rules to regulate finance within weeks as lawmakers raced to meet a Thursday deadline they had set themselves to agree on their own financial overhaul package.

Obama signalled on Thursday that China's move this week to relax the peg of its currency, the yuan, to the dollar may not be enough to shield Beijing from accusations that it is using the currency to gain an unfair trade advantage. 

"The initial signs were positive. But it is too early to tell whether the appreciation, that will track the market, is sufficient to allow for the rebalancing that we think is appropriate," Obama said.

The yuan has risen by about 0.4 percent against the dollar since Beijing's policy change - a significant step relative to its earlier freeze, but far less than the 25 to 40 per cent increase that some analysts say it needs to make to achieve fair value.

http://timesofindia.indiatimes.com/biz/international-business/G20-nations-see-different-paths-for-securing-recovery/articleshow/6088971.cms

"Cut versus growth" debate: Barack Obama is refusing to listen to reason on economic policy

Barack Obama is refusing to listen to reason on economic policy

President Barack Obama could learn from the old-fashioned German habit of saving money before spending it, argues Jeremy Warner.

 

By Jeremy Warner
Published: 8:17PM BST 24 Jun 2010

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Barack Obama will meet other world leaders at the G20 summit Photo: AFP

Rarely has the dismal science of economics inflamed such passions. While the "cuts versus growth" debate has been building steadily for more than a year on both sides of the Atlantic, over the past week it has exploded into open international hostilities.

A compromised form of words will already have been agreed for the communiqué to follow this weekend's meeting of G8 and G20 leaders; the sherpas who do the preparatory donkey work for these stage-managed events will have ensured it.

 

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But behind the anodyne platitudes of any statement, the tensions have reached fever pitch. Gone is the co-operative consensus that, in adversity 18 months ago, brought G20 nations together to fight the downturn.

In its place lies a clear line of demarcation that almost exactly mirrors our own political debate in Britain over the economic consequences of George Osborne's Emergency Budget cuts. Yet though this debate masquerades as high intellect, it has about as much to do with economics as the outcome of the World Cup.

President Barack Obama, backed to some extent by Nicolas Sarkozy of France, wants economic stimulus to continue until the global recovery is unambiguously secure. In the opposite corner is Germany's Angela Merkel, now oddly aligned with Britain's new political leadership in thinking the time is right for fiscal austerity.

Like much of what Mr Obama says and does these days, the US position is cynically political. With mid-term elections looming and the Democrats down in the polls, the administration hasn't yet even begun to think about deficit reduction. Obama is much more worried by the possibility of a double-dip recession and the damage this would do to his chances of a second term, than the state of the public finances.

As it happens, the public debt trajectory is rather worse in the US than it is in Europe, yet Obama has adopted an overtly "spend until we are broke" approach in a calculated bid for growth and votes.

Part of the reason he can afford to do this is that the dollar remains the world's reserve currency of choice. For some reason, international investors still want to hold dollar assets, which for the time being gives the US government an almost limitless capacity to borrow. As we know, not everyone enjoys this luxury.

Mr Obama's cheerleader-in-chief in arguing the case for continued international deficit spending is the American economist Paul Krugman. This hyperactive Nobel prize winner has achieved almost celebrity status for his extreme neo-Keynesian views. Unfortunately, his frequent polemics on the supposed merits of letting rip public spending long since ceased to be based on objective analysis, and are instead argued as a matter of almost ideological conviction. He's as much a fundamentalist as the "deficit hawks" he mocks.

As it happens, nobody is asking America to axe and burn with immediate effect, though you might not think this to read Professor Krugman's ever more hysterical commentaries on the fiscal austerity sweeping Europe. But some sort of a plan for long-term debt reduction, other than blind reliance on growth, might be helpful.

Chancellor Merkel's approach looks equally political. With her own position under some threat, she has taken, with growing conviction, to preaching the teutonic virtues of fiscal discipline and long-term economic planning. Self-flagellation is judged to play as well with German voters as profligacy does with Americans.

These culturally very different approaches to politics and economics were brilliantly described by the German finance minister, Wolfgang Schauble, in a recent newspaper article. "While US policymakers like to focus on short-term corrective measures," he wrote, "we take the longer view and are therefore more preoccupied with the implications of excessive deficits and the dangers of high inflation… This aversion, which has its roots in German history, may appear peculiar to our American friends, whose economic culture is in part shaped by deflationary episodes. Yet these fears are among the most potent factors of consumption and savings rates in our country."

Just as America takes its popular understanding of economic catastrophe from the Great Depression of the 1930s, for Germans it is the great inflations of the inter- and post-war years, the first of which destroyed middle-class savings and contributed to the rise of political extremism.

There are no rights and wrongs in this debate, but by implicitly criticising Germany for not doing enough to stimulate domestic demand, Mr Obama displays his usual lack of understanding of foreign affairs – or rather, perhaps deliberately chooses to dismiss perfectly legitimate alternative approaches to the same problem.

Few countries did as much as Germany to sustain economic activity in the downturn. What's more, despite the rhetoric of deficit reduction, its fiscal stance remains expansionary throughout the remainder of this year and is only mildly negative next year. The goal of returning to balanced budgets by 2015/16 is entirely reasonable given the demands and constraints of an ageing population, is in line with the same ambition set by George Osborne this week, and can in any case be suspended if the economy begins to shrink again.

As Mr Schauble has repeatedly pointed out, seeking to engineer greater domestic demand by taking on more government borrowing is, for Germany at least, counter-productive, for Germans do not feel confident in their spending unless cushioned by adequate savings. Some might think these the sort of old-fashioned virtues that need to be relearnt in more profligate advanced economies, such as America and Britain.

I don't want to push the argument too far, for there is no doubt that by exporting debt to its neighbours, Germany played a central role in the fiscal crisis that has engulfed the fringe nations of the eurozone. There is no obvious answer to these inherent fault lines within the European monetary union, other perhaps than a return to sovereign currencies.

But to expect Germany to become less competitive so that the Greeks and Spaniards can be more so is absurd. It's a bit like arguing that elite marathon runners should slow down to allow others to catch up.

In berating others to carry on spending, Mr Obama is being neither politically wise nor economically sound. He should instead be attending to his own back yard by mapping out some sort of credible, long-term plan for returning the US to balanced budgets.

David Cameron is going to find himself ahead of the curve among the G8 this weekend, for his own plans for fiscal retrenchment are, if anything, rather more advanced and detailed than even those of Germany. In Britain, only the Labour Opposition and its supporters still think this the wrong approach – but given they were the ones that got us into this fiscal mess in the first place, they would do, wouldn't they?

http://www.telegraph.co.uk/finance/economics/7852801/Barack-Obama-is-refusing-to-listen-to-reason-on-economic-policy.html

European Stocks Find Fans among U.S. Funds

European Stocks Find Fans among U.S. Funds
Posted by: Ben Steverman on June 24, 2010

Despite a fiscal crisis in Europe that is dragging stocks lower day after day, European stocks are finding enthusiastic buyers among an unlikely group: American fund managers.

That’s the clear impression from the Morningstar Investment Conference, an annual gathering in Chicago of 1,350 financial advisors, fund managers and other investing pros.

On June 24, the second day of the three-day conference, the Dax Index, a measure of the German stock market, fell 1.4%, and the Euro Stoxx 50 index, covering 50 stocks from across Europe, dropped 2.2%, bringing its year-to-date losses to a negative 10.8%.

But also on June 24, managers of global stock funds were extolling the virtues of European equities in panel discussions.

The common theme for these investors: The problems in Europe are serious, but the stock market has overreacted and many European stocks are selling at terrific discounts.

“What’s happening in Europe is of great concern,” said Franklin Mutual Series portfolio manager Philippe Brugere-Trelat, “and that’s the main reason stock markets in Europe are so cheap.”

But, he said at a panel discussion on “stock picking across the globe”: Many companies headquartered in Europe are “not European at all” in the sense that a large portion of their sales and earnings come from outside the continent.

Furthermore, the weaker euro gives a big advantage to European companies selling outside Europe. “The Euro at $1.20 is a very big cherry on the cake in terms of earnings and sales,” Brugere-Trelat said. The Euro on June 24 was trading at $1.23, down 13.9% from the beginning of 2010.

At a different panel discussion, Artisan Partners portfolio manager Mark Yockey admitted he has a relatively high exposure to European stocks — especially to financial issues that could be most vulnerable to debt problems.

However, he said, many European banks are like his holding, ING, which is one of three main banks in the Netherlands. An oligopoly like that gives ING and other similarly situated banks extra strength and staying power. “We think once things settle down they’re going to grow their earnings,” he said.

Another speaker and manager of foreign stocks on the same panel, Janus Capital Management portfolio manager Brent Lynn, said he has a relatively lower exposure to Europe but that he’s ready to start buying.

“We have more compelling valuations in Europe than I’ve seen in a number of years,” he said. The sovereign debt problems make him “worried … but intrigued by the prospect of buying high quality companies” at cheap prices.

The deals are so good that Lynn said he was considering buying domestically oriented banks in Italy and Spain, two of the most indebted European nations. His targets are “franchises that we think will be survivors.”

If investors are convinced the Europe stock slide has gone too far, this could be a great time to buy. Extending that logic, the market’s continued slide means that European stocks could be an even better deal in the future.

Referring to this, Yockey won a laugh from his audience when he said: “The opportunities are getting better and better every day.”

http://www.businessweek.com/investing/insights/blog/archives/2010/06/european_stocks_find_fans_among_us_funds.html

Risks to global economy have 'risen significantly', top IMF official warns

Risks to global economy have 'risen significantly', top IMF official warns

The risks to a robust global recovery have 'risen significantly' as many governments struggle with debt, a leading official from the International Monetary Fund has warned.


Published: 9:24AM BST 09 Jun 2010
10 Comments

The G20 summit in April. 2009, was the high watermark for international co-operation in tackling the financial and economic crisis.

“After nearly two years of global economic and financial upheaval, shockwaves are still being felt, as we have seen with recent developments in Europe and the resulting financial market volatility,” Naoyuki Shinohara, the IMF's deputy managing director, said in Singapore on Wednesday. “The global outlook remains unusually uncertain and downside risks have risen significantly.”

Countries across Europe are under pressure to tackle their deficits that were deepened by the financial crisis and governments own response to it. Some economists fear that moves by countries ranging from Britain to Spain to rein in public spending at the same time will set back a global recovery.

Stock markets have declined in the past couple of months as Europe's debt crisis and the prospect of higher interest rates in the faster-growing Asian economies cast a shadow over the recovery.

“Adverse developments in Europe could disrupt global trade, with implications for Asia given the still important role of external demand,” Mr Shinohara said. “In the event of spillovers from Europe, there is ample room in most Asian economies to pause the withdrawal of fiscal stimulus.”

Mr Shinohara, the former top currency official in Japan, added that "a key concern is that the room for continued policy support has become much more limited and has, in some cases, been exhausted.”

http://www.telegraph.co.uk/finance/economics/7812903/Risks-to-global-economy-have-risen-significantly-top-IMF-official-warns.html

MPC's Adam Posen warns Britain at risk of Japan-style deflation

MPC's Adam Posen warns Britain at risk of Japan-style deflation

Britain is at risk of sliding into a Japan-style episode of deflation, and may be even worse-equipped than the Asian country to escape, a Bank of England policymaker has warned.

By Edmund Conway
Published: 8:45PM BST 24 May 2010

Adam Posen, a member of the Bank's Monetary Policy Committee, said that although Britain and the US were unlikely to face repeated recessions, in many senses their plight was "scarier" than Japan's. The warning is of particular significance because Mr Posen - an American economist - was recruited to the MPC partly because he is a renowned Japan expert.

In speech at the London School of Economics, he said: "The UK worryingly combines a couple of financial parallels to Japan with far less room for fiscal action to compensate for them than Japan had."

Britain faces an uncomfortable trio of obstacles, none of which faced Japan in the 1980s or 1990s.

• Unlike Japan, Britain has to sell a large proportion of its debt to overseas investors, who are more likely to exit the market if they become scared of Britain's fiscal prospects. 
• The UK also faces the challenge of having to boost a troubled manufacturing sector if it is to recover sufficiently. 
• Unlike Japan, it does not have the luxury of having a worldwide market with a large and growing appetite for exports.

He also warned that the banking system's continued troubles would undermine companies' abilities to raise funds, and pointed out that businesses already appeared to be hoarding savings - something which happened in Japan.

Using a film analogy, Mr Posen said that it was possible that there could be UK "remake" of the Japanese episode.

"Unfortunately, the ironic twist for this upcoming film is that in some ways the remake might be scarier than the original. That risk arises not only because the original Great Recession was not quite so scary as previously thought on close viewing, but because Japan actually had various resources with which to manage its situation while the UK and other economies are not similarly endowed, even if some Japanese policymakers failed to take advantage of them."

The warning may come as a surprise to some, since last week the Office for National Statistics revealed that the Retail Price Index measure of inflation had risen to an 18-year high of 5.3pc. However, there is a growing number of economists who fear that the current relapse of financial stress could spark a global double-dip recession.

Andrew Roberts, credit strategist at RBS, said last week that the world could be heading for Great Depression II. Albert Edwards of Societe Generale expects some years of deflation, followed by hyperinflation as countries monetise their deficits.

http://www.telegraph.co.uk/finance/financetopics/financialcrisis/7760827/MPCs-Adam-Posen-warns-Britain-at-risk-of-Japan-style-deflation.html

Euro crisis: how the experts are positioning their portfolios

Euro crisis: how the experts are positioning their portfolios

Markets have become more volatile in recent weeks, but many fund managers have ruled out any possibility of a full-blown stock market crash.

Published: 3:05PM BST 29 May 2010

However, the eurozone crisis is worsening and many analysts are predicting a double-dip recession and further market falls.

No one can predict what will happen but the best way to avoid boom-and-bust cycles is to make objective investment decisions that ignore fashions. We talked to the leading portfolio managers to see how they were mixing their assets.

JOHN CHATFEILD-ROBERTS, JUPITER
We fear that Greece is merely the canary in the coal mine and there is, sadly, considerable potential for more social unrest in some European countries. We therefore have very limited exposure to European equities right now; but while the West has suffered from over-indebtedness, developing countries such as China and India continue to produce impressive economic growth.

This is why our Jupiter Merlin portfolios have significant exposure to Asia and Latin America, via Findlay Park Latin America and First State Asian Equity Plus. In such an uncertain environment, we believe that we should retain an element of insurance in our portfolios.

All our portfolios have what we deem to be sensible exposure to both gold, through a Physical Gold exchange-traded fund (ETF), and the US dollar through Findlay Park US Smaller Companies and Jupiter North American Income funds.

MARK HARRIS, HENDERSON
Our central expectation is that markets will stabilise temporarily but that recent euro troubles will reassert themselves over the summer. We are taking a cautious approach. We have been at our minimum allowable weightings in European equities, using defensively positioned funds such as the Ignis Argonaut European Alpha Fund and the BlackRock European Dynamic Fund.

We have also been hedging our euro exposure back into US dollars to prevent potential currency losses together with tactically selling Euro Stoxx futures to reduce the underlying market exposures in our portfolios. The currency and market hedging reflects efficient portfolio management but, most importantly, helps to protect our clients' money.

But the volatility of the past few weeks need not be a cause for panic. Pullbacks present potential buying opportunities and the number of companies beating earnings expectations could help to balance concerns about sovereign debts.

Weakness in the euro is beneficial to European exporters and any further setbacks to markets will leave European equities attractively valued. We will look to buy funds with exposure to high earnings revisions, exposure to industrials and minimal weighting to peripheral Europe.

MARCUS BROOKES, CAZENOVE
We have been positioned for further malaise in markets. We felt that the backdrop for markets was deteriorating as valuations were reflecting a benign environment, whereas the weakness earlier in the year showed that there remained some stress in the financial system.


The Cazenove Multi-Manager Diversity fund has a cash position of 20pc and defensively positioned equity funds (Invesco Perpetual Income fund, JO Hambro UK Growth), and we have reduced the exposure to long biased hedge fund strategies in favour of funds where the manager was positioning for equity declines (Jupiter Absolute and the Eclectica Hedge fund).

Additionally, currency concerns relating to the euro saw us have a position in gold and other assets denominated in US dollars, as these typically do well in times of stress.

We are aware that markets have moved strongly, targeting the European equity market and the euro in particular. This will present an opportunity to buy cheap assets once the fear causes irrational selling, but we do not feel we are there yet.

http://www.telegraph.co.uk/finance/personalfinance/investing/7782871/Euro-crisis-how-the-experts-are-positioning-their-portfolios.html

Euro crisis: how will it affect me?

Euro crisis: how will it affect me?
What caused the European debt crisis, how long will it last, and how worried should Britons be?

By Paul Farrow
Published: 2:26PM BST 29 May 2010

Europe is in crisis. Austerity measures have been announced in several countries including Greece and Spain, the euro is under pressure and stock markets across the globe have fallen sharply from their recent highs – and it is all due mainly to sovereign debt.

But what is sovereign debt and why has it caused a crisis? And should people in Britain be worried?

We have spoken to the experts to help answer these questions.

Q I keep hearing about sovereign debt. What is it?
National governments issue bonds as a way of borrowing to help meet their spending on education, health, defence and so on. Just like any bond, a sovereign debt bond pays investors interest over its term and the bondholder gets his money back on maturity. In Britain, these bonds are better known as gilts.

Andy Howse, investment director for fixed income at Fidelity, said: "The promise to repay is not a guarantee. The strength of the promise is a function of the size of the debt compared to the economy in question and the cost of servicing that debt. This can change over time and between nation states."

Q What has caused the debt crisis?
In a word or two, over-borrowing. Sovereign debt is fine so long as the governments have no problem repaying the debt. But several countries have borrowed beyond their means – the ramifications of the financial crisis have left them struggling to repay their debt. This is why the IMF has agreed a financial package to bail them out.

"Greece and other countries will struggle to pay off these debts. This has led to a dramatic spike in borrowing costs for these countries, exacerbating the problems further," Mr Howse added. "Investors have begun to question the future of European Economic and Monetary Union and whether the crisis may spread beyond the peripheral European countries."

Q Which countries are affected?
Before last week the main countries that had been affected were Greece, Italy and Portugal. Last week it was the turn of Spain to announce austerity measures, while Ireland has problems too, although it is trying hard to cut its deficit.

Q Will it spread to Britain?
Only Rip van Winkel would be unaware that the UK also has a huge deficit, and so there are concerns that the crisis could spread to these shores. This was why the new coalition moved swiftly by announcing £6bn worth of cuts. This has assured investors, for the time being, that Britain will be able to reduce its deficit and repay gilt investors.

"We have more flexibility and it was very important for George Osborne to reassure global markets that our deficit is being tackled," said Azad Zangana, European economist at Schroders.

Mr Howse agreed: "A weaker pound should boost the economy by making exports more competitive, and interest rates should remain very low for an extended period. But we can't ignore this debt crisis in Europe because of the effect it may have on the level of global economic activity."

Q Should I be worried?
The good news is that Britain has some advantages over the likes of Greece and Spain. The main one is that it does not belong to the euro and so is able to manipulate the pound to try to boost our economy via interest rates. "We can devalue our currency, which makes the borrowing cheaper. Greece can't do that because it belongs to the euro," said Mr Zangana.

But don't get too complacent. Britain's position is still precarious – £6bn worth of spending cuts won't be enough to clear our £156bn deficit, and remember that our economy is reliant on its trade links to Europe. "The UK is in a relatively good position. It can set its own interest rates and has its own floating currency, which are important mechanisms for managing economic growth," said Mr Howse.

"However, the UK is not insulated from debt problems and it is in our interest that the crisis is contained and managed by the EU, IMF and other central banks."

Q How big an impact could the crisis have on the UK?
Half of all of Britain's exports go to the Continent, so if Europe's economy grinds to a halt we will feel the impact. Companies could struggle to increase sales, our economic recovery could hit the buffers and, ultimately, jobs could come under pressure.

Howard Archer, an economist at Investec, said: "There is increased pressure on Britain. The FTSE has been hit already, there are concerns of a double dip, and it's bad news for exporters, which could have a knock-on effect of the wrong kind on our domestic economy.

"The June 22 Budget is key. If the measures don't work there will be a loss of confidence in UK assets and that could store up other problems such as higher interest rates."

Q What about my investments?
You won't need reminding that every time a dark cloud hangs over our economy, or the economies of our trade partners, stock market investors run for the hills, causing share prices to fall. This is what has happened over the past fortnight or so – the FTSE100 has tumbled from 5,700 to under 5,000, although this week share prices recovered despite the eurozone crisis worsening.

But, again, don't be complacent. Most experts agree that markets are likely to be jittery for a while yet.

Q Is there a danger of a second banking crisis?
This is something that the markets have been speculating over during the past few weeks. Greek, Spanish and Italian bonds are widely held by governments, banks and institutions worldwide and this is why bank shares have been particularly hit in the recent turbulence.

Mr Howse said: "Central banks and governments have learned tough lessons from the financial crisis of 2008/09 and are very unlikely to let these problems go so far as to break the global banking system."

Q I bank with Santander. Should I move bank accounts?
Santander recently emphasised that its British operation is self-funding, raising cash from British savers to back loans to British borrowers, and does not require capital from its Spanish parent. Santander's British subsidiaries are regulated by the Financial Services Authority and individual savers are protected by the Financial Services Compensation Scheme.

The FSCS, a statutory safety net, can pay out 100pc of the first £50,000 lost per saver per bank or building society. Up to 90pc of pension and life assurance savings are also protected by the FSCS safety net.

A Santander spokesman said: "Customers need not be worried as both Santander and Santander UK are strong businesses focused on retail banking with no exposure to toxic financial products. Our UK business is strong and has a standalone credit rating of AA."

Q Will the crisis go on for much longer?
Most likely. The Greek bailout is over three years, which suggests there is no quick fix. "I think we will have a bumpy ride for a few years. There is a real sense of uncertainty on how this crisis will pan out," said Mr Zangana.

Mr Archer added: "It is very, very fragile and the eurozone crisis is deep-seated and so will not disappear overnight. We need the bailout package to be implemented as soon as possible and for the affected countries to get their act together."

Q I'm worried about losing money. What should I do?
Fund managers will talk about market blips throwing up buying opportunities while economists will make predictions that are wrong as often as they are right. It comes down to your attitude to risk and your financial goals.

It's your money and if you are of nervous disposition then invest in safe assets. The safest is cash, of course. Interest rates are low but ask yourself whether you would rather make 2pc or risk losing 10pc.

Review any investments and ensure that your portfolio is diversified for damage limitation reasons if markets implode.

http://www.telegraph.co.uk/finance/personalfinance/consumertips/7782558/Euro-crisis-how-will-it-affect-me.html

Hoping for a debt crisis end

Hoping for a debt crisis end
May 29, 2010


After US stocks wrapped up their worst month in more than a year, investors will face next week with caution as things are unlikely to get better until the Europeans force their debt crisis to an end game.

A Fitch Ratings downgrade of Spain on Friday drove the three major US stock indexes down 1 per cent for the day. For some investors, Fitch's decision highlighted the need for the European Central Bank to come up with stronger response to the debt crisis before stocks will be able to rally.

The first wave of May US economic data next week could bring what investors fear most: signs that shock waves from Europe are crossing the Atlantic. That would probably show up first in the two monthly ISM surveys, seen as an early reading of the US economy's pulse.

If those reports - based on statements from purchasing and supply executives in the manufacturing and services sectors - are weak, it will come down to a strong May US nonfarm payrolls number on Friday to help investors keep their faith in the US recovery.

"All of the macro data is going to be seen through the prism of Europe," said John Praveen, chief investment strategist at Prudential International Investments Advisers in Newark, New Jersey. "You've had this huge problem in Europe. Is there any fallout from that on US economic data?"

Investors also need to watch for negative earnings pre-announcements. Shares of a tiny IT company called Blue Coat Systems Inc plummeted on Friday after it cut its outlook, citing Europe's turmoil, while retailer Guess Inc fell after it said the weak euro would hurt profits.

On the bright side, market technicals may favour a relief rally - providing there is no bad news.

Chart-minded investors say stocks are oversold, with the Standard & Poor's 500 Inde down below its 200-day moving average.

Carmine Grigoli, chief US investment strategist at Mizuho Securities in New York, also points to the widening spread between the number of S&P 500 stocks advancing and declining.

"The market (is) deeply oversold, actually almost the most oversold condition we've seen since the height of the (financial) crisis," he said.

In May, the S&P 500 fell 8.2 per cent in its worst monthly slide since February 2009, the month before the broad-based index hit a 12-year closing low. The Dow industrials lost 7.9 per cent in May, while Nasdaq tumbled 8.3 percent.

The sharp drop marked the worst May for the S&P 500 since 1962 - and the worst for the Dow since 1940. It also called to mind the old stock market adage: "Sell in May and go away."


Prudential's Praveen believes that despite slight gains in the last week of May, the US stock market won;t make significant progress until the European Central Bank steps up its purchasing of government debt as the US Federal Reserve did early last year.

"The end game in this European crisis, at least for the near term, is going to be if the ECB comes up with some kind of quantitative easing package," Praveen said.

After an initial bounce, stocks have fallen further in the three weeks since the EU approved a $1 trillion safety net for indebted nations, with financial markets unconvinced that the measures are sufficient to avert the spread of the crisis.

The export and new orders components in the Institute for Supply Management's surveys on the manufacturing and services sector could show early signs that weakness in Europe may be affecting the United States.

"There is a presumption that all the turmoil in Europe and the global financial markets is going to have a negative impact on the US economy," said Stephen Stanley, chief economist at Pierpont Securities in Stamford, Connecticut.

The ISM manufacturing index is due out on Tuesday, the first US trading day in a holiday-shortened week, with Monday a public holiday, while the ISM services index is due on Thursday.

"If the data hold up pretty well, it's going to be a bit of a challenge to the view that the US economy is going to falter, but probably won't convince the most skeptical of people," Stanley said.

The employment index in the ISM surveys can also be an indication of how Friday's payrolls number will shape up.

The headline number in the government's monthly jobs reports will be clouded by temporary Census workers and investors will likely focus on the ADP's private-sector payrolls number for a better indication of how underlying employment trends are shaping up.

"If that is north of 250,000, then the markets will react very positively," Praveen said. "If that number comes out on the weaker side, even though the headline number may be flattered by the Census number, then we will probably have some anxiety in the markets."

The payrolls report is due out. Economists in a Reuters poll expect the headline number to show the economy added 503,000 jobs in May.

Reuters

http://www.businessday.com.au/business/markets/hoping-for-a-debt-crisis-end-20100529-wm4l.html

Is Europe heading for a meltdown?

Is Europe heading for a meltdown?

This financial crisis is worse than the sub-prime crash of 2008 because the sums are so much bigger and it is governments that are in dire straits. Edmund Conway explains the dangers.

By Edmund Conway
Published: 8:21AM BST 27 May 2010
Comments 201 | Comment on this article

Mervyn King, the Bank of England Governor, summed it up best: "Dealing with a banking crisis was difficult enough," he said the other week, "but at least there were public-sector balance sheets on to which the problems could be moved. Once you move into sovereign debt, there is no answer; there's no backstop."
In other words, were this a computer game, the politicians would be down to their last life. Any mistake now and it really is Game Over. Or to pick a slightly more traditional game, it is rather like a session of pass-the-parcel which is fast approaching the end of the line.

The European financial crisis may look and smell rather different to the American banking crisis of a couple of years ago, but strip away the details – the breakdown of the euro, the crumbling of the Spanish banking system to take just two – and what you are left with is the next leg of a global financial crisis. Politicians temporarily "solved" the sub-prime crisis of 2007 and 2008 by nationalising billions of pounds' worth of bank debt. While this helped reinject a little confidence into markets, the real upshot was merely to transfer that debt on to public-sector balance sheets.

This kind of card-shuffle trick has a long-established pedigree: after the dotcom bust, Alan Greenspan slashed US interest rates to (then) unprecedented lows, which helped dull the pain, but only at the cost of generating the housing bubble that fed sub-prime. It is not so different to the Ponzi scheme carried out by Bernard Madoff, except that unlike his hedge fund fraud, this one is being carried out in full public view.

The problem is that this has to stop somewhere, and that gasping noise over the past couple of weeks is the sound of millions of investors realising, all at once, that the music might have stopped. Having leapt back into the market in 2009 and fuelled the biggest stock-market leap since the recovery from the Wall Street Crash in the early 1930s, investors have suddenly deserted. London's FTSE 100 has lost 15 per cent of its value in little more than a month. The mayhem on European bourses is even worse, while on Wall Street the Dow Jones teeters on the brink of the talismanic 10,000 level.

Whatever yardstick you care to choose – share-price moves, the rates at which banks lend to each other, measures of volatility – we are now in a similar position to 2008.

Europe's problem is that the unfortunate game of pass-the-parcel came at just the wrong moment. It resulted in a hefty extra amount of debt being lumped on to its member states' balance sheets when they were least-equipped to deal with it.

Europe was always heading for a crunch. For years, the German and Dutch economies pulled in one direction (high saving, low spending) while the Club Med bloc – Greece, Portugal, Spain, Italy (and their Celtic outpost Ireland) – pulled in the other. At some point, there was always going to be a problem, given that these two economic blocs were yoked together in the same currency, controlled by the same central bank. By triggering the global recession and shovelling an unexpected load of debt on to Greece's balance sheet, the financial crisis has effectively smoked out the European folly.

The Club Med nations – and in many senses Britain – were not so different to sub-prime households: they borrowed cheap in order to raise their standards of living, ignoring the question of whether they could afford to take on so much debt. But, as King points out, sub-prime households – and the banks that lent to them – can usually be bailed out. The International Monetary Fund simply does not have enough cash to bail out a major economy like Spain, Italy or, heaven forfend, Britain. So, again, we find ourselves in unknown territory.

There are plenty of episodes in history when countries have been as indebted as they are now, but they are all associated with periods of war. History shows that when nations reach as high a level of indebtedness as Greece, and have as few prospects of growth, they will almost certainly default. Indeed, the IMF, which has pretty good experience of fiscal crises, privately recommended that Greece restructure its debt (a kind of soft default, renegotiating payment terms). It was refused point-blank by the European authorities.

To understand why, step back for a moment. It is fashionable to compare the current situation to the Lehman Brothers collapse, but that understates its severity. The sub-prime property market in the US, together with its slightly less toxic relatives, represented a $2 trillion mound of debt. The combined public and private debt of the most troubled European countries – Greece, Portugal, Spain and so on – is closer to $9 trillion.


Moreover, whereas the pain from sub-prime was spread out relatively widely, with investors hailing from both sides of the Atlantic, the owners of the suspect European debt tend almost exclusively to be, gulp, Europeans. No one is suggesting all of this debt will go bad, but the European policymakers fear that the merest hint that Greece might default would spark a chain reaction that would cause a more profound crisis than in 2008.

The problem is not merely that holders of Greek government debt would dump their investments, or even that they would ditch their Spanish and Portuguese bonds while they were at it. It is that government debt is the very bedrock of the financial system: should Greek government bonds collapse, the country's banking system would become insolvent overnight. In fact, banks throughout the euro area would be at risk, given that they tend to hold so much of their neighbours' government debt. That, at least, is the theory, but as was the case in the aftermath of Lehman's collapse, no one really knows how great their exposure is.

The other, more cynical, explanation for Brussels' refusal to countenance default is that it fears that this would fatally destabilise the euro project itself – which of course it would. But as the politicians are discovering, organising a European sovereign bail-out is far, far more difficult than rescuing a bank. It took barely more than a few days in September 2008 for the Government to push through the semi-nationalisation of Royal Bank of Scotland and HBOS.

Earlier this month, when the French President Nicolas Sarkozy announced that the continent would be saved by a "shock and awe" $1 trillion bail-out package, markets convinced themselves for a moment that the politicians might be able to manage it. But the challenge of having to co-ordinate an unprecedented rescue across a 16-nation region without a common language or central Treasury is proving too much for Europe's leaders. Add to this the fact that most citizens (particularly in Germany) resent the idea of bailing each other out at all, and are willing to vote out their governments to prove it, and you get the idea of the challenge at hand.

Despite his rather aloof appearance, European president Herman Van Rompuy put it pretty well this week, saying: "Today, people are discovering what a 'common destiny' in monetary matters means. They are discovering that the euro affects their pensions, savings, and jobs, their very daily life. It hurts. In my view, this growing public awareness is a major political development. It forces the governments to act."

That action, so far as Van Rompuy is concerned, means more integration and some eye-watering spending cuts across the continent. Unfortunately, both are being carried out in haphazard fashion. The bail-out package may pave the way for a central EU Treasury, but it is still being muddled through the legislative process, and could well fall foul of voters in France or Germany. Spain and Italy are, rightly, inflicting severe cuts on their budgets, but so is Germany, which ought, according to a host of economists including Mervyn King, to be spending more, not less.

In the meantime, European politicians, torn in one way by their voters, in another by Brussels, emit even more confusing signals which only destabilise markets further. Angela Merkel's ban on investors short-selling German bank shares, and the collapse of a swathe of Spanish savings banks have hardly helped, either. And all the while, the euro continues to fall as investors mull its fate. The single currency can survive – but only if its members agree to more political union, and the prospect of that would be about as palatable to the people of Europe this summer as an ouzo and retsina cocktail.

http://www.telegraph.co.uk/finance/comment/edmundconway/7770265/Is-Europe-heading-for-a-meltdown.html