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Sunday, June 3

3rd Jun - Best of The Week

The best of the past week, from my previous posts.Weekender specials coming up later today.

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Europe Fighting the Wrong Battles Again with Dangerous ConsequencesTF Market Advisors
Everywhere you turn, you will see exposure that was never accounted for and is getting worse. Some Bundesbank official will blabber on about not printing money and the market will become dizzy with fear. The ECB’s bond portfolio turns into losses for the EU. The EFSF turns into losses for the EU. Spain and Italy will need money from the EU for their own problems. The EU is just Germany and France. They don’t have the money. Pandemonium ensues. Maybe it won’t be that bad.

What is the long-term euro vision?Hugo Dixon / Reuters
The crisis has demonstrated that the current system doesn’t work. But a headlong dive into a United States of Europe would be bad politics and bad economics. An alternative, more attractive vision is to maintain the maximum degree of national sovereignty consistent with a single currency. This is possible provided there are liquidity backstops for solvent governments and banks; debt restructuring for insolvent ones; and flexibility for all.

The future of the European Union: The choiceThe Economist
A limited version of federalism is a less miserable solution than the break-up of the euro

An ever-deeper democratic deficitThe Economist
The level of further integration necessary to deal with the euro crisis will be hard to square with the increasing cantankerousness of Europe’s voters

Capital Controls Coming to Greece and SwitzerlandBruce Krasting
There is a very strong possibility that exchange controls are established in both the strongest and the weakest countries in Europe in less than a fortnight. If those two extremes establish capital barriers, the other countries of Europe will be forced to take similar actions in a matter of months. Who will blink first?

‘Bye Bye Basel?’, seen in the RWAsalphaville / FT
Barclays notes investors simply do not trust banks, and Basel should take note.

The End Of The Euro: A Survivor’s GuideBaseline Scenario
Peter Boone & Simon Johnson: Forget about a rescue in the form of the G20, the G8, the G7, a new European Union Treasury, the issue of Eurobonds, a large scale debt mutualisation scheme, or any other bedtime story.  We are each on our own.

The future of the European Union Charlemagne / The Economist
Soviet collapse or Germanic reform?

Ireland LOVES a good referendumalphaville / FT 
Excellent article on what the referendum results – and especially a ‘no’ would mean.

On Europe: "A Willing Lender Of Last Resort May Not Be Enough"ZH
J.P. Morgan’s funny comic and short text.

Europe’s debtors must pawn their gold for Eurobond Redemption The Telegraph
Southern Europe’s debtor states must pledge their gold reserves and national treasure as collateral under a €2.3 trillion stabilisation plan gaining momentum in Germany.
Additional comments by ZH

Euro Bonds With Strings Are Europe’s Best Way Forward View / BB
Forget full fiscal union. This crisis has already stretched European solidarity, such as it was, to the breaking point… In the medium term, Europe needs to drop its blithe commitment to “ever closer union” and adopt a more discriminating approach. It needs as much union as required to make the single currency viable, and no more.

The hard challenges for Europe, an overly soft continentOpinion / Reuters
“Europeans” need enough solidarity to forgive the mistake that was the careless creation of the euro, avert our minds from the undemocratic capture of centralized power that a concerted response to the crisis requires, and keep taking a medicine that politicians we hardly know would administer. That is a very, very tall order, but it is the order of the day.

Credit Suisse: The 5 problems needing resolution in EuropePragCap
In essence, they say the crisis is likely to deepen before forcing the hands of politicians in achieving what needs to be done.  They offer 4 current scenarios for Europe with an 80% probability of the Euro staying together in its current form

Concrete Example of Potential Compromise in EMUMarc to Market
I have characterized my understanding of the euro zone investment climate as three no's:  No ECB backstop for sovereigns.  No joint bond.  No euro zone break-up.  That implies a prolonged period of slow growth.  It risks chronic political instability.

Push Comes to ShoveTim Duy’s Fed Watch
Europe doesn't have a 5 to 10 year horizon.  I am thinking they have something closer to a 5 to 10 week horizon to get their act together.  Something big is going to happen in Europe this summer, and I think the odds of a tail-end outcome are increasing, at both ends of the tail.  Either Europe pulls together sooner than the German timeline, or finally blows apart.

Is Germany's CDS Pricing A 6% EUR Devaluation?ZH
Given the US and (almost explicitly given its dominance) Germany are more currency issuer than user, default risk is not the main driver of the CDS spread but currency devaluation (some might call it inflation) is much more of a factor.

Ten-year Bund yields below 1%? Wouldn’t faze Nomura alphaville / FT
Nomura: Were the market to price-in an imminent break-up of the EUR, in our view Bund yields could go negative out to 5yrs, while for the 10yr sector we would expect yields to move far below 1%. Given the value of the embedded FX option in the Bund, we think it is not impossible that yields will approach the cycle low in 10yr JGB yields in 2003 of 44bp…

The riddle of German self-interest By Martin WolfSteve Collins / Twitlonger
How, I wonder, do Germany’s policy makers imagine they will halt the eurozone’s doom loop? I have two hypotheses. The first is that they believe they will not. They expect that life for some of the vulnerable economies will become so miserable that they will leave voluntarily… second hypothesis is that the Germans really think these policies could work.

The Monster Has AwakenedMark Grant / ZH
The game has changed. It will no longer be push and shove and muddle through but convictions and ideology that are in stark opposition so that surprises and inflamed statements will become the order of the day and not the exception. If it is to be either Germany for the Germans or Germany for the citizens of Athens, make no mistake in your thinking

German taxpayers face re-denomination loss from TARGET2Sober Look
…what would actually happen with these claims should a periphery nation exit. The exit would simply result in a re-denomination of some claims. There is no other way to do this. As loans to Greek banks become drachma denominated, so will the claim on the Bank of Greece (BoG), with the central bank separating from the Eurosystem. The Eurosystem was never designed for an exit of a central bank, so this process would need to be cobbled together on the fly - sort of the way the Greek restructuring was done. The "exercise" may potentially set up a process for other nations exiting the EMU.

Frozen Europe Means ECB Must Resort to ELABB
The first rule of ELA is you don’t talk about ELA.

On the ECB’s attempts to ring-fence its balance sheetalphaville / FT
Standard Chartered: ECB President Draghi recently hinted that managing risks was his utmost priority, further differentiating the ECB from other major central banks (Japan, US, UK), which have shown less reluctance about conducting broad-based quantitative easing (QE).

Press release ECB publishes TARGET Annual Report 2011ECB
“the system functioned smoothly and registered a higher turnover" full pdf

Europe’s depressing prospectsMichael Pettis / Credit Writedowns
only three ways Spain can regain competitiveness sufficiently to raise savings and reverse the current account: The core countries increase spending, Spanish austerity or Spain leaves euro.

Bankia going GUBU … but what about the rest?alphaville / FT
Is Bankia, Spain’s fourth largest bank, so unique? Nomura: only BBVA, Santander and Sabadell (based on the buffer provided by the asset protection scheme) would avoid needing to strengthen capital.

Spanish Bonds – Austerity, Spending, and RealityTF Market Advisors
The first step is to do an honest assessment of the real debt burden of Spain… Once the actual debt and real obligations of Spain are known, they need to restructure the debt. If austerity doesn’t work, and spending has limited value, debt restructuring is the only way to get the debt under control and allow the policies of spending and austerity to work over time.

What views can you hold about Spain?Marginal Revolution
Is Spain in a normal recession or in a downward spiral? If in spiral, is the problem a) political economy b) fundamental credit contraction and aggregate demand or c) both plus multiple equilibria?: The real euro pessimists are the multiple equilibria people. Germany and Austria also have multiple equilibria, but those equilibria are not so far apart.  For Greece the multiple equilibria are extreme — “Balkans nation,” or “European nation”? 

The market to Spain: recapitalize the banks or face funding problemsSober Look
The 5-year CDS is now implying 44% probability of default in the next 5 years, assuming a 50 cent on the euro recovery (the probability drops for the same spread if the expected recovery is lower).

ECB Calls Spain's Bluff... Or Does It?ZH
FT: A Spanish plan to recapitalise Bankia, the troubled lender, by indirectly tapping the ECB for cash, was bluntly rejected as unacceptable by the ECB, European officials said.

ECB's Refusal To Play Ball Means Spain Has To Foot A €350 Billion Bailout Bill AloneZH
J.P. Morgan: the sort of burden sharing that the Spanish government wants is not on offer. It could be argued that the government is delaying asking for EFSF/ESM help in the hope that the rest of the region will change its stance. Certainly a Greek exit would likely catalyse the kinds of changes that the Spanish government wants. But, it is not clear that
Greece will exit anytime soon. Spain probably doesn’t have the luxury of waiting.

Spain’s long climb to the liquidity hospital [updated]alphaville / FT
J.P. Morgan: bailout package (EFSF recaps banks) to be negotiated, possibly
SMP used to suppress yields during that time.

Spain, Bankia and the credibility problemalphaville / FT
If the potential costs to Spain of a euro exit are piling up, wouldn’t that make it less likely to exit — and therefore increase its credibility in the eyes of investors? Not really, says Pettis.

Strategic Briefing: Will Spain Leave The Euro?The Capital Spectator
Summaries and links to recent articles.

Is it too late to save Spanish banks?Saxo Bank
The Spanish banking system will be the “make or break” event to decide the existence of the euro… a joint effort from Europe and IMF will be needed to solve the estimated Euro 150-300bn shortfall in the Spanish banking sector…there is one important reason why a broad rescue would make sense in the long-run. The fact that Spain’s property market is highly regarded among Northern Europeans could mean that demand will increase dramatically if prices depreciate too far.

Four Euro Divorces But No Funeral (Yet)ZH
JPMorgan’s excellent charts together with asset class views for 4 scenarios

The costs of a Greek exit: Cutting up roughThe Economist
All in all, the Greek government owes the governments and institutions of the euro area over €290 billion, about 3% of euro-wide GDP, say economists at Barclays Capital. After an exit most of this would probably never be repaid…. But could a Greek exit really be contained at its borders?

Global - Waiting for the policy response Danske Bank (pdf)

What's needed to trigger the Fed?Danske Bank (pdf)

Martin Wolf: Lunch with the FT: Paul KrugmanFT

The nationalisation of markets: The rise of the financial-political complexThe Economist
Each step taken by the authorities over the past five years has been designed to prop up the economy and save the financial system. But the cumulative effect has been the creeping nationalisation of markets.

Regulatory Capital: Size And How You Use It Both MatterTF Market Advisors
After JPM’s surprise loss this month, the debate over the proper regulatory framework and capital requirements will reach a fever pitch.  That is great, but maybe it is also time to step back and think about what capital is supposed to do, and with that as a guideline, think of rules that make sense.

Is Insider Trading Part of the Fabric?NYT
Ted Parmigiani, an analyst at the former Lehman Brothers, spent two and a half years giving the S.E.C. information about what he contended was insider trading at the firm. But the S.E.C. ultimately decided against filing a case.

Wall Street Food ChainBill Gross / PIMCO
Soaring debt/GDP ratios in previously sacrosanct AAA countries have made low cost funding increasingly a function of central banks as opposed to private market investors. Both the lower quality and lower yields of such previously sacrosanct debt represent a potential breaking point in our now 40-year-old global monetary system.

The Global Industrial Sector: Have Profit Margins Peaked?PIMCO
Factors driving profit margin expansion in the industrial sector include globalization, EM capital expenditures, a focus on profitability and global labour arbitrage. Potential headwinds include a slowdown in global growth drivers, rising labour rates and global deleveraging.

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