The wrong debate

- "While the European bank stress test is a pivotal moment, the issue of fiscal consolidation remains equally important—in fact it is fiscal concerns that brought us to the banks stress tests. Yet the austerity debate is mis-guided: the focus should be more on how to boost
sustainable growth, less on whether to prolong fiscal stimulus. The austerity debate is now not on whether fiscal tightening in advanced economies is necessary, but on when it should begin in earnest. Those who favor postponing adjustment argue that the recovery is still fragile, and premature fiscal tightening could trigger a double dip recession, particularly as there is little scope for a monetary policy reaction. On the other hand, delaying adjustment
where public debt dynamics seem unsustainable risks weakening market confidence, making funding costlier and harder, and undermines potential growth and living standards once debt
becomes too high (90% of GDP for advanced economies). So when is the right time to start tightening? US real GDP is now close to its pre-crisis peak, but unemployment is more than twice as high; European output is 4-4 ½% below peak, but the increase in unemployment has been overall less severe, albeit with wide crosscountry differences. Should we wait till both output and employment are back to pre-crisis levels? Just as credit growth in the run up to the crisis was excessive, so was GDP growth was unsustainably high; just as much of the financial wealth created was illusory, so a substantial share of “real” output growth was
unsustainable, at best borrowed from the future. What rates of growth and unemployment would have been “normal” without the credit bubble? How many of the jobs destroyed in the recession might be gone for good? These are the hard questions to answer, to lay the basis for the appropriate policy response. Meanwhile, fiscal consolidation plans have already been laid out in most countries, they are not dramatic, and there is no significant push to tighten them further. We should spend less time conjuring the confidencekilling ghost of a double-dip recession, more on debating what reforms countries need to ensure stronger sustainable growth— which will also serve to bolster market confidence."
Unicredit Market Sense 20100720

Could stock market prices in the euro zone fall as much as in Japan since 1990?

- "Since the early 1990s, Japanese stock market prices have been divided by four, despite the marked improvement in corporate profitability since the late 1990s."
- "This steady decline in the Japanese stock market can be ascribed to:
• the memory of the stock market collapse in the early 1990s;
• lacklustre growth, which diverts investors from the stock market- even if this is irrational ;
• the fact that domestic savings are used above all to finance fiscal deficits."
- "But similar developments are (or will in all likelihood be) witnessed in the euro zone: very sharp fluctuations in share prices, sluggish domestic demand, fiscal deficits that are difficult to reduce and that monopolise savings."
Natixis Flash Economics 362 20100715

A European Private Company: Is Europe’s single legal form for SMEs close to approval?

- "Small and medium-sized enterprises (SMEs) in Europe have long called for a matching legal form valid across the EU (similar to that of the European company (SE) for large firms)."
- "The main benefits would be the availability of uniform Europe-wide company structures, significant cost reductions for businesses and further integration of the internal market."
- "Given the differing national views regarding the concrete features of the new legal form there is currently no sign of an agreement being reached at the European level in the short term; however, it is possible that progress will be made in negotiations during the year."
- "The key issues being discussed in depth are company formation, transnationality and employee participation rights in the new European private company (SPE)."
DeutscheBank Research Briefing 20100719

Natural Gas: Lowering our price forecasts on the back of surging US production

- US natural gas production continues to surge forward, exceeding
our expectations… "US natural gas production continues to surge this year, driven by the shale gas revolution. As US production has exceeded our expectations, we are increasing our 2010 production by 3.0 bcf/d to 58.5 bcf/d on average for 2010. In addition, we are raising our 2011 production forecast by 3.7 bcf/d to 58.1 bcf/d. We still factor in a slightly declining production path over the rest of 2010, as we continue to expect some response to production from the lower conventional rig counts."
- … requiring reduced LNG production to balance the global market "We expect US LNG imports will need to remain low in order accommodate the increased US production. While we expect a tighter European market will be able to absorb a substantial portion of the LNG supply, we expect that global LNG production will need to remain restrained in order to keep the global gas market in balance. Consequently, we expect that global LNG production will likely be the price setting margin for gas in 2H10 and 2011."
- We are lowering our 2010 and 2011 forecasts as we expect lower prices will be required to restrain LNG production going forward "We are lowering our NYMEX natural gas prices forecasts to $4.63/mmBtu in 2H10 and $5.25/mmBtu in 2011, from $5.60 and $6.00 respectively. Further, while we expect stronger US production will put downward
pressure on UK NBP prices, we expect UK NBP prices will need to exceed US prices in order to direct LNG toward Europe. Net, we are lowering our UK NBP price forecast to $5.13/mmBtu (34.05 p/th) in 2H10 and to $5.75/mmBtu (35.20 p/th) in 2011, from $5.40/mmBtu (34.20 p/th) and $5.80/mmBtu (36.00 p/th), respectively. Should US production continue to
surprise to the upside, a return to more coal-to-gas substitution in power generation would likely be required to balance the market."
GoldmanSachs Commodities Natural Gas 20100716

What are the odds of a double-dip recession?

- "The waning budget stimulus and the probable end to restocking will considerably slow down growth in the second half of 2010. But the risk of a new violent business downturn, even in light of the budget austerity plans, is limited due to the ongoing effect of monetary stimulus and the profits trend."
- "This interpretation is backed by business cycle leading indicators. We can surmise from a study of both yield curves and confidence indicators that the probability of recession in developed countries within the next twelve months is very low."
- "The likelihood of the extreme scenario of a double dip recession occurring today requires a sharp surge in market rates due to a violent shock:
• from sovereign debt, but this source of risk is nil since central banks are buying government bonds.
• by a new bank crisis, but the constitution of reserves and asset writeoffs seem to have stabilized.
• by a forex crisis, but the probability of such a crisis occurring simultaneously in all developed economies is remote"
- "In the absence of any such shock (which must be exogenous), since inflation is not a risk, we should brace ourselves for the more probable odds of very feeble growth in the major developed economies."
Natixis Flash Economics 361 20100715

Beyond the recovery hump

- "For much of 2010, our strategy has been to position for the global cyclical recovery. A powerful recovery did occur with global manufacturing up 12% from its recession low. Economic data is past the recovery hump. The cyclical trade is now mature. Within EM countries, we are rotating back to domestic demand. Our OW in the cyclical sectors of technology and transportation is more modest than the large UW in commodities and energy."
- "We downgraded Mexico and South Africa from overweight to neutral and upgraded ASEAN to overweight on 15 July."
- "China’s economic growth is slowing. Real GDP growth eased to 7.2% QoQ in 2Q from 10.8% in 1Q10. China's PMI fell for the third consecutive month to 50.4. Policy clearly favors consumption over FAI. But the consumer sector is only 11% of MSCI China. Materials and
energy constitute 20% of the index. Policy risk and margin pressure due to national service are the key medium term drivers for our UW in China, but a policy relief rally is possible as evidence of the slowdown builds. Fast money may wish to be neutral in China in a commodity
JPMorgan Emerging Markets Equity Strategy 20100719

LatAm: a faster recovery

- "The recovery is gaining speed as the news arriving from the region continues to remain positive. Very significant are the raised debt rating for Argentina by Fitch, the take-up of Colombian bonds and good economic indicators in Colombia, Mexico and Peru. There are some signs of a slowdown in Brazil after high growth in the first quarter of this year. The official interest rate was increased in Chile, but continue to be very expansionary."
- "The equity markets are going up again, and we expect the same to happen in the foreign currency market. Most of the share indexes in the zone are reacting positively to the corporate results from the USA and of a reduction in the risk premium. Currencies reacted to factors in the cycle, which we expect to be corrected shortly."
BBVA Latin Weekly Observatory 20100716

Have the United States and Europe pulled out of the crisis?

- "Some economists believe there will be a gradual recovery in growth in OECD countries, as the causes of the crisis are disappearing (excess indebtedness, holding of "rotten" assets) and due to the economic recovery in emerging countries."
- "Others believe there will be a renewed slump in the economies due to the excessively rapid disappearance of the stimulus provided by economic policies (reduction in fiscal deficits, especially in Europe; gradual withdrawal of unconventional monetary policies)."
- "It is certain that fiscal and monetary policies will become more restrictive. To ascertain whether this development will lead to a second dip in the economies, we have to determine whether the balance sheets of economic agents have improved enough. The crisis is actually a result of the deterioration in the balance sheets of households, banks and companies in some countries."
- "What is the situation with regard to balance sheet improvement?
• There are few countries (France, Italy) where households’ balance sheets are good enough to enable household indebtedness to (slowly) pick up again;
• Companies continue to deleverage everywhere, due to their determination to reduce their dependency on external funding;
• The banks’ situation is difficult to assess, in the absence of transparency about the value of the assets held. In several countries (United States, United Kingdom, Spain) borrower defaults are at a very high level, which points to the conclusion that many banks are still facing problems. On top of this, there is the problem of European banks’ holding of public debt."
- "All in all, it seems that it is too early in the process of improving the balance
sheets of private economic agents to bring counter-cyclical policies back to
Natixis Flash Economics 360 20100713

Could the crisis, paradoxically, have accelerated emerging countries' growth ?

- "In early 2010 there has been very robust growth in emerging countries (except in Central Europe), while the economies of OECD countries are weaker, hence also normally emerging-country exports."
- "By what mechanisms could the crisis, paradoxically, have increased
emerging countries' growth? It could be imagined that:
• faced with the crisis in OECD countries, the emerging countries have stepped up strategies of stimulation of domestic demand;
the crisis has led to transfers of productive investment from OECD countries to emerging countries;
• the crisis has halted the appreciation of emerging countries' currencies, due to the safe haven role of the dollar;
• or simply that increasingly significant trade between emerging countries
generates a multiplier effect which is sufficient to accelerate these countries' growth or else that the first quarter of 2010 was temporarily strong in OECD countries."
- "In fact, all these explanations are valid and played a role. Even though growth is slowing in OECD countries, the fact that the emerging countries stimulate their domestic demand, benefit from investment transfers, no longer have appreciating currencies and increasingly trade with one another, will maintain high growth in emerging countries."
Natixis Flash Economics 359 20100713

United Kingdom: back to the eighties

- "It’s hard not to compare what is happening now in the UK to the 80s, considering all the glaring similarities:
- the conservatives are back in power with the economy and public finances in shambles;
• the Tory leader’s speeches calling for renewal based on determination, a renewal that requires paying the price for past mistakes;
• policies challenging the principle of the welfare State."
- "The solutions proposed by David Cameron’s government are also reminiscent of those implemented by Margaret Thatcher, where drastic cuts were made in public spending and the economy was liberalized through the introduction of supply-side policies."
- "The UK is the only country that has clearly chosen this path. Has it made the right choice? The answer is double-sided. In the short term, yes, since the budget announcements of David Cameron’s government has helped to dispel the risks weighing on public finances. In the long term, the structural characteristics indicate that return to strong growth could take longer than expected by the government."
Natixis Flash Economics 354 20100708