Volcanic Euroption…………..Evil Plan 53.0 (by BDI)

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Well my fellow Slope-a-Dopes, it seems the ominous warnings signs, precisely laid out in EPs 47.0 & 51.0, illustrating the potential for a violent pan European eruption, were indeed on the mark. And this time, it's not just the Greek Gods that are pissed off. The Eurozone volcano is not only spewing gritty ionian volcanic ash clouds, grounding all Airbus a320's on the continent, but much more terrifying, the real thing, hot molten iberian lava which may well cause a complete melt down of the entire grid.

Spain is deep in the red hot shit, and if you thought Greece was bad, you may want to turn away from the brilliant erupting flames before your eyes fry. Spain's economy is the fourth-largest in Europe, and it's twice as large as Ireland, Greece, and Portugal all put together. Spain's failure would likely spell the end of the Eurozone, the 17 countries that use the euro currency, and would send shock waves through the global financial system.

Stab-bullAs previously discussed, Spain is clearly circling the drain. The Iberian Peninsula, now has a debt to GDP ratio of nearly 80%, a 20 year high. National unemployment is just shy of 25%, and the out of work youth numbers are a mind blowing 50%. Spain released details of an extreme austerity budget, which includes $36 billion in tax increases and spending cuts, aimed at reducing the deficit from 8.5 percent of gross domestic product to 5.3 percent this year. However, investors in the know claim the austerity measures, harsh as they are, fail to meet the government's previous deficit targets. In addition, many analysts are skeptical that the local governments, which enjoy a degree of autonomy from the central government, will follow through on all the cuts.  Can you say, burning Andalusia!  Also most alarming, is the sate of the Spanish housing market, which has been often described as "the mother of all bubbles". The lasting effects of Spain's housing crash continue to weigh down banks, the construction industry, and the investment-services sector. The Spanish stock market is "teetering on the edge of an outright meltdown," says Vincent Cignarella at The Wall Street Journal.

Investors run scared of Spain's battered banks – Reuters:

Spain's banks are fast joining the ranks of the most unloved in Europe just as many need to raise capital urgently, deserted by investors who believe the country is on the brink of a recession that many lenders will not survive.                                

The government has ruled out more state aid for a sector that comprises a motley mix of international lenders and heavily indebted local savings banks. That leaves two options: raising private capital or turning to the EU for bailout funds.

Prospects for a private sector solution are poor. Nothing on the horizon looks likely to persuade foreign fund managers to invest, such is the fear of the banks' growing bad loans, their holdings of shaky sovereign debt and the worsening economy.

Already battered by a property market crash that began four years ago and continues unabated, few Spanish banks are able to borrow funds on wholesale credit markets and the majority are instead relying on the European Central Bank.

Analysts at Citigroup suggest Spanish house prices could fall a further 20-25 percent before hitting a floor. This will eat further into the value of the 300-plus billion euros' worth of property assets on banks' balance sheets – 176 billion euros of which is already classed as "troubled" by the Bank of Spain.


"Most are currently on liquidity life support from the ECB but asset quality continues to deteriorate as house prices keep falling and unemployment is still rising," said Georg Grodzki, head of credit research at Legal & General Investment Management.

"Their funding remains constrained and competition for deposits intense," he told Reuters.

"People are asking questions about the way banks are raising capital, through accounting, merging and amortizing losses over two years," said one London-based bank analyst who asked to remain anonymous. "It's a kind of capital-less capital raising." 



A key aspect of the Spanish story, which is critical to understanding the devastating collapse, is the direct impact the failing Cajas had on the cave in of the entire economy.  What are Cajas you ask?  Largely unregulated regional Savings and Loans banks.  Cajas were responsible for serving 46 million residents throughout Spain.  The clients they served included families, non-governmental organizations, and small businesses that the larger banks did not want to loan to due to the uncertain risk profiles, and higher probability that these clients would not successfully pay back the loans.  

Much like the U.S. S&L crisis of the late 80s, the real problem with the Cajas had its origins in the lack of transparency & regulation. Cajas did not have to report such important information as loan-to-value ratios, repayment history, and the collateral on loans, nor did they have to reveal how much investment they had in the Spanish real estate market. As a result, the Spanish government was mostly incognizant of the pressing financial danger the Cajas were really in.

An article featured in FOREXPROS written by John Nyaradi provides an informed brief history of the Cajas debacle:

In 2009, Spain’s housing market crashed which led to today’s economic problems. It started with the cajas being unable to obtain payment on their loans as construction companies fell into bankruptcy and many loans defaulted. This led to construction companies owing billions of euros to the Spanish banking system, with estimates running as high as 180.8 billion euros by mid-2010.

In March, 2009, Spain’s government announced that it had provided its first bailout of a caja. While cajas and major banks differed to an extent, global investors saw this as the first sign that the Spanish financial sector was in serious economic trouble. This led to investors losing confidence in the Spanish banks, which caused bank shares to quickly lose value. This led to a cycle where the banks needed more cash to pay the investors who wanted to withdraw their deposits from the banks.From January through April 2010, investors pulled out a total of 21.6 billion euros. This led to more bailouts being offered by the Spanish government, which only further eroded investor confidence in the Spanish economy.

It is important to note that Spanish loans are usually recourse loans. Recourse loans allow a creditor to pursue not just the collateral for recovery of the loan, but also to pursue the borrower’s other assets as well. This differs from the United States, where a creditor can only foreclose on the collateral (such as a residence) and not go after the borrower’s other assets. Due to the fact that Spanish banks can go after borrowers’ other assets, most Spanish citizens attempt to continue paying off their loans each month, thereby sacrificing investment in any other sectors of the economy.


Spain-stock-marketsbond-y-008Spain was squarely back in the spotlight on Friday, after news of a sharp rise in borrowing by the region’s banks from the European Central Bank triggered losses across European stock markets, but especially for the IBEX 35 index, which fell another 3.6% to a three-year low.  The yield on the 10-year government bond in Spain, which had displayed some relief in the latter half of the week, resumed a climb upward, rising 15 basis points to around 5.93%.  According to data from Markit, the cost of insuring Spanish government debt against default using credit-default swaps, rose to an all-time high. The five-year Spanish CDS spread widened to 505 basis points from 476 basis points on Thursday.  Shares of the country’s biggest bank by assets and market capitalization Banco Santander fell 3.4% on Friday, for a weekly loss of nearly 10%.

 

 

SpainandItalyCredit_Default_Swaps
As can be clearly seen in the above chart, Spanish & Italian CDS spreads are accelerating sharply to the up side once again.  The last time Spanish CDS spreads were at these levels was November of last year. Do you know where the U.S. stock market was then?  Try 1160 on the S&P………

Mish Shedlock is quick to point out, that it now costs $505,000 annually to insure $10,000,000 of Spanish debt out five years.  Data released by the bank of Spain showed gross borrowing from the central bank hit $316 billion Euros in March, up from $169 billion in February.  Or put more bluntly, as Mish's Friday headline reads: "Massive jump in Bank of Spain borrowing from ECB, Bank of Spain balance sheet shows Spain in deep trouble, LTRO is essentially useless."  Sure does sound like the red molten shit is indeed melting down the fan again!…………………

2012-04-14_1646If your counting on the ECB cavalry to mount yet another heroic charge up the battle hill to storm the Castilian castle, think again. The Euro white knight tumbled backwards and fell off a cliff on Friday after European central bank governing council member, the dark knight Klaas Knot, poured boiling oil over the market’s hopes of further catapult bond buying by the ECB crusaders. The US dollar was the big winner, with the trade-weighted dollar index jumping 0.7 per cent to 79.8. The chivalrous Euro, after nobley clawing its way back off the ground early last week, sure looks like it may finally be ready to resume its free fall.  Right on schedule for the French & Greek elections that kick off next week, which by the by, will not be well received at all by the EU central banker round table.  Next stop EURO 1.25!

Where does this European debt crisis end up?  Have you ever heard the expression; "the center can not hold"?  Well, that is exactly where the EU's monetary union is heading. The inherent structural flaw of the EU monetary system, was caused by the monumental error of adopting a single currency with one central bank for all sovereign states through out the eurozone, without a corresponding, and equally essential centralized fiscal authority.  They gave birth to a disabled one armed bandit, and then asked him to carry out 17 money bags of different sizes, shapes & weights after he robbed the place.  It is simply impossible to sustain a monetary system without a reciprocal fiscal system. You can not print money without the ability to raise money, it's really as simple as that. This historic blunder, created an unsustainable monetary union, whereby the less productive countries on the periphery, were permitted to grossly exceed the debt loads that their internal economies could legitimately carry or service.  The defective union created the age old false promise of loose money.  Much like our own sub-prime fiasco, excessive funds were offered against the inability to actually pay those funds back.  

What we all lived through in 2008-09 with the colossal crash of the U.S. housing market, we are about to witness in an even larger scale of epic proportion.  The disintegration of the EU monetary union will be a sight to behold.  As the fiscal structural austerity reforms are demanded of the less productive indebted states by the more productive fiscally sound nations, a vicious cycle of economic contraction followed by government revenue collapse will send the afflicted states into deep protracted stagnation. Keep in mind that European nation states have highly developed public sectors, that play significant roles in their economies as a whole, which ensures that the austerity measures will bite even harder into their GDPs. As Italy, Spain, Ireland, Greece, & Portugal sink deeper into economic contraction, and head towards recessions if not down right depressions, the center will not hold.  France is already showing signs of economic stagnation, and even the mighty Germany will eventually feel the adverse effects of a crippled Eurozone.  

As the inevitable deteriorating economic picture of the eurozone's periphery becomes clearer and clearer for all to see, the stronger states will run for cover. They will simply walk away, and refuse to be sucked into the never ending morass.  Outright bail outs will no longer be tolerated, they will be a thing of the past.  And eventually, the short sighted quick fix ECB policy of handing out free money to the famished European banking system will also be seen as the failure that it truly is. This free funding money flow is simply trapped by the weak under-capitalized Euro mega banks, running in place exchanging the ECB hand outs for sovereign bonds so as to pocket the unearned spread, hardly a recipe for stimulating real GDP growth anywhere. The money does not make its way into the real economy on the ground, the faltering banks simply will not lend to businesses in the face of a brutal contraction.  So there you have it, without growth the Eurozone will simply choke on its own debt, be it private or public.  Last week the reality of the desperate situation, that is the Eurozone, recaptured center stage with a vengeance, and it will only get worse from here on out..   

Soros, fox of the European banking system, warns of the clear & present danger :

The Bundesbank has become aware of the danger. It is now engaged in a campaign against the indefinite expansion of the money supply, and it has started taking measures to limit the losses that it would sustain in case of a breakup. This is creating a self-fulfilling prophecy: once the Bundesbank starts guarding against a breakup, everybody will have to do the same. Markets are beginning to reflect this.

The Bundesbank is also tightening credit at home. This would be the right policy if Germany was a freestanding country, but the eurozone’s heavily indebted member countries badly need stronger demand from Germany to avoid recession. Without it, the eurozone’s “fiscal compact,” agreed last December, cannot possibly work. The heavily indebted countries will either fail to implement the necessary measures, or, if they do, they will fail to meet their targets, as collapsing growth drives down budget revenues. Either way, debt ratios will rise, and the competitiveness gap with Germany will widen.

Whether or not the euro endures, Europe faces a long period of economic stagnation or worse. Other countries have gone through similar experiences. Latin American countries suffered a lost decade after 1982, and Japan has been stagnating for a quarter-century; both have survived. But the European Union is not a country, and it is unlikely to survive. The deflationary debt trap is threatening to destroy a still-incomplete political union.

Zerohedge paraphrasing George's point of view, goes one step further:

Analogizing the periphery countries as third-world countries that are heavily indebted in a foreign currency (that they cannot print), his initial conclusion ends with the blunt statement that "the euro has really broken down" and the ensuing discussion of just what this means from both an economic and socially devastating perspective: the destruction of the common market and the European Union and how this will end in acrimonious recriminations with worse conflicts between European states than before.


  

So you see dopes, the European Volcano is now erupting before our very eyes, China is falling off of a seismic cliff, the U.S. is in hock up to its eyeballs in red lava ink, and MENA is about to be turned into molten rock……….

All macro no momo………Evil Plan 53.0 is about to blow.

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 BDI SOH's Idiot Savant