Transcript Eurozone: Greece

Global Economics & Markets
Rob Carnell
Chief International Economist
June 2012
May 2012
0
Eurozone - what else could go wrong?
LTRO impact fades
Portugal debt restructuring
AAAs downgraded
Eurozone
depression
Popular backlash against
fiscal austerity
Greece leaves euro
IMF resources not expanded
EU17 bailout fund not expanded
Fiscal compact fails
May 2012
Run on banks
1
Eurozone: Greece - the “mad guy” in the lift?
May 2012

“Give me the money”…

…“Or I shoot the
puppy”

Greece realises finally
that it has bargaining
power

But the rest of
Eurozone is playing
“tough guy”

Who is going to blink
first?

Don’t let “logic” blinker
your analysis
2
Presidential and parliamentary elections
Greek re-run
parliamentary
election
17 June 2012
2012
10-17 June
Italian general
election
Portuguese parliamentary
election
Apr 2013
2015
12 Sep 2013
2013
French
Parliamentary
elections
May 2012
Netherlands
snap
parliamentary
election
2014
German federal election
US presidential
and senate
election
27 Aug – 27 Oct 2013
2015
Greek
presidential
election
2015
2016
Portuguese presidential
election
2016
6 Nov 2012
3
Greece…the troika plans – doomed
May 2012

To succeed, everything
needs to go 100% right

Privatisation receipts

Tax implementation, and
co-operation

Public sector spending
cuts

GDP growth returns…

…and central banks
make up some shortfall
with profit donation

And then it still falls short
of the target

No plan B
4
The logistics of a new currency

Assuming Greek notes were all
burned then what can be done?

Each euro note has a serial number
with a letter code so it could work off
this:
 X (pictured) = Germany
 P = Netherlands
 U = France
 Y = Greece

De La Rue – 4 months to print enough
Euro for Greece

Bank runs?

Czechoslovakia style stamping?
May 2012

But notes have moved across
borders – check your wallets &
purses
5
FX performance after failed FX regimes
120
Mexico 1994
Thailand 1997
Indonesia 1997
Korea 1997
Russia 1998
Brazil 1998
Turkey 2000
100
Jan 1st of crisis year = 100

A new Greek drachma: Hello and good-bye
80
A Greek exit and a return of the
Drachma is now on the table

The implementation challenge is
huge

On arrival we would expect it to fall
up to 80% against the EUR….

….generally at the lower end of
performances of failed FX regimes
May 2012
60
40
120
100
80
60
40
20
20
0
0
1
51
101
151
201
251
301
351
401
451
501
Days after January 1st of crisis year
6
The result of failure: catastrophe…

If only Greece were to leave, it would
suffer the most, but others would not
be immune

Under a total break up, output could
fall by 10%+ in the first two years…
Output effects of Eurozone break up
Real GDP projections in breakup scenario
105
105
Real GDP (2011= 100)
100
100
95
95
90
90
Cumulative o utput lo ss 2012-2014 (% relative to base)
Greece
Ireland
Spain
Italy
P o rtugal
.
B elgium
Netherlands
France
Germany
-14
May 2012
-12
-10
-8
-6
-4
Greek exit
To tal break-up
-2
0
85
85
05
06
07
08
Germany
09
10
11
NL, AUT, FIN, LUX

12
13
14
15
16
Southern -Europe (GIPS)
…the losses to
even Germany
would dwarf the
effects of the
Lehman brothers
bankruptcy
7
Slow motion Euro deposit flight
Bank deposits* in selected Eurozone countries
120
115
France
110
Germany
105
NL
100
Italy
95
Spain
90
Ireland
85
80
Jun-2010 = 100
75
Jun-10 Sep-10 Dec-10 Mar-11 Jun-11
Source: ECB
May 2012
Greece
Sep-11 Dec-11 Mar-12
* Excluding deposits held by MFIs and central government
8
European bailout fund not big enough…
Peripheral Eurozone debt maturities Euro bn
600
500
Portugal
Ireland
Greece
400
Spain
Italy
300
Source: Reuters
200
100
May 2012
30Yr+
25-30Yr
20-25Yr
15-20Yr
10-15Yr
9-10Yr
8-9Yr
7-8Yr
6-7Yr
5-6yr
4-5Yr
3-4Yr
2-3Yr
1-2Yr
<1Yr
0
9
Spanish & Italian banks - LTRO carry trade
Commercial bank net purchases of gov’t securities
60
Cumulative in Dec-11 & Jan-12 (EUR bn)
50
40
30
20
10
0
-10

-20
SP IT IR LU GR AS PT BE FR DE NL
May 2012
Far from solving the Eurozone’s
problems, LTRO may have made
them worse
10
…ECB reluctant lender of last resort…
Securities Markets Program
ECB bond buying (€bn)
25
Weekly bond purchases (lhs)
20
Cumulative total (rhs)
15
240
220
200
180
160
140
120
100
80
60
40
20
0
10
5
0
Apr- Jun- Aug- Oct- Jan- Mar- May- Aug- Oct- Dec- Mar10 10 10 10 11 11 11 11 11 11 12

Italian Draghi - SMP is “temporary and limited”

In reality it will probably become permanent and
unlimited
May 2012
11
…but still trails behind the Fed & BOE

ECB started off with the sovereign
market program, which was fully
sterilised - NOT QE

ECB reluctant to do QE so lent
€1trn to the banks to do it - >90%
of which has ended up back on
deposit with the ECB

The BoE has done £325bn of QE
and the Fed has done over $2trn

Scaling up ECB bond buying to
Fed & BoE levels would amount
to around €1.8trn- €2trn – more
than the entire Italian bond
market!
Central Bank asset purchases (% of GDP)
24
22
20
18
16
QE still to come
14
12
10
LTRO
8
6
4
2
0
Bank of England
May 2012
Federal
Reserve
Bank of Japan
ECB
12
Fiscal austerity… FOREVER!!
14
Cyclically adjusted primary balance required for
sustainable debt
(% of GDP)
12
10
8
6
4
2
0
-2
-4

If fiscal policy is going to be so tight
then monetary policy will have to be
ultra loose to compensate

Low rates and bond yields forever =
currency to depreciate versus emerging
market growth engines…
-6
2020-2030
Greece
US
UK
Italy
Netherlands
2010
France
Germany
Spain
-8
2020-2030 including age related spending
May 2012
13
Population demographics – bad for Europe
Growth rates of populations of working age
160
(% change)
140

Europe will soon see its
population shrink making
a drive for exports all the
more important

Europe’s working age
population will fall even
more quickly…

… meaning the fiscal pain
will be even greater
120
2010-2030
100
2010-2050
80
60
40
20
0
-20
May 2012
Africa
Latin America
World
Oceana
Asia
North America
Europe
-40
14
How can we get out of this mess?
May 2012
1.
Relax austerity – countries
meant to have deficits less than
3% by 2013, so delay this until
2016
2.
Talk down the euro to boost
competitiveness – shouldn’t be
hard
3.
ECB rate cuts, LTRO3,
possible QE – will also feed
through into weaker euro – but
ECB must be prepared to take
losses
4.
Lower oil prices – Saudi oil
minister says oil should be
$100/bbl
5.
Common Euro-bond?
15
Competitiveness still to be addressed
Jan 2001= 100
Relative unit labour costs
200
180
160
GER
FRA
ITA
SPA
NLD
BEL
IRE
GRE
POR

The likes of
Portugal, Spain,
Italy, and Greece
still have a
mountain to climb
in terms of
competitiveness
…

…but it can be
done…

Ireland did it, and
now runs a
current account
surplus
140
120
100
80
OECD: Manufacturing Unit labour costs - sa
60
00
May 2012
01
02
03
04
05
06
07
08
09
10
11
16


Shale Gas – Race to the bottom
index $ per unit
 Recoverable shale gas deposits are
widely distributed
Natural Gas - relative price
200
180
Europe
US Henry Hub
160
140
120
100
80
60
40
20
0
08
09
10
11
12
Technically
Recoverable
Resources
Tcf
US Natural Gas prices are their lowest in
years……thanks to the growth of shale gas
production…
…this has only just taken off in other
regions…though we can expect a similar price
reduction in time elsewhere
May 2012
Shale Gas Reserves
Australasia, 396
Asia, 1404
Africa, 1042
Europe, 624
US, 862
Other North
America, 1069
South America,
1225
17
Oil shock: Israel vs Iran

Prospects for a Middle East clash uncertain

Iranian or Hezbollah retaliation?

Oil at $200/bbl? Mining the Straits of
Hormuz?
$/bbl
Crude oil prices
160
140
120
100
80
60
Brent crude
WTI
40
20
0
Jan 07
May 2012
Jan 08
Jan 09
Jan 10
Jan 11
Jan 12
18
Impact of fuel shock
Potential cost of US Fuel
oil price in
US$
pump price
average cost 1 car
($c/gall)
((13 gallons per week ($))
avg annual
cost 1 car
% median after
tax income
2 cars
% median after
tax income
100
297
38.94
4050
4.1
8100
8.1
110
322
42.22
4390.91
4.4
8781.818
8.8
120
347
45.50
4731.82
4.7
9463.636
9.5
130
372
48.78
5072.73
5.1
10145.45
10.1
140
397
52.05
5413.64
5.4
10827.27
10.8
150
422
55.33
5754.55
5.8
11509.09
11.5
160
447
58.61
6095.45
6.1
12190.91
12.2
170
472
61.89
6436.36
6.4
12872.73
12.9
180
497
65.17
6777.27
6.8
13554.55
13.6
190
522
68.44
7118.18
7.1
14236.36
14.2
200
547
71.72
7459.09
7.5
14918.18
14.9

At current prices - $120-$130/bbl, gasoline consumption is costing a 2 car
household about 9.5-10% of annual income.

At $200/bbl, this increases to about 15%

Of course, if you drive an SUV – double all the figures above!
May 2012
19
SPR – 30m barrels = about $0.50-$1.00 3m
SPR Drawdowns
Arab Spring
30m b
750000
450

In recent history, there have
been three instances of an
SPR drawdown

The resulting fall in retail
gasoline prices was about
$0.50 - $1.00, though the
counterfactual is unclear

Is few cases, was the
impact sustained for more
than 3m

Moral: Don’t overestimate
the price effect of the SPR
400
Hurricane Katrina 11m b
700000
350
300
650000
250
low distillate
levels in NE
30m b
200
600000
150
100
550000
Strategic petroleum Reserve, lhs
50
Retail gasoline prices, rhs
500000
0
99
May 2012
00
01
02
03
04
05
06
07
08
09
10
11
20
EUR/USD … the known unknowns
High
PROBABILITY
US elections/
protectionism
EUR/USD
Fed QE3
Eurozone
hard-landing
Early Fed
tightening
Positive factors
Greece leaves
EMU
Negative factors
Chinese
hard landing
Iran Conflict
Eurozone breaks up
Low
0%
Low
May 2012
15%
IMPACT
30%
High
21
Monetary Shocks – policy error?
%
5
Fed member assessment for appropriate interest rate
4
3
2
1
0
2012
2013
2014
Lo nger run

The Fed’s proposed first rate hike by no sooner than “late 2014” seems difficult
to take seriously

Markets are registering their doubt through Eurodollar and Fed fund futures
contracts – Fed taking a chance with inflation – bond yield spike later in 2012?
May 2012
22
US is not immune to the Eurozone
EURtr
Ultimate country risk exposure

2
1.8
1.6
1.4
1.2
Exposure of US banks to
Europe through deposits, loans
etc amounts to about $1.8tr
(inc UK)
1
0.8
EUR tr
0.6
0.4
0.8
0.2
0.7
0
Country and CDS
0.6
P ublic secto r
GIIP S

Other
Other Euro zo ne
to tal
UK
…and exposure through CDS
written amounts to a further $2.2tr

If the crisis does re-ignite…

…then the US will not be immune
to Eurozone developments
May 2012
0.5
0.4
0.3
0.2
0.1
0
Be
lg
iu
Fr m
a
G nce
er
m
an
y
Lu
I
x e ta
m ly
b
N
et ou
he rg
rl a
nd
Au s
st
r
G ia
re
ec
Ire e
la
Po n d
rtu
ga
Sp l
ai
n
U
K
B anking secto r
23
US fiscal policy tightening set to bite
GDP %
4
3
US
Euro pe
2
1
0
-1
-2

US growth has been helped by the fact
the government has been quicker to
loosen and slower to tighten fiscal
policy than has the Eurozone…

…this is beginning to change

Bipartisan politics mean more sunsetting of stimulus from 2013, and
more fiscal drag
-3
2009
2010
2011
2012
2013
“Tax-mageddon”
May 2012
2014
24
Debt burden still very heavy
($)
180,000
160,000
140,000
120,000
100,000
($)
The US debt burden*
180,000
* debt per person of
working age
Federal & local
government debt
Household
Average salary
160,000
140,000
120,000
100,000
80,000
80,000
60,000
60,000
40,000
40,000
20,000
20,000
0
0
52 56 60 64 68 72 76 80 84 88 92 96 00 04 08
May 2012

Household debt has fallen –
mainly due to debt default

But overall burden still
extremely high…

…three times average
individual salaries

Likely to weigh on consumer
spending growth for years
25
China – avoiding a hard landing?
index
Exports and Export PMI
YoY%
70
60
65
50
60
40
30
55
20
50
10
45
0
Export orders PMI
40
Exports, rhs
-10
35
-20
30
-30
25
-40
31/01/2005
May 2012
31/01/2007
30/01/2009
 Export growth has
been slowing…
 …but some of the
lead indicators for
exports are not too
bad…
 …and in any case,
wasn’t China supposed
to be moving to a more
domestically oriented
growth model?
31/01/2011
26
Key currency attributes in 2012
Safety
Liquidity
JPY
CHF
GBP
USD
EUR
CNY
CAD
Year-to-date vs. USD (% chg)
NOK
AUD
SEK
ASIA ex CNY
LATAM
Return
EMEA INR
NZD
NZD
GBP
NOK
CAD
CHF
SEK
AUD
EUR
JPY
-6
-4
-2
0
2
4
6
 Very few currencies demonstrate all the attributes of safety, liquidity and return
May 2012
27
Global FX – valuations to impact returns
Currency pain thresholds
Brazil
Russia
Australia
China
Singapore
Canada
Switzerland
Indonesia
NZ
Thailand
South Africa
Malaysia
Norway
India
Turkey
Hungary
Sweden
Japan
Mexico
Eurozone
South Korea
US
UK
-15
-10
-5
0
5
10
15
20
25
30
Percent of REER index above/below 10-year average
May 2012
28
Summary

The best case, is for ongoing, prolonged, low level risk aversion and weak
growth from the G-10

Assuming no Euro break up: fiscal tightening, credit constraints, and deleveraging will weigh on economies and assets for year (decades?) to come

The worst case is for massive economic and market disruption in the event of
Eurozone break up

The rest of the G-10 will not be immune to the fallout

Choosing between a number of binary outcomes (Greece in or out for
example), makes forecasting almost impossible

Adding politics to the arguments makes logic irrelevent

Most of the arguments point to further euro weakness. And also to low(er)
rates and bond yields (for core Europe, and non-Europe)
May 2012
29
Forecasts
Forecast summary
US
GDP
CPI
EZ
GDP
CPI
EUR/USD
UK
GDP
CPI
GBP/USD
Japan
GDP
CPI
USD/JPY
China
GDP
CPI
USD/CNY
2011
2012
2013
2014
1.7
3.2
2.2
2.1
2.0
2.4
2.3
2.5
1.5
2.7
1.30
-0.4
2.4
1.15
0.9
1.7
1.2
1.2
1.8
1.25
0.7
4.5
1.55
0.2
2.7
1.53
2.0
2.0
1.56
2.7
2.3
1.56
-0.7
-0.3
77
1.9
0.2
85
1.3
-0.1
95
1.2
0
110
9.2
5.4
6.32
8.2
3.0
6.24
8.4
3.0
6.18
8.4
3.0
6.18
All figures annual averages, except for exchange rates, which are year end
May 2012
30
Disclaimer
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May 2012
31