Friday, June 03, 2005

Maroni Update

Here's the FT's reading of the situation.

Note this extract: "As financial markets digested the remarks of Roberto Maroni, Italy's welfare minister, the interest rate differential between Italian and German bonds rose to 23 basis points, the widest spread since November 2002."

These are the numbers we will be following at Afoe moving forward. Maroni is a member of a Northern xenophobic party that wants an independent country for the north of Italy. But *note*: he is in the government, and responsible for an important part of the Lisbon agenda, labour reform. So this is not some complete outside crank. Bottom line: Berlusconi's government is an unstable coalation, and this very instability *is* cause for concern, especially since we have just seen mainstream politicians lose important votes in two of Europe's more stable democracies.

One more irrelevant detail:

I used to keep a blog called Italy Economic News and Analysis, which I subsequently discontinued. I am reloading a new template at blooger now. They are only bits and pieces, but they may have some interest.

Basically I am a great admirer of the late Karl Popper, especially interms of his idea of science as being moved by daring conjectures, and then attempts at refuting them. When I came to the conclusion that demography might be more important for economic theory than it was fashionable to accept today, I treid to set myself an objective, a hypothesis whose confirmation, or absence of it, would help me decide if I was on the right lines.

Japan was already mired in crisis (we are talking about 2001 here), so I asked myself, if you are right what should happen next. Italy should enter a sudden and otherwise relatively unexplicable economic decline was my response. This is why I started the blog, and this is why I have maintained a continuing interest in Italy.

Having said that, I am not a reductionist. Italy's demographic problems form an important backdrop for the present 'embarrasment of difficulties', but of course it is by no means the only factor.

Another stab at what I think is the problem in Italy can be found in this post.

Italian Referendum Call

But in this case the vote would be about Italy's continuing membership of the euro-zone, rather than the EU constitution. Now before going any further, I feel the need to advise extreme caution in the face of such developments.

In the first place the call comes from the Italian Labor Minister - and member of the separatist Liga Del Norte - Robert Maroni: It was made in an interview published by the Italian newspaper La Repubblica. He was not making a statement on behalf of the government, he was in all probability 'electioneering'. (See Fran's post: those politicians).

On the other hand, Berlusconi is pretty vulnerable at the moment, remember he has just put together a new coalition, and elections are coming next year.

Apart from the political dimension, it is important to remember that Italy is now in an economic crisis which is every bit as profound, if not more profound, that that being experienced by Germany.

Quickly summarised Italy's problems are:

* What appears to be enduring economic stagnation
* An outdated economic structure (poor product mix)
* Lack of competitiveness and a deteriorating balance of payments
* A currency which is too high to recover competitiveness
* A rate of interest which may be too high
* An extraordinarily poor productivity performance
* Massive and accelerating public debt (over 100% of GDP and rising)
* Europe's most rapidly ageing population
* A noted aversion for accepting immigrants

I will try and flesh this out a little more calmly over the weekend. But in broad brush strokes this is it. Now, vis-a-vis the euro, it is unsurprising that Maroni should choose today to make this statement, since Economics Commissioner Joaquim Almunia has set June 7th 'D' day for initiating a formal excess deficits procedure against Italy and Portugal. As I indicated before the French vote there is every reason to imagine that the new version of the pact will be strictly enforced (this was emphasised by Almunia's presence at yesterday's ECB press conference), especially after the French and Dutch votes and the need to convince everyone that 'the euro *is* a huge success.

Secondly, the ECB yesterday gave no indication of having any inclination of coming to Italy's assistance by lowering the refinance rate.

So it may well be that some Italian politicians can see that it's 'game over'.

Add to this the fact that some people in Italy were extremely relucltant about the euro even on from first day, and you have all the ingredients of an ongoing problem.

Remember too that with elections coming next year, someone may try and make this an election issue.

Background: The following Country Study From Ecfin (may 2005): Italy Stuck In A Rut


The Italian economy has shown weak growth ever since the beginning of the 1990s. More recently it has developed two particularly striking, interlinked symptoms: a discouraging performance by exports and the longest stagnation of output in the tradable goods sector in post-war history. In contrast to previous episodes of weak growth, the current difficulties are not caused by supply shocks such as excessive wage increases. On the contrary, the dismal export performance has fallen within a period of wage moderation, and, since the late 1990s, of buoyant employment growth. The persistent loss of export market share would seem to chiefly result from the unfavourable product specialisation of the Italian economy ? more recently coupled with a marked slowdown in productivity growth. Italy?s product specialisation, unlike that of countries such as Germany or France, has not significantly changed over past decades in reaction to global economic developments. Italian industry remains strong in traditional, low-skilled labourintensive sectors for which global demand is growing below average. The inertia is generally attributed to a number of structural factors which are hampering change, including low levels of R&D investment, low human capital, low competition ? issues that fall within the remit of the Lisbon strategy.

Also this weeks NTC Research PMI survey: the sharpest deterioration in 41 months in May,

and the OECD's latest economic outlook for Italy.

That's why when Maroni says "We're already heading towards Argentina, that's why we have to change direction," I'm inclined to believe he is in earnest.

Thursday, June 02, 2005

ECB Holds Rates at 2%

The European Central Bank held its main refinancing rate constant at 2% for the 24th consecutive month this afternoon. No real surprise here. Perhaps the most revealing comment has been: "Whether others like it or not, the ECB isn?t an activist central bank,? a view offered to the Financial Times by one Julian Jessop, economist at Capital Economics.

The FT also points out that: "the 5.5 per cent slide in the euro to $1.226 against the dollar since the ECB?s last meeting may have done some of the Bank?s work for it. The weakening of the euro is stimulative to growth in the same way a rate cut would be, and, if it persists, is likely to be an upward drag on eurozone inflation".

We will see. The euro has had a much calmer day today, clawing back this morning most of the ground lost in hectic trading last night. It is currently going for around $1.2279 in a fairly volatile afternoon.

The - oh they've all gone quiet over there - European Commission seems determined to sit things out till the June Summit, while Barroso appeals for calm:.

"?What I am asking for now is that political leaders, in particular government chiefs, not take individual, or unilateral decisions. I ask political leaders to show responsibility, to show caution"

Jean-Claude - into the valley of death rode the 600 - Juncker, Luxembourg's prime minister and holder of the rotating EU presidency, continued to insist ratification should go forward as planned. Since Luxembourg is to have the next scheduled referendum, it will be interesting to see whether he in fact leads the troops more than the statutory 'half a league'.

Europolitix has it that behind the scenes (and this is really the problem about how we do politics in Europe) a revolt is brewing amongst those who would be asked to follow Junker's noble sacrifice: Poland, Denmark, Ireland, the Czech Republic, and, of course, the UK.

Wednesday, June 01, 2005

He Would Say That Wouldn't He II

In some ways I think this story may run and run over the months to come. Bloomberg have an update on their earlier article. According to the latest account:

1/. The German Finance Ministry have declined to comment on the Stern report that discussions took place last week between Finance Minister Hans Eichel, Bundesbank President Axel Weber and various economists on a possible failure of European Monetary Union.

2/. Stern magazine have been forced to pre-release the article today: it asserts that the above mentioned group discussed a scenario for the single currency's collapse as differences in inflation and growth rates within the union grow. An internal ministry document formed the basis of discussions. (All this, as I keep saying is perfectly plausible, since it describes a reality - the difference in inflation and growth rates, and incidentally balance of payments situations - the scenario is simply that, a scenario, a thought experiment. This reality is only really strongly denied by the Chief Economist at the ECB Otmar Issing).

3/. The Finance Ministry - in the shape of spokesperson Sandra Hildebrandt - has clarified that it "doesn't comment on internal papers or meetings". This implies, since there is no denial, that there was a meeting and that there is a paper.

4/. Stern suggest that Fels said: Inflation and growth differentials ``can lead to a meltdown in a couple of years, the collapse of the euro,'' . This doesn't especially ring true as I have strong doubts that he would commit to a time scale. This sounds like journalese. Not what he said in a meeting. And since Fels is now 'missing' (possibly he is the most wanted man in Europe right now) I doubt they would have got this out of him in a phone interview.

What is Fels saying:

"I think, that Europe is on a slippery slope towards disintegration and instability -- a stunning reversal of the long march towards integration and stability in the last half-century. Of course, nobody can confidently predict the endgame of such developments."

"First, political disunity within Europe raises doubts about the long-run viability of the euro."

"a disunited Europe could also lead to plausible scenarios characterized by fiscal and monetary instability in which some member states would want to leave the single currency. Investors in long-dated eurozone bonds have to factor in the break-up risk and should demand a premium in bond yields. Needless to say, the permanent spectre of a potential break-up should also make it difficult for the euro to rival the dollar?s status as a reserve currency."

The above can be found here.


"Far more worryingly, the European Union (EU) appears to be heading for a serious political crisis, which could, eventually, even put the single currency at risk. The currency markets may have started to smell these risks: the euro failed to rally against the dollar last week despite a larger-than-expected US current account deficit and accumulating signs of a slowing US economy."

This was back in April.

I would happily sign on the dotted line to any of this, but it is nothing like what Stern attribute to him.

5/. The document also asserts that: "The gap risks widening, so that the danger of an adjustment crisis is growing bigger,''. This is plausible, in particular since it is true.

6/. And possibly most interestingly of all: Germany's lower house of parliament has commissioned a legal opinion on a possible reversal of EMU and the right of one of its members to leave the currency. This is asserted by Stern. I have no idea if it has any validity, but it would be surprising if they made this claim without backing. My impression is that someone somewhere, probably someone who has been against the euro from the begining, is leaking.

Lastly Stern claim: " The introduction of the euro has cost Germany its former advantage of lower financing costs, which partially explains why it's lagging behind the other euro members". This is balderdash. The ECB rate is extremely low by historic standards. The rate could and should come down to meet Germany's present needs, but that is not what Stern appear to be saying.

The interesting question now is whether the euro will become an election issue in Germany. Over to Brussels and Frankfurt tomorrow.

He Would Say That Wouldn't he

For those who are not old enough to remember, these are the immortal words of Mandy Rice Davies.
Now throwing a link quickly back across the Atlantic, Dave Altig at Macro blog picked up my ECB post and added a response from Hans Eichel.

But, the plot does thicken a bit.

The Forbes article Dave links-to mentions a confidential research note from the German Finance Ministry which points out that:

"under the EU monetary union, Germany has lost its economic advantages because the country can now no longer lower interest rates compared with other European states".

"The report said states which had high interest rates before the monetary union was launched -- and named Greece, Ireland, Portugal and Spain as examples -- have used the euro currency to its 'enormous financial advantage' while in Germany, the euro has effectively put a brake on economic growth."

This rings true, since this is what many of us have been arguing (I would rewrite 'enormous financial advantage' with 'to get enormously into debt via excessively cheap interest rates, but then I am a pedant). And given that the Franco-German axis can no longer be relied on, and that the ECB is ignoring German pleas for help, it is only reasonable that they should be thinking about what is happening and requesting the appropriate policy oriented research. They would be irresponsible if they didn't.

Finally, I'll conclude with the comment I just posted on Dave's blog:

The interesting thing is that no-one is denying that this meeting took place. Possibly it was a lecture by Fels, where he outlined his already well know difficulties. Fels is refusing to comment.

The significant thing is that this is even coming on the radar. The euro is alive and well, but Eichel and Weber clearly feel the need to be briefed on a plan 'b' should the day ever arrive.

I think we need to take this a day at a time, and just see how long it takes the EU bankers and politicians to put the ship upright again.

On the denials, this reminds me of Christine Keeler (sorry, it was in fact Mandy Rice Davies, oh, what the hell) during the Profumo affair: well he would say that, wouldn't he! :)

ECB: Just Look At This!

I had promised myself a quiet day. I may have to eat my words. Look at this on the euro, and remember my post yesterday.

The currency also weakened after Germany's Stern magazine reported German Finance Minister Hans Eichel and Bundesbank President Axel Weber discussed a possible failure of European monetary union. The euro is off to its worst start of a year since 2001, down 9.3 percent compared with the dollar.

``This is extremely bad timing and has undoubtedly compounded euro selling,'' said Monica Fan, head of global foreign-exchange research at RBC Capital Markets Ltd. in London.

The euro retreated from as high as $1.2341 after the magazine said Eichel and Weber, who represents Germany on the ECB's policy committee, discussed the euro's potential failure with economists. The magazine quoted Joachim Fels, chief fixed- income economist at Morgan Stanley, who took part in the meeting. Fels declined to comment.

``We can neither confirm nor deny'' that a meeting took place, said Bundesbank spokesman Wolf-Ruediger Bengs in a telephone interview. ``We hope to issue a statement shortly.''

This is incredible stuff, and that it is breaking in the press must also be indicative of something. I go back to my post last week. It seems what I suggested is right: the ECB is deeply divided, and this 'quietism' and the policy of twirp is causing alarm in two important economies (Germany and Italy). This is not the end of the euro, but this discussion could mark the begining of the end. It all depends on how rapidly events unfold, and how long 'ostrichism' prevails in Frankfurt and Brussels.

Postscript: I am following the evolution of the Euro/USD over at our other page: A Few Euros More.