Tag Archives: Europe

European Elections show less change than feared


Despite the headline concerns about the rise of radical parties like France´s National Front, Syriza, New Dawn and the Danish Popular Party, in the elections 172 million people voted and less than 7.5% are votes for parties who are remotely in favour of breaking-up the Euro. If we take out the UKIP impact in the UK, as the country is not in the Euro, the “anti-single-currency” vote was insignificant, especially when we look at the political manifestos of parties such as France´s National Front, with a loose message of exiting the Euro “gradually”. 

Credit Suisse wrote this morning a nice report called “Europe beats Eurosceptics 6-4”.

As such, the EUR/USD opened this morning slightly up, and equity indices throughout Europe followed in unison, while peripheral Europe bond yields opened flat or marginally higher.  

The bipartisan nature of the European parliament has not been changed dramatically either. Juncker and the European Popular Party won (212 seats) but Schulz and the Socialists (187 seats) can try to set up coalitions. The possibility of a grand coalition is not small at all.

Eurosceptic parties won in three countries: France, Denmark and the UK (as expected, and with no impact on currency or policy), but lost massively in Italy (where Renzi won a landslide 40%), Holland and Germany. In Greece, Syriza won by a narrow margin, not enough to de-stabilize the current coalition.

Only two countries saw the current government win the elections: Germany and Spain, despite major losses in support in the case of Spain (PP lost 8 seats). The debacle of major parties did not change the landscape massively.

UKIP´s extraordinary victory (27.5%) is likely to make Tories take a more aggressive stance towards the EU and move forward with the referendum on the EU.

Bond yields likely to see limited pressure from the process of electing President and the press headlines regarding radical votes.

France seen as the biggest worry followed by Greece. Radical stop of reforms or, even worse, increasing government spending could trigger new concerns about deficits, debt and widening the imbalances of the economies.

The latest batch of rating agency upgrades in Spain and Greece, added to the exit of the bailout programs for Portugal, Ireland and Greece maintain the gradual recovery on track. Meanwhile, current account surplus in the Eurozone remains a key driver of improvement, added to the reduction of deficits and modest growth. All very fragile, but pointing in the right direction.

Once the elections have passed, this clears the path for a possible EU Quantitative Easing programme aimed at SMEs and corporate, even if there are strong challenges as we mentioned in this website (“The Difficulties of Implementing QE in Europe“).


EU parliament


Important Disclaimer: All of Daniel Lacalle’s views expressed in his books and this blog are strictly personal and should not be taken as buy or sell recommendations

The Difficulties of Implementing QE in Europe (CNBC Interview)

Interview at CNBC where I discuss:

The difficulties to implement Quantitative Easing in Europe.

The difficulties to implement Quantitative Easing in Europe come from the increased perception at the ECB and the EBA that a €1 trillion program could distort markets too much as in some cases the ECB would take 100% of supply.

. There is no liquidity issue: To start with, Europe already has more than €180 billion of excess liquidity according to the ECB March report.

. There is no deflation: Inflation at the Eurozone in April was 0.7% while EU was 0.8%. This is within the ECB mandate of “at or below 2% in the medium term”. CPI in April was 0.4% in Spain, and only Greece (-1.6%) and Bulgaria (-1.3%) show worrying signs.

inflacion eurozona abril 2014

. Bond yields are at historical lows. Bond yields in the periphery have fallen to the lowest level since 2005. Portugal and Greece are out of the bailout program and issuing paper.

eu bond yields


. ECB balance sheet is still elevated. At €2.2 trillion (2.5% capitalization) its balance sheet has fallen 20% since the peak but it’s still up 128% since 2005. The Fed balance sheet is $4.1 trillion (ECB 3.1 trillion translated in US$).


. Transmission mechanism to SMEs is improving. Lending to SMEs is up 34% in the periphery since March 2013.

Growth is improving (+1.4% in 2014) and the strong euro has not affected dramatically export growth all over the periphery. Current account deficits have arisen in Spain for example. The biggest issue the ECB faces is that 60% of EU exports are made within Eurozone countries, therefore currency is irrelevant. The second is that with current account deficits widening, imports would suffer a big increase in price, particularly energy components. This worries the ECB more than anything else.

However, all of the ECB is studying options of QE driven mostly to help boost the next leg of growth. “Of course any private or public assets that we might buy would have to meet certain quality standards,” said Jens Weidmann, in an interview with MNI.

. What to spend the QE money on?

The European ABS market is too small (€300bn-450bn) for a €1 trillion QE and the challenges would be high when buying sovereign debt in order to adhere to the mandate.

There are three options for the ECB: yield curves, regional differences and credit spreads, which would be targeted in the ECB’s version of unconventional monetary policies. Some of the measures are more akin to Credit Easing (CE) than Quantitative Easing (QE). It is

also apparent that the approach is more qualitative because if the ECB is to make purchases it will take into account valuations.

The ECB would choose from different options, which reflects the bank-based intermediation that dominates in the Eurozone, unlike in the US where the main focus of QE has been Treasuries and MBS. As a possibility, the ECB could choose a normalisation of haircuts on its collateral.

There is also the issue of the “no deflation yet” debate. The Bundesbank is worried about a CPI that reflects massive disparities and that a QE would bring higher inflation to small consumers and average medium income families. The ECB needs more time to see if there is really a price deflation issue. So far data suggests otherwise. No deflation, just disinflation due to overcapacity and previous bubbles.

Look at March CPI in most countries, but particularly in Spain considered at the highest risk of “deflation” by the IMF. Look at essential goods like fish (+3,2%), milk (+4,4%), fruit (+6,5%), legumbres (+3,2%), cheese (+2,2%), natural gas (+2,3%), electricity (+6%) education (+3,5%), insurance (+4,1%) water (+3,3%), or even tobacco (+3,4%), alcohol (+2,4%) or travel (+4,4%).


When you have invested (spent) hundreds of billions of euros in “industrial plans” and productive capacity, especially in energy, car industry, textile, retail and infrastructure, what we are experiencing is a reduction of prices due to competition between oversized sectors, an overcapacity of up to 40% in some cases. On the other hand, inflation exists in other elements, very relevant to the industry and consumption, such as energy costs.

The “alleged risk of deflation” is the excuse of governments to justify greater financial repression . Trying to create false inflation through rate cuts while citizens have less purchasing power, or through monetary stimulus plans when taxes rise leads nowhere. Look at Japan, 17 consecutive months of real wage reductions.


To reactivate the economy governments should return money to the pockets of citizens who have stoically accepted and paid interventionist policies and supported schemes and incentives that have led the EU to spend up to 3% of GDP to destroy 4.5 million jobs and sink the economy.

 The ECB is getting a lot of pressure to do something from governments and banks, and now even Germany seems to accept the high EUR is a danger… and if something is done it will have to be something big. But these issues above do matter –specially for the Germans advocating for internal devaluation exits to the crisis- and the risks are not small of causing massive distortions in an already booming market for high yield bonds and sovereigns.


 See more at: https://www.dlacalle.com/deflation-no-disinflation-the-consequence-of-interventionism/#sthash.Isz8PWji.dpuf


Important Disclaimer: All of Daniel Lacalle’s views expressed in his books and this blog are strictly personal and should not be taken as buy or sell recommendations

The challenges of Europe

Here is my interview on CNBC discussing the risk of complacency, lack of reform, governments intervention and debt in Europe.

We have started to see signs of optimism in Europe supported by a macroeconomic environment that, far from being attractive, is showing some encouraging data. But the fragility of the recovery is still high.

  • Industrial production indices are approaching expansive levels.
  • Corporate margins are improving, quietly, thanks to exports and cost control.
  • Private debt has been reduced to 2006 levels.
  • Financing costs for small and medium enterprises, including Spain and Italy, have fallen to two-year lows.Gas imports have increased for the first time since 2008, which is very relevant to industrial activity.
European Recovery

European Recovery

(Courtesy Morgan Stanley, SocGen)

All these elements themselves should not lead us to be overly optimistic, but neither should be ignored.

Recovery is extremely weak since, at the same time, countries persist in tax rises and attacks on disposable income that depress consumption. And if we don’t see an improvement of consumption, all other variables are simply smoke.

Unemployment and consumption are the two great scourges of Europe. With all the government support and a highly interventionist state, unemployment in France has reached three million people. In Spain, above 5.8 million, it has  shown a moderate slowdown in job losses. But job creation is only going to happen when consumption recovers, and that will not happen in an environment where disposable income is curtailed and taxes destroy families and SMEs. The fiscal burden in the European Union is already about 40%.

Threatening to raise taxes on big business now is another huge mistake. They’ve been a pillar of internationalization and growth, and thanks to them we now have global multinationals, employing tens of thousands. But these strategic moves cost a great effort in debt and weak balance sheets.The cleaning of such balance sheets has not been completed in full, despite cost savings and divestitures, and to raise taxes is a dangerous move that creates more harm than good. Because these large corporations are also big employers, generate the bulk of private investment in the countries, and their social security contributions are one of the main guarantees of the financial sustainability of the welfare systems. Further tax changes would also delay the entry of foreign capital until conditions are stable and attractive.

The European Union has warned France that it can not go higher in its tax burden. Unfortunately, as always, tax hikes delay the recovery and do not generate the desired revenues.

The tax increases are not helping consumer or employment, but also do not improve the borrowing countries. Keep in mind that at the end of 2013 the debt to GDP in the euro area might exceed the current 90.6% by at least 1%, and that the state deficits continues to rise above 4%. In this environment of low interest rates and moderate risk premiums, there seems to be little problem, but low interest rates and strong bond demand do not last forever.

But the relative calm in Europe can not mask the huge debt problem across the eurozone, and should be used to prepare a challenging winter.

European countries, and peripherals in particular are going to have to face excessive deficit budgets, and three risks :

  • Italian debt ratios that are much higher than expected.The financing needs of the public sector in 2013 already almost double the figure of 2012.
  • A current account deficit in France of nearly 60 billion in 2013, and a debt to GDP that is on its way to 100% in a short period of time (currently 91.7%).
  • A deficit in Spain that, despite the recovery, is exceeding all targets at 6.7%.

So why be optimistic?

Since the problem can be short-term financing and that Germany and the paying countries will continue to press for the much needed structural reforms, it is likely that, as I have commented in CNBC a few times, the European Central Bank might conduct another liquidity injection (LTRO) to help the financial system to face the risk of higher interest rates and possible bumps in the huge portfolio of government debt that banks accumulate. Only in Spain, more than 213.6 billion. European banks accumulate up to 20% of Europe’s sovereign debt and that weight is monitored constantly by the European Central Bank.

But, like other liquidity injections, the problem will be generated if it is used to give another kick to the can and take this slight recovery as an opportunity to increase tax pressure and delay the reform of governments that spend between 10 and 50 billion more than they collect structurally. Because then we will find the same problem as in previous periods of slight improvements: the bureaucratic machine crushes the recovery.

Read further: http://www.cnbc.com/id/101544281