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Super Mario Draghi's Diabolic Spiral

Interest-Rates / Eurozone Debt Crisis Aug 02, 2012 - 11:41 AM GMT

By: Raul_I_Meijer


Diamond Rated - Best Financial Markets Analysis ArticleMario Draghi did a press conference today. "Everyone" was eagerly awaiting it, and nobody seemed to understand it makes no difference what he says. At least, that is, from the point of view of saving the euro, or Spain, or Italy, or the eurozone. Draghi let slip a dumb remark last week at what was essentially no more than an Olympic cocktail party, and now he's supposed to make it all come true. But he didn't say anything of substance then or now, because he doesn't have anything of substance to offer.

Unfortunately (well, for the European people), though, there are still financial markets out there demanding Blooper Mario hand over more European taxpayer money. What he'll try to do (and what will be another grossly expensive failure) is to save the banks, and to do that at the cost of impoverishing the people of Europe even further. The markets will say he disappointed. For the good of the people of Spain and all of Europe, Draghi should be sacked, ASAP, but the banks may want him to stay on a bit longer; he might deliver a few hundred billion more. So he'll stay. For now. Until the people hit the streets. Again.

But alright, let's see if we can approach things in a different way for a change. Instead of me analyzing what's going on, I'll provide you with a flood of data and numbers and stories, and you then can, after reading it all, create a "feeling" for what is happening, a mental picture, and reach your own conclusion on what the odds are for a solution for Spain and the eurozone at large. And I'll shut up. Or try at least.

Here's your key: It's the people, stupid! Not the economy; it‘s only the economy if that economy can actually be resurrected. The future of Spain, and Europe, will be decided in streets and kitchens and living rooms, not in bank vaults and boardrooms. You can only squeeze the people so far. That's not some political statement, nothing to do with socialism or anti-capitalism, it's just a basic fact. Apparently it's going to take a brush with reality for many loud-mouthed pundits and politicians to figure that one out. So be it.

By the way, Spain sold 10-year debt this morning at 6.647%. It'll be a matter of weeks this way. (UPDATE: 10 year yield is back up over 7%.)

To get off to a good start, I'll lead off with what Sven Böll, Michael Sauga and Anne Seith wrote for Der Spiegel about Draghi's (in)famous "I'll do whatever it takes" remarks:

ECB Divided over Efforts to Save Euro

It was an illustrious meeting that British Prime Minister David Cameron was hosting on the evening before the opening of the Olympic Games in London. Prince Charles joked with International Monetary Fund Managing Director Christine Lagarde, while top chef Tom Aikens served up Scottish salmon and Yorkshire goat cheese. The heads of global corporations like Google enthusiastically applauded the videotaped appearances of English celebrities, from Victoria Beckham to Richard Branson.

It was meant to be a day of glamour, but then Mario Draghi, the president of the European Central Bank (ECB), made a seemingly trivial remark -- but one that ensured that the 200 prominent guests were swiftly brought back to gloomy reality. His organization, he promised, would do "whatever it takes to preserve the euro."

The audience treated the remark as just another platitude coming from a politician. But international financial traders understood it as an announcement that the ECB was about to buy up Italian and Spanish government bonds in a big way. So they did what they always do when central banks suggest they might soon be firing up the money-printing presses: They clicked on the "buy" button.

Stock and bond prices shot up within minutes, and the yields on some southern European debt securities saw a considerable drop. Newspapers and online news services called it an act of liberation, and market speculators quickly concluded that the ECB was apparently prepared to provide them with what one banker called "excellent gains in share prices" in the coming months.

Go markets go! I'm left wondering if perhaps Mario had been drinking when he said it. And if that drink could spell the end of his career.

Next up, Angela Monaghan discusses a report by the Open Europe think tank. I don't want to influence your thinking process, but the title does sort of give it away:

Spanish bail-out 'impossible', experts warn

A full-blown sovereign bail-out of Spain would be economically and politically impossible and cost up to €650 billion, an in-depth study has warned.

Leading think-tank Open Europe made the estimate based on the assumption the Spanish government would be forced out of the markets for three years because of its unsustainable borrowing costs, as happened in Greece, Ireland and Portugal.

Between now and mid-2015, Spain has funding needs of €542 billion, with its banks requiring up to €100 billion on top of this. The Spanish regions possibly require another €20 billion, according to the study. A Greek-style bail-out for Spain would bleed dry the eurozone's €500 billion rescue fund, making an alternative solution essential.

Fears that Spain will need a sovereign bail-out mounted last week after the government's borrowing costs hit fresh highs and Catalonia followed Murcia and Valencia as a region which may be forced to turn to Madrid for assistance to meet its debt obligations.

"The regions will not make or break Spain financially, but their bail-out requests show how politically difficult it will be for Spain to rein in spending and reform," said Raoul Ruparel, head of economic research at Open Europe."The current bank rescue plan is clearly insufficient, while a full bail-out – which could be in the region of €650 billion – is impossible."

Open Europe said the most likely scenario would involve a loan of around €155 billion and more liquidity provision from the European Central Bank in Frankfurt. "However, even that could, at best, only buy Spain six months to a year," said Mr Ruparel. [..]

Meanwhile, the Spanish economy continues to deteriorate, write Jonathan House, Ilan Brat and David Román for the Wall Street Journal. And that of course means that all the negotiations and the calculations will need to be redone.

Deficit Grows in Spain as Capital Flight Accelerates

The central government in Madrid said it had a budget deficit equal to 4.04% of gross domestic product in the first half, up from 2.2% a year earlier, as tax revenue remained weak and Madrid moved to extend emergency support to the country's financially ailing regional and municipal governments.

Separately, Spain's two most populous regions, Catalonia and Andalusia, declined to participate in a meeting of regional finance chiefs with Spanish Budget Minister Cristóbal Montoro in protest over strict budget targets Madrid imposed on them.

The regional resistance highlights the political and social costs of Spain's push to slash an overall budget deficit—including the central, regional and municipal governments—that reached nearly 9% of GDP last year.

Citing severe liquidity strains, Catalonia's government has delayed July payments for social-service providers, including hospitals and retirement homes. As many as 100,000 employees could suffer payment delays as a result, local media say. Spanish regions are responsible for over a third of spending in the highly decentralized country, including politically sensitive areas such as health and education.

Nonetheless, in a new sign of waning investor confidence, data from the Bank of Spain showed a new surge in capital flight from the country's economy and financial system.

Net outflows reached €41.3 billion ($50.6 billion) in May, compared with a net outflow of €9.6 billion in the corresponding month last year. Portfolio investment, which includes investments in public and private debt instruments, also posted an outflow of €9.2 billion, driven primarily by foreigners taking that investment money out of Spain.

Spanish families and companies also pulled some of their deposits out of Spain, removing €1.8 billion, while €606 million from foreign companies and families flowed into the country, the Bank of Spain said.

But the most interesting developments are the ones taking place inside Spain, the ones directly affecting the Spanish population. For one thing, most of the Spanish regions are utterly broke. All the talk about saving the banking system, what does it mean when the people sink ever deeper into the swamp? Poorer people means less tax revenue means more budgets cuts means poorer people. Saving banks is not going to break that cycle. It's almost too simple, isn't it?

First, Nick Meo for the Telegraph:

Spanish cities spent billions in the good times, but now debt burden is crushing the young

Spain's regions spent billions competing with each other to build prestige projects when the economy was good. Now the young are being crushed by the debt burden, which promises to cause a Greek-style disaster which many Spaniards are starting to blame on Europe.

On the way to the docks in Valencia, past rows of dreary blocks of flats, is a fabulously expensive opera house built to get the Spanish city noticed, no matter the price. The building, centrepiece of the City of Arts and Sciences cultural complex, is the kind of experiment in contemporary architecture on which Spanish cities spent billions of euros during the giddy decade to 2008 - when the property bubble burst and the economy crashed.

An arresting, glimmering white building that looks as if it could have just flown in from outer space, surrounded by pools of cool blue water, it was supposed to rival the Guggenheim Museum in Bilbao or the cityscape of Barcelona, up the coast to the north. It seemed expensive at the time. But it is only now that Valencia understands the true price of architect Santiago Calatrava's bold vision. The city, Spain's third biggest, is so mired in debt that last week it had to turn to Madrid for a €2 billion bailout - setting a precedent for other Spanish regions.

Within days Murcia region had followed suit and much larger Catalonia, which is €42 billion in debt, is likely to do so shortly. Between them, Spain's 17 regions owe an estimated €140 billion. The dawning realisation of what this could mean for Madrid's own debt problem has driven Spanish borrowing charges to a dangerous new high, and raised new fears about the entire country's need for an EU bailout.

In Valencia, the recession means that hospital wards are closing, local taxes are rising, and half of Valencia's young people are out of work. "Of course the City of Arts and Sciences was built during the golden age when Spain was supposedly a strong country," said Josep Rodriguez, 29. "We know now that wasn't true. Everything was a big bubble."

He is about to lose his job in public radio along with three quarters of his colleagues, victims of sweeping cutbacks by the regional government. "For our generation there is no hope, no chance of jobs because of constant cuts, and I think the next three or four years are going to get worse," he said. "People are worried now that we will end up like Greece." [..]

Spain's dire and still worsening economic problems are now causing serious concern far beyond its borders – not least in Brussels, Frankfurt, and Berlin, where fears are growing that it will need another gigantic bailout. After Ireland, Portugal and Greece, this may be one that Europe is simply unable to afford.

Several years of economic recession in Spain have started to expose corruption scandals, incompetence and overspending that cost billions. The state of the economy looks much worse than anyone thought a year ago. A series of banking scandals in the past few weeks have made the City of London look reputable by comparison – and now borrowing costs are rising, markets have scented blood, and Spaniards once confident of their economic fundamentals are now wondering how far they are going to fall.

Excess during the good years, especially by regional governments, seems foolish now. "We are becoming beggars in a city of expensive wonders," joked one jobless man who sells chewing gum to make a bit of pocket money. [..]

Suzanne Daley at the New York TImes makes it more personal:

Spain's Jobless Rely on Family, a Frail Crutch

Dolores Fernández Mora, 76, and her husband, Mariano Blesa Julvé, 75, once thought they would end their days in relative comfort, their house paid off and a solid pension of about $1,645 a month. Perhaps they would travel a bit.

Instead, they are supporting their unemployed 48-year-old daughter and two of her unemployed adult sons who now live with them in their tiny two-bedroom home here in northern Spain. They have taken over their daughter's debts. Sometimes there is hardly money for food.

"While she isn't working, I don't have new teeth, and that is that," said Ms. Fernández, who, seated in her living room recently, showed off the gaps in her smile.

As the effects of years of recession pile up here, more and more Spanish families — with unemployment checks running out and stuck with mortgages they cannot pay — are leaning hard on their elderly relatives. And there is little relief in sight. [..]

"The crisis in Spain is affecting the elderly in a very special way," said the Rev. Ángel García, who runs a nonprofit group helping children and the elderly. "Many grandparents want to give what they can, and they do.

But, unfortunately, sometimes what is happening is that the younger generation is ransacking the older generation. They are taking all that they have."

A survey this year by Simple Lógica, Gallup's partner in Spain, found a sharp increase in the number of older people supporting family members. In a telephone survey conducted in February 2010, 15 percent of adults 65 and older said they supported at least one younger relative. In the survey conducted in February 2012, that number had risen to 40 percent. Data compiled by an association of private nursing homes,, found that in 2009, 76 percent of its member homes said they had vacancies. Last year, 98 percent of them did.

Such numbers, experts say, reflect growing desperation in Spain, which has the highest unemployment rate in the euro zone. According to recent government figures, about 1 in 10 households now has no working adults.

Some experts say they believe that retired people, sharing their pensions and dipping into their savings, have been the silent heroes of the economic crisis, and that without them Spain would be seeing far more social unrest. In many cases, they stand between their middle-aged children and homelessness.

While Sharon Smyth for Bloomberg reports on the newly found desperate ways of the Spanish real estate industry:

Backseat Sex Ads Urge Young Spaniards to Get a Room's pitch to Spaniards in their 20s still living with mom and dad is simple: Rent your own place or end up having sex in the back of a cramped car for years to come.

The new 20-second TV advertisement by Spain's biggest real estate website features still shots of couples and threesomes caught naked in cars with looks of surprise. It's aimed at 20- to 29-year-old Spaniards, seven in 10 of whom still haven't left home as Spain's unemployment rate soars to a record. "We were brainstorming the moment when people most think 'I need my own home' and having sex in a car sprang to mind," said Fernando Encinar, co-founder of Idealista. "Millions of Spaniards have gone through it."

Spain has the highest rate of home ownership in the euro zone after Estonia and Slovakia, at 83 percent of dwellings, compared with a 65.5 percent rate in the U.S. The Spanish government is trying to encourage more people to rent as banks give fewer mortgages, making it more attractive for foreign funds to invest in the nation's 1.5 million of unsold homes. The rental market in Spain will grow to 25 percent of the total by 2015, according to Encinar. "Youngsters with no deposit saved and permanent labor contract are effectively locked out of the mortgage market," Encinar said. "We are already seeing part of that huge pent-up demand running into flat sharing as it's the only option for some."

There are 25 million homes in Spain, 3 million of which are empty, and 1.8 million are rented. Ads on Idealista for rooms in shared rental apartments have surged more than 120 percent to 26,079 in the past 12 months. The company organizes regular gatherings to match up those seeking rooms in shared rentals with people looking for roommates.

In May, Public Works Minister Ana Pastor said she will adopt measures to boost investment in the rental market. The changes would protect landlords by speeding up evictions of tenants who don't pay, allow landlords to raise rents above the annual inflation rate and reduce the duration of leases. [..]

Oh well, there's always Ambrose:

Temptations of a Peseta default in Spain

Defying charges of heresy, Spanish economist Lorenzo Bernaldo de Quiros has penned a piece in El Mundo that more or less calls for Spanish withdrawal from the euro – unless Mario Draghi conjurs up real magic at the ECB.

My rough summary/translation: Spain is heading for insolvency as big chunks of debt come due later this year. Events are moving fast. The relevant issue is no longer whether this will happen, but whether it is better for Spain to restructure its debt "inside or outside" EMU.

"Inside the euro and without financial resources, a debt reduction is pointless. The Spanish economy would have to go into deepening internal deflation, with cuts in prices and salaries, to restore competitiveness. This is impossible, or at least improbable." The process would take too long. Capital flight would continue. It would lead to another debt restructuring in short order (as in Greece). "The snake would bite its own tail in a diabolic spiral," he said.

Mr Bernaldo de Quiros — who heads Freemarket Corporate Intelligence — seems to assume that there will not in fact be a eurozone rescue (or that the Rajoy government will refuse to accept Troika terms). He contemptuously rebuts the "apocalyptic casuistry" of those who claim that the banking system would necessarily collapse, or that real interest rates would surge, or that Spain would succumb to hyperinflation.

He notes the success of Britain, and the Scandinavian states in leaving the Gold Standard in 1931 – and those Latin American states that did so later (perhaps a better parallel, since Spain today has net external debt near 100pc of GDP). Their recoveries were in stark contrast to those like France, Poland, Belgium, Italy, and the Netherlands that clung to the dysfunctional fixed-exchange system until the bitter end, trapped in perma-slump.

He cites a study from the Centre for Economic Policy Research studying 13 cases of devaluation shocks over the last two decades. Output exceeded its previous level within three years in ten of the countries, with an average growth rate of 10.3pc (ie, even more than the oft-cited growth rate of Argentina, post-liberation). Nothing is foreordained, either way. What matters is the policy pursued afterwards. "It would be in our hands whether it would be a success or failure."

Competitiveness would be restored rapidly; the Bank of Spain would be able to act as a lender of last resort again and eliminate the risk of future debt restructurings. The country would at least have a sporting chance of avoiding protracted depression. Obviously it would all go wrong if the government turned crudely populist. "Whatever the case, the current situation is unsustainable".

I pass this along. The arguments are familiar to readers of this thread. He does not address the issue of what would happen to Italy, and therefore to France, and therefore to Germany, and therefore back to Spain itself, if Madrid did indeed light a match to this powder keg, but again, perhaps that is apocalyptic casuistry.

So why did the markets rise in anticipation of Mario's loose-lipped cocktail party comment last week? Are all those big and savvy investors really that gullible? In a few words: yes, they are. They're looking for short term gains. And we collectively seem to have forgotten it, but short term gains will always lose out to long term bare survival.

Maybe Rajoy will be PM of Spain a few more months, and maybe Draghi can hang on to his ECB post for a while longer as well. But once we move out of the plush comfort zones we've come to see as the sole reality of our societies over the past decades, we will be hit over our heads with fundamental fact that says the economic fundamentals are not built in stock exchanges and boardrooms. Take away people's basic necessities and people become the economic fundamentals.

Why would Spain stay in a eurozone that has neither the will nor, more importantly, the firepower to save it from disaster 2.0? In the end, once its people wake up to the fact that things can only get worse if they don't fundamentally change, Spain will choose to go its own way, like it's done for a very long time. And Mario Draghi will be a forgotten footnote, if he's lucky, in what will be regarded as just another embarrassing episode of European history.

Embarrassing, because in hindsight everyone will understand what has been obvious to us for a long time: that is, there is no solution for a Europe that tried to unify in the spectacularly failed fashion that is the eurozone. It's simply not the sort of project we should trust the money, power, and glory hungry amongst us to execute.

But we always do, time and again. Now why don't you try and tell me why. And not why all the others do it, but you yourself. That's a much more interesting topic. I mean really, what were you thinking?

By Raul Ilargi Meijer
Website: (provides unique analysis of economics, finance, politics and social dynamics in the context of Complexity Theory)

© 2012 Copyright Raul I Meijer - All Rights Reserved Disclaimer: The above is a matter of opinion provided for general information purposes only and is not intended as investment advice. Information and analysis above are derived from sources and utilising methods believed to be reliable, but we cannot accept responsibility for any losses you may incur as a result of this analysis. Individuals should consult with their personal financial advisors.

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