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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IMF warns pound could be at risk from uncertainty

"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

Three possible futures for the economy in this recession and the consequences for investors.

Three futures…
This article sees three possible futures for the economy in this recession, and discusses the consequences for investors….

Three futures

Posted on March 12, 2009 by Richard Beddard
Filed Under Investing, Markets |


Two out of three ‘aint bad

From the desk of James Montier:

In a research note earlier this month, Mr Montier postulates three futures:

1. The optimistic path, in which government stimuli create inflation,
2. A Japanese style protracted work out with low growth and low inflation, and a…
3. Great Depression modelled on the 1930’s.

He concludes:

In the first two outcomes, value should do well. In the third, holding any equity is likely to be a poor decision. Since I don’t know which of these paths is more likely, I continue to believe that a slow steady deployment of capital into deep value opportunities in the face of market weakness is the most sensible option.

How value investing, buying shares in companies on low price to book (net asset value) ratios, would have worked in Japan:

Investors who bought and held would have earned a 3% annual return versus a market return of -4%. Investors who sold the most expensive stocks short, would have earned a return of 12%.

But in the Great Depression, cheap stops and expensive stocks both lost badly and buying shares was, quite simply, a bad idea.

The difference was the severity of the economic crises. In Japan, growth has been flat. In the 1930’s in the US, industrial production declined by 50% peak to trough.

His strategy, to buy value stocks gradually:

…Represents a regret minimisation approach - I end up with some exposure, and I’m dollar cost averaging down if this turns out to be the Great Depression 2. Alternatively, if the stimulus works, or the US follows the Japanese example, then as Jeremy Grantham says, “If stocks look attractive and you don’t buy them and they run away, you don’t just look like an idiot, you are an idiot.”

Category: Investing, Markets

http://blog.iii.co.uk/three-futures/

Double-dip fears as US recovery falters

Double-dip fears as US recovery falters

Fears that the US is about to drag the rest of the world into a double-dip recession gripped investors by the throat this week, plunging markets into a dark frame of mind.

By Angela Monaghan
Published: 6:39PM BST 02 Jul 2010

6 Comments

Markets have had a rollercoaster week as optimism about the strength of the US recovery ebbs.

It was a shocking week for equities, which plummeted on a slew of bad news. The FTSE 100 closed at 4838.09 on Friday, up 0.7pc on the day but down 4.1pc on the week. The German DAX was 4pc lower on the week, while France's CAC 40 and the US Dow Jones were both down 4.9pc after a week to forget.

"Markets seem to be in the mood to worry, as they contemplate what the second half of 2010 will bring," said Ian Harwood of Evolution Securities.

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  RBS tells clients to prepare for 'monster' money-printing by the Federal Reserve

The focus this week switched to the US, and a string of terrible data which prompted fears that recovery in the world's largest economy is losing steam, and is about to lead the rest of the world into a double dip.

There are concerns too that growth in China is slowing and may not be able to provide sufficient support to the rest of the world. And lastly, while the fevered panic over the eurozone debt crisis, impending austerity, and social unrest has abated, anxiety has not been erased.

The bad news from the US this week included a nasty drop in consumer confidence; a fall in US non-farm payrolls; and plunging home sales. The UK, reliant on world trade to give its fragile recovery wings as it embarks on an eye-watering fiscal squeeze, would inevitably be pulled down with the US if a renewed slump took hold.

And there were signs this week that some areas of the UK economy are already becoming vulnerable to a second shock. A Bank of England report suggested British households are in store for a second credit crisis, with banks and building societies expecting to rein in lending yet again; the recovery in house prices all but stalled in June, with prices rising just 0.1pc according to Nationwide; and the manufacturing PMI indicated a sharp slowdown in exports growth in June.

It is not just the FTSE 100 which is reflecting fears of a double dip in the UK, Bank of England policymakers have given explicit warnings too.

Adam Posen, a member of the Bank's Monetary Policy Committee, said "the renewal of a severe recession" was a very real possibility. "Much of what determines our outlook will take place beyond our borders and certainly beyond the MPC's remit," he added. Not terribly heartening.

Nor was a warning from Pimco - the world's largest bond house - that the early fiscal tightening in countries including the UK and Germany is not necessary. According to Scott Mather, Pimco's head of global portfolio management, not only is it unnecessary, but it has created a "growing risk" of sinking those economies back into the recession they are still in the process of clawing their way out of.

"There are parts of Europe where austerity wasn't called for immediately," he said, citing the two European heavyweights as examples. "It's made us bring forward our expectations for a drop in growth and a drop in inflation within the eurozone." Pimco is maintaining its underweight stance on the pound and the euro.

Whether immediate or delayed fiscal tightening is the best medicine for the UK economy is a debate which will run on in the domestic arena.

The hope, outlined in the Office for Budget Responsibility's Budget forecasts, is that as the public sector and households tighten their belts, private sector strength and demand for our goods abroad will be enough to drive recovery of around 2.5pc from 2011. Those forecasts look increasingly at risk.

"The prospects for world trade are darkening," said Stephen Lewis of Monument Securities. "In the USA, a wide range of employment and housing market statistics have pointed to weaker activity, while manufacturing, which had been relatively resilient, appeared to lose momentum last month.

"Doubtless, the other growth hub, China, is still expanding strongly, but perhaps not at quite as rapid a rate as at the start of this year. China's output does not have to contract for the rest of the world to feel the draught from its cooling economy.

Not all are convinced that a morbid fascination with a double-dip is justified, and Mr Harwood is among the optimists.

"During recent months we've become increasingly concerned that the markets are focusing less and less upon what is going right – and, crucially, what's likely to continue to go right – and, conversely, more and more upon what might go wrong," he said.

"Our own view is that such a "hard landing" outcome is unlikely and that the global economy will instead experience a continuing economic recovery, with inflation remaining low and well-behaved."

With the fate of the world economy such a huge unknown, the markets have taken fright, for there is nothing they like less than uncertainty. That point home has been hammered home to great effect this week.

RBS tells clients to prepare for 'monster' money-printing by the Federal Reserve

As recovery starts to stall in the US and Europe with echoes of mid-1931, bond experts are once again dusting off a speech by Ben Bernanke given eight years ago as a freshman governor at the Federal Reserve.

 

By Ambrose Evans-Pritchard, International Business Editor
Published: 5:11PM BST 27 Jun 2010

115 Comments

Entitled "Deflation: Making Sure It Doesn’t Happen Here", it is a warfare manual for defeating economic slumps by use of extreme monetary stimulus once interest rates have dropped to zero, and implicitly once governments have spent themselves to near bankruptcy.

The speech is best known for its irreverent one-liner: "The US government has a technology, called a printing press, that allows it to produce as many US dollars as it wishes at essentially no cost."

 

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Bernanke began putting the script into action after the credit system seized up in 2008, purchasing $1.75 trillion of Treasuries, mortgage securities, and agency bonds to shore up the US credit system. He stopped far short of the $5 trillion balance sheet quietly pencilled in by the Fed Board as the upper limit for quantitative easing (QE).

Investors basking in Wall Street's V-shaped rally had assumed that this bizarre episode was over. So did the Fed, which has been shutting liquidity spigots one by one. But the latest batch of data is disturbing.

The ECRI leading indicator produced by the Economic Cycle Research Institute plummeted yet again last week to -6.9, pointing to contraction in the US by the end of the year. It is dropping faster that at any time in the post-War era.

The latest data from the CPB Netherlands Bureau shows that world trade slid 1.7pc in May, with the biggest fall in Asia. The Baltic Dry Index measuring freight rates on bulk goods has dropped 40pc in a month. This is a volatile index that can be distorted by the supply of new ships, but those who watch it as an early warning signal for China and commodities are nervous.

Andrew Roberts, credit chief at RBS, is advising clients to read the Bernanke text very closely because the Fed is soon going to have to the pull the lever on "monster" quantitative easing (QE)".

"We cannot stress enough how strongly we believe that a cliff-edge may be around the corner, for the global banking system (particularly in Europe) and for the global economy. Think the unthinkable," he said in a note to investors.

Roberts said the Fed will shift tack, resorting to the 1940s strategy of capping bond yields around 2pc by force majeure said this is the option "which I personally prefer".

A recent paper by the San Francisco Fed argues that interest rates should now be minus 5pc under the bank's "rule of thumb" measure of capacity use and unemployment. The rate is currently minus 2pc when QE is factored in. You could conclude, very crudely, that the Fed must therefore buy another $2 trillion of bonds, and even more if Europe's EMU debacle goes from bad to worse. I suspect that this hints at the Bernanke view, but it is anathema to hardliners at the Kansas, Richmond, Philadephia, and Dallas Feds.

Societe Generale's uber-bear Albert Edwards said the Fed and other central banks will be forced to print more money whatever they now say, given the "stinking fiscal mess" across the developed world. "The response to the coming deflationary maelstrom will be additional money printing that will make the recent QE seem insignificant," he said.

Despite the apparent rift with Europe, the US is arguably tightening fiscal policy just as hard. Congress has cut off benefits for those unemployed beyond six months, leaving 1.3m without support. California has to slash $19bn in spending this year, as much as Greece, Portugal, Ireland, Hungary, and Romania combined. The states together must cut $112bn to comply with state laws.

The Congressional Budget Office said federal stimulus from the Obama package peaked in the first quarter. The effect will turn sharply negative by next year as tax rises automatically kick in, a net swing of 4pc of GDP. This is happening as the US housing market tips into a double-dip. New homes sales crashed 33pc to a record low of 300,000 in May after subsidies expired.

It is sobering that zero rates, QE a l'outrance, and an $800bn fiscal blitz should should have delivered so little. Just as it is sobering that Club Med bond purchases by the European Central Bank and the creation of the EU's €750bn rescue "shield" have failed to stabilize Europe's debt markets. Greek default contracts reached an all-time high of 1,125 on Friday even though the €110bn EU-IMF rescue is up and running. Are investors questioning EU solvency itself, or making a judgment on German willingness to back pledges with real money?

Clearly we are nearing the end of the "Phoney War", that phase of the global crisis when it seemed as if governments could conjure away the Great Debt. The trauma has merely been displaced from banks, auto makers, and homeowners onto the taxpayer, lifting public debt in the OECD bloc from 70pc of GDP to 100pc by next year. As the Bank for International Settlements warns, sovereign debt crises are nearing "boiling point" in half the world economy.

Fiscal largesse had its place last year. It arrested the downward spiral at a crucial moment, but that moment has passed. There is a time to love and a time to hate, a time for war and a time for peace. The Krugman doctrine of perma-deficits is ruinous - and has in fact ruined Japan. The only plausible escape route for the West is a decade of fiscal austerity offset by helicopter drops of printed money, for as long as it takes.

Some say that the Fed's QE policies have failed. I profoundly disagree. The US property market - and therefore the banks - would have imploded if the Fed had not pulled down mortgage rates so aggressively, but you can never prove a counter-factual.

The case for fresh QE is not to inflate away the debt or default on Chinese creditors by stealth devaluation. It is to prevent deflation.

Bernanke warned in that speech eight years ago that "sustained deflation can be highly destructive to a modern economy" because it leads to slow death from a rising real burden of debt.

At the time, the broad money supply war growing at 6pc and the Dallas Fed's `trimmed mean' index of core inflation was 2.2pc.

We are much nearer the tipping today. The M3 money supply has contracted by 5.5pc over the last year, and the pace is accelerating: the 'trimmed mean' index is now 0.6pc on a six-month basis, the lowest ever. America is one twist shy of a debt-deflation trap.

There is no doubt that the Fed has the tools to stop this. "Sufficient injections of money will ultimately always reverse a deflation," said Bernanke. The question is whether he can muster support for such action in the face of massive popular disgust, a Republican Fronde in Congress, and resistance from the liquidationsists at the Kansas, Philadelphia, and Richmond Feds. If he cannot, we are in grave trouble.

http://www.telegraph.co.uk/finance/comment/ambroseevans_pritchard/7857595/RBS-tells-clients-to-prepare-for-monster-money-printing-by-the-Federal-Reserve.html

Ben Bernanke needs fresh monetary blitz as US recovery falters

Federal Reserve chairman Ben Bernanke is waging an epochal battle behind the scenes for control of US monetary policy, struggling to overcome resistance from regional Fed hawks for further possible stimulus to prevent a deflationary spiral.

 

By Ambrose Evans-Pritchard, International Business Editor
Published: 9:44PM BST 24 Jun 2010

Comment on this

Ben Bernanke needs fresh monetary blitz as US recovery falters Photo: GETTY IMAGES

Fed watchers say Mr Bernanke and his close allies at the Board in Washington are worried by signs that the US recovery is running out of steam. The ECRI leading indicator published by the Economic Cycle Research Institute has collapsed to a 45-week low of -5.7 in the most precipitous slide for half a century. Such a reading typically portends contraction within three months or so.

Key members of the five-man Board are quietly mulling a fresh burst of asset purchases, if necessary by pushing the Fed's balance sheet from $2.4 trillion (£1.6 trillion) to uncharted levels of $5 trillion. But they are certain to face intense scepticism from regional hardliners. The dispute has echoes of the early 1930s when the Chicago Fed stymied rescue efforts.

 

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"We're heading towards a double-dip recession," said Chris Whalen, a former Fed official and now head of Institutional Risk Analystics. "The party is over from fiscal support. These hard-money men are fighting the last war: they don't recognise that money velocity has slowed and we are going into deflation. The only default option left is to crank up the printing presses again."

Mr Bernanke is so worried about the chemistry of the Fed's voting body – the Federal Open Market Committee (FOMC) – that he has persuaded vice-chairman Don Kohn to delay retirement until Janet Yellen has been confirmed by the Senate to take over his post. Mr Kohn has been a key architect of the Fed's emergency policies. He was due to step down this week after 40 years at the institution, depriving Mr Bernanke of a formidable ally in policy circles.

The Fed's statement this week shows growing doubts about the health of the recovery. Growth is no longer "strengthening": it is "proceeding". Financial conditions are now "less supportive" due to Europe's debt crisis.

The subtle tweaks in language have been enough to set bond markets alight. The yield on 10-year Treasuries has fallen to 3.08pc, the lowest since the gloom of April 2009. Futures contracts have ruled out tightening until well into next year.

Yet the statement may understate the level of angst at the Board. New home sales crashed 33pc in May to an all-time low of 300,000 after the homebuyer tax-credit expired, confirming fears that the housing market has been propped up by subsidies. Unemployment is stuck at 9.7pc. Manufacturing capacity use is at 71.9pc. The Fed's "trimmed mean" index of core inflation is 0.6pc on a six-month basis, a record low.

"The US recovery is in imminent danger of stalling," said Stephen Lewis, from Monument Securities. "Growth could be negative again as soon as the fourth quarter. There is no easy way out since fiscal stimulus has already been pushed as far as it can credibly go without endangering US credit-worthiness."

Rob Carnell, global strategist at ING, said the Obama fiscal boost peaked in the first few months of this year. It will swing from a net stimulus of 2pc of GDP in 2010 to a net withdrawal of 2pc in 2011. "This is very substantial fiscal drag. On top of this the US Treasury is talking of a 'Just War' against the banks, which will further crimp lending. It is absolutely the wrong moment to do this."

Kansas Fed chief Thomas Hoenig dissented from Fed calls for ultra-low rates to stay for an "extended period", arguing that loose money risks asset bubbles and fresh imbalances. He recently called for interest rates to be raised to 1pc by the autumn.

While he has been the loudest critic, he is not alone. Philadelphia chief Charles Plosser says the Fed has blurred the lines of monetary and fiscal policy by purchasing bonds, acting as a Treasury without a legal mandate. Together with Richmond chief Jeffrey Lacker they represent a powerful block of opinion in the media and Congress.

Mr Bernanke has fought off calls from FOMC hawks for moves to drain stimulus by selling some of the Fed's $1.75 trillion of Treasuries, mortgage securities and agency bonds bought during the crisis. But there is little chance that he can secure their backing for further purchases at this point. "He just has to wait until everybody can see the economy is nearing the abyss," said one Fed watcher.

Gabriel Stein, from Lombard Street Research, said the US is still stuck in a quagmire because Mr Bernanke has mismanaged the quantitative easing policy, purchasing the bonds from banks rather than from the non-bank private sector.

"This does nothing to expand the broad money supply. The trouble is that the Fed does not understand broad money and ascribes no importance to it," he said. The result is a collapse of M3, which has contracted at an annual rate of 7.6pc over the last three months.

Mr Bernanke focuses instead on loan growth but this has failed to gain full traction in a cultural climate of debt repayment. The Fed is pushing on the proverbial string. The jury is out on whether or not his untested doctrine of "creditism" will work.

"We are now walking on deflationary quicksand," said Albert Edwards from Societe Generale.

http://www.telegraph.co.uk/finance/economics/7852945/Ben-Bernanke-needs-fresh-monetary-blitz-as-US-recovery-falters.html

Double-dip fears over worldwide credit stress

Double-dip fears over worldwide credit stress

The global credit system is flashing the most serious warning signals in almost a year on triple fears of a Spanish banking crisis, escalating political risk in Asia, and a second leg to the US housing slump.

By Ambrose Evans-Pritchard
Published: 9:20PM BST 25 May 2010

Flight to safety drove yields on 10-year German Bunds to 2.56pc, below the levels touched in the depths of the Great Depression. The spreads over peripheral European debt rose sharply again, jumping to 137 basis points for Italy, 157 for Spain and 220 for Ireland.

The strains in Europe's sovereign debt markets are nearing levels that forced EU leaders to launch their "shock and awe" rescue package. "If a $1 trillion (£700bn) bail-out did not finally turn sentiment, I struggle to see what can," said Tim Ash, an economist at RBS.

Dollar Libor rates gauging stress within the interbank lending market have jumped to a 10-month high of 0.5363pc, with credit contagion spreading to every area. The iTraxx Senior financials index – banks' "fear gauge" – rose 20 basis points on Tuesday to 184. "It turns out we weren't seeing the light at the end of the tunnel after all, but a train with a big light on it coming towards us of double-dip," said Dr Suki Mann, at Societe Generale.

While the Libor rate is still far below peaks reached during the Lehman crisis, the pattern has ominous echoes of credit market strains before the two big "pulses" of the credit crisis in August 2007 and September 2008. In each case a breakdown of trust in the interbank market was a harbinger of violent moves in equities and the real economy weeks later.

RBS's credit team said Libor strains were worse than they looked since most banks in Europe were paying much higher spreads, especially in Spain. The "implied" forward spreads were nearer 1.1pc.

The damage has spilt over to corporate bonds, effectively shutting the market for new issues. May will be the worst single month for debt issues since December 1999, with seven deals being cancelled in recent days. Volume has collapsed to $47bn from $183bn in April, according to Bloomberg.

Mr Ash said North Korea's decision to cut all ties with the South and abrogate its non-aggression pact – coming days after Thailand sent tanks into Bangkok to crush the Red Shirts – has played into the chemistry of angst gripping markets, adding it was a reminder that Asia has "political/social stress points". This risk was overlooked during the honeymoon phase of emerging markets when investors were intoxicated by the China story.

Fears that America may slip back into a double-dip recession are returning. Larry Summers, the White House economic tsar, has called for a second stimulus package to keep the recovery on track, warning that the US economy is still in a "very deep valley".

The S&P Case-Shiller index of home prices is declining again as incentives for homebuyers expire and the slow-burn effect of rising delinquencies exacts its toll. Prices fell 3.2pc in the first quarter of this year. "There are signs of some renewed weakening in home prices", said David Blitzer from S&P.

The epicentre of the credit crisis is moving to Spain where the seizure by the central bank of CajaSur over the weekend has torn away the veil on credit damage from Spain's property crash.

Bank stocks fell 6pc in Madrid in early trading on Tuesday on fears that funding will dry up for the cajas – or the savings banks – setting off a broader credit crunch. The cajas hold the lion's share of loans to property companies and developers, estimated at €445bn (£380bn) or 45pc of GDP by Goldman Sachs.

Spanish construction reached 17pc of GDP at the height of the bubble as real interest rates of minus 2pc set by the European Central Bank for German needs played havoc with the Spanish economy. This was almost double the level in the US during the sub-prime booms. The result is an overhang of unsold Spanish properties equal to four years' demand.

Markets have been rattled by reports in the German media that the Greek rescue deal contains two secret clauses. The package will be "immediately and irrevocably cancelled" if it is found to breach the EU Treaty's "no bail-out" clause, either in a ruling by the European court or the constitutional courts of any eurozone state. While such an event is unlikely, it is not impossible. There are two cases already pending at Germany's top court in Karlsruhe, perhaps Europe's most "eurosceptic" tribunal.

The second clause said that if any country finds it cannot raise funding for the rescue at interest rates below the 5pc charge agreed for Greece, it may opt out of the bail-out. BNP Paribas said this would escalate quickly into a systemic crisis if Spain were in such a position, because the other countries cannot carry an ever-rising burden. The bank warned the euro project itself may start to disintegrate rapidly if these rescue provisions are ever seriously put to the test.

http://www.telegraph.co.uk/finance/comment/ambroseevans_pritchard/7765383/Double-dip-fears-over-worldwide-credit-stress.html

Nouriel Roubini said the bubble would burst and it did. So what next?

Nouriel Roubini said the bubble would burst and it did. So what next?
The dismal science? Don't believe a word of it. If Nouriel Roubini's New Year's Eve invitations were anything to go by, economics is far from the dour affair it once was.


By Jonathan Sibun
Published: 5:51PM BST 23 May 2010

Holed up in the Caribbean island of St Bart's, Roubini was forced to choose between two parties. The first hosted by Chelsea owner Roman Abramovich, the second by Colonel Gaddafi's son Hannibal.

While dancing the night away with a Russian oligarch or the son of a Libyan dictator might not be everyone's glass of Cristal, the invitations show just how far the New York university professor has come in the celebrity stakes.

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Just three years earlier, Roubini had been the object of derision in the economics community as he prophesied a US housing market crash, financial crisis and partial collapse of the banking sector. Today, as an adviser to governments and central bankers and much feted in the media, he's well aware of the power of being right.

"In my line of business your reputation is based on being right," he says. "The publicity is just noise. Certainly with a global crisis, the dismal scientists are having some prominence, even if most of the economics profession actually failed to predict it."

The 51-year-old, widely known as Dr Doom, is in town to publicise his new book Crisis Economics, a crash course in the financial crisis and what can be done to avoid another.

The book does little to suggest he is uncomfortable with his nickname. Where Roubini is concerned, the great recession has some way to run.

"The crisis is not over; we are just at the next stage. This is where we move from a private to a public debt problem," he says, his speech the mongrel drawl of a man who was born in Turkey to Iranian parents, raised in Israel and Italy and lives in New York. "We socialised part of the private losses by bailing out financial institutions and providing fiscal stimulus to avoid the great recession from turning into a depression. But rising public debt is never a free lunch, eventually you have to pay for it."

As eurozone leaders panic and markets continue to dive, Roubini believes Greece will prove to be just the first of a series of countries standing on the brink.

"We have to start to worry about the solvency of governments. What is happening today in Greece is the tip of the iceberg of rising sovereign debt problems in the eurozone, in the UK, in Japan and in the US. This... is going to be the next issue in the global financial crisis."

It already is. And Roubini claims to have foreseen it as far back as 2006.

"I was writing about the PIGS [Portugal, Italy, Greece and Spain] six to nine months before everyone else, I was worried about the future of the monetary union back in 2006," he says. "At the World Economic Forum I outraged a policy official by suggesting the monetary union might break up."

Roubini has sandwiched a visit to the The Daily Telegraph's offices between a private meeting with Bank of England Governor Mervyn King – "I regularly meet with policy makers. I don't know if it's even worth mentioning" – and a talk at the London School of Economics. I ask him if I can see his LSE speech.

"I haven't written one. I never prepare a speech, I don't even have notes. I usually just speak out of my own thoughts; stream of consciousness."

It's a manner he adopts when we meet. Looking over my shoulder, declining eye contact, he moves seamlessly between what he describes as the economist's usual suspects – "the US, eurozone, Japan, China, emerging markets, inflation, deflation, markets" – as he must when teaching his 400 students in New York.

The prognosis for all the suspects save China and the emerging markets is grim, little wonder given the backdrop of a 3.8pc drop in the FTSE last week and panic among investors spooked by German chancellor Angela Merkel's short-selling ban. The ban has been dismissed as fiddling while Rome, or rather the eurozone, burns.

Roubini believes Greece's problems will see the country forced to restructure its debt and raises the longer term prospect of a breakdown of the union with the potential exits of Greece, Spain and Portugal.

Could it survive such a blow? "Well you could think of a world where there is a eurozone with only a core of really strong economies around Germany," he says. "But the process that would lead to one or more countries leaving the union would be so disruptive that the euro as a major reserve currency would be severely damaged."

Like many economists, Roubini does not talk in absolute predictions. It is all about what could happen in worse case scenarios.

But he argues they are only becoming more likely under current political leadership, the UK's new Conservative-Liberal coalition included. "I am worried about the hung parliament. Whenever you have divided, weak or multi-party governments, budget deficits tend to be higher. It is harder to make the necessary sacrifices."

He dismisses the £6bn of cuts announced by the coalition as "small compared to what is needed", but rejects the idea that the UK is worse off than many of its peers.

"In the US there is a lack of bipartisanship between Democrats and Republicans, in Germany Merkel has just lost the majority in her legislature, in Japan you have a weak and ineffective government, in Greece you have riots and strikes," he says. "The point is that a lot of sacrifices will have to be made in these countries but many of the governments are weak or divided. It is that political strain that markets are worried about. The view is: you can announce anything, we'll see whether you're going to implement it."

This, he explains, is the ultimate challenge facing governments.

"If you're pushing through austerity while there is growth that's one thing, but if you're pushing it through while the recession is deepening, politically that is harder to sell. And the eurozone doesn't just need fiscal consolidation but also structural reform to increase productivity and restore competitiveness," he says.

Germany is the blueprint, Roubini points out, but "it took a decade for them to see the benefits of structural reform and corporate restructuring".

"If Spain and Portugal start today, you'll see the short-term cost without the long-term benefit and they might run out of political time," he says. "That's why I worry about several eurozone members having to restructure their debt, or deciding that the benefits of staying in the monetary union are less than the cost of it."

The prognosis for the UK is, at least, a little less alarming. An independent currency gives it a few more levers to pull – quantitative easing means default is unlikely to be an issue. But that comes with its own challenges.

"Eventually inflation will go up and that erodes the real value of public debt," Roubini says. "In that scenario the value of the pound will fall sharply. It could even become disorderly and that could damage the economy, the financial markets and also the role of the pound as a reserve currency."

Yet another challenge for Government then. Whether the coalition can live up to it remains to be seen. And whether it thinks it has to.

Roubini is adamant that the great recession is not over. But a temporary economic pick-up, which would convince governments that reform is unnecessary, could bring its own problems.

"People asked me why I saw there was a bubble and my question was why others didn't. During the bubble everybody was benefiting and losing a sense of reality," he says. "And now, since there is the beginning of economic recovery – however bumpy that might be – in some sense people are already starting to forget what happened two years ago. Banks are going back to business as usual and bonuses are back to levels that are outrageous by any standards. There is actually a backlash against even moderate reforms that governments are trying to pass."

Reform, Roubini insists, is necessary, recovery or not. "We are still in the middle of this crisis and there is more trouble ahead of us, even if there is a recovery. During the great depression the economy contracted between 1929 and 1933, there was the beginning of a recovery, but then a second recession from 1937 to 1939. If you don't address the issues, you risk having a double-dip recession and one which is at least as severe as the first one."

Roubini has built his reputation on such forecasts. So, given the real reputation builder was forecasting the crisis, has he been one of the few to enjoy the troubled times of the past few years?

"We are witnessing the worst global economic crisis in the last 60 to 70 years and for an economist that offers an opportunity," he says. "So it has been interesting, but the damage financially and economically has been so severe and so many people have suffered. Anybody involved has to bear that in mind."

Perhaps the dismal science was a fair moniker after all.

http://www.telegraph.co.uk/finance/economics/7756684/Nouriel-Roubini-said-said-the-bubble-would-burst-and-it-did.-So-what-next.html