Economic growth

A rickety rebound

The global economy is gaining momentum. But only in America is the acceleration likely to last

Aug 17th 2013

THE dog days of August have often spelled trouble for the world economy. In 2011 America’s politicians flirted with default and the euro seemed to be heading for collapse. The summer of 2012 brought another bout of euro angst and depressing evidence that many emerging economies had stalled. But so far this season the good news has outweighed the bad.

After a year and a half of recession, the euro area’s economy has begun to grow again. Its GDP rose at an annualised rate of 1.1% in the second quarter. Britain’s recovery has gathered pace.

Evidence is mounting that America’s GDP grew faster in the second quarter than the initial estimate of 1.7%, and has accelerated since. Healthy retail sales, rising production orders and low jobless claims all suggest that growth could be around 2.5%.

In China the main monthly indicators, from trade to industrial output, improved in July, easing fears that the world’s second-biggest economy was heading for a slump. And though Japan’s second-quarter GDP growth, at 2.6%, did not match the blistering 3.8% pace at the start of the year, it is still an impressive figure for a once-moribund economy.

Could this confluence of good news mark the beginning of a broad rebound? There are reasons for optimismnotably that macroeconomic policy in the rich world has become more growth-friendly.

But there are two main reasons for caution. First, in neither Europe nor Japan do microeconomic conditions point to a recovery that is both rapid and lasting.

Second, although China will avoid a hard landing, it will not be much of a spur to global growth. The result will be a fragile recovery that relies heavily on America.

Start with macroeconomic policy. In Japan Shinzo Abe’s fiscal and monetary stimulus has shocked the deflationary economy into life. In the euro area extreme austerity has been abandoned. The pace of budget cuts has fallen, from around 1.5% of GDP in 2012 to below 1% this year. Even Britain’s chancellor has become more flexible than his rhetoric suggests. America’s fiscal policy—the result of congressional brinkmanship rather than deliberate choice—is still daft, sucking money out of the economy.

But the main damage has passed: budget cuts and tax increases are damping growth less than at the start of the year. Monetary policy has also become more predictable.

Yes, the Federal Reserve sent bond yields surging with the announcement in June of its plans to “taper” its pace of bond-buying. But these plans are contingent on the recovery being strong enough to cope. And outside America more central banks have embraced the Fed’sforward guidance”, laying out conditions that must be met before policy is tightened. Although these pledges are untested and macroeconomic mistakes are possible, they are less likely than before.

Fixing the plumbing
Better macroeconomics is a step forward, but its effect will be muted unless the financial plumbing is working, households are spending and firms are ready to invest. Those conditions hold in America, where repairs from the financial crisis are all but complete. After a painful adjustment, the housing recovery is built on solid foundations.

Consumer debt has plunged. Banks are keen to lend. Add in the supply-side boost from shale gas, and you have the makings of a strong recovery.

Elsewhere the good news looks thinner. Unlike America, the euro area has failed to clean up its banks or write down unpayable debts. Uncertainty over the pace of banking union has helped create a dysfunctional credit market, with firms in the region’s periphery starved of loans.

Europe’s recovery will not accelerate until this is fixed. Britain’s rebound may fizzle out because its companies are investing so little. Japan’s main problem is the gap between Mr Abe’s macroeconomic boldness and the timidity of his efforts at deregulation. Structural reform is meant to be the “third arrow” in the quiver of Abenomics, but he has yet to tackle cosseted sectors from farming to health care, so the economic rebound may not last.

China is more complicated. July’s figures suggest it is not sliding into a slump. But there is little reason to expect faster growth.

That is because China is in the midst of two tricky transitions: from an investment-led economy to a consumption-driven one; and from an economy addicted to rapidly rising credit to one that is more self-sustaining. China has the capacity to adapt without calamity, not least because it has the fiscal resources to absorb bad debts. But neither transition has yet gone far, and both imply slower growth.

Which leaves the United States as the likely engine of global growth. That is not, by itself, a bad thing. The world economy has relied on America’s oomph many times before, but a broad recovery would be stronger and safer. Rather than seeing better news as a chance to sit back, policymakers would be wise to redouble their efforts.

August 14, 2013

Old Economies Rise as Growing Markets Begin to Falter


The balance of world economic growth is tipping in another direction. Just as economists have begun lowering their forecasts for China and many other developing economies, the American economy is bouncing back. Japan appears to have turned a corner and is ending almost two decades of grinding deflation. Economic data out of Europe on Wednesday provided the first solid indication that many countries in the euro zone may be escaping the clutches of recession.

The gross domestic product of the 17-nation euro zone grew at an annualized rate of about 1.2 percent in the second quarter. It is certainly not clear, based on only three months of data, that Europe’s recession has ended. But it is further evidence that the older engines of growth are revving into gear as the most recent sources of growth have been slowing down.

“The general proposition for much of the last generation has been that emerging markets grow faster. That’s what’s changed,” said Neal Soss, the chief economist at Credit Suisse.

“The acceleration such as it is happening is in the first-world economy rather than the emerging markets.”

The growth of the BRIC countriesBrazil, Russia, India and China — has raised living standards in those nations and in others in Southeast Asia, Latin America and Eastern Europe. Those four nations had an even broader global impact by also providing new markets for American products while its citizens made the electronics and other products wanted by consumers in the United States and other developed economies.

So a decline in their growth rate should be worrisome to the United States. But Jim O’Neill, the Goldman Sachs economist who coined the term BRIC more than a decade ago, thinks one of the new beneficiaries of the shift in the global economy is most likely to be the United States. “I find myself thinking the U.S. is going to be one of the biggest winners,” said Mr. O’Neill.

It could gain from the Chinese government’s stated intention to shift from big government investment projects to a more consumer-driven economy. That could create demand for American products, while making commodities cheaper for American companies. Rising wages in China could also encourage manufacturing in the United States.

There were signs in recent trade statistics that this shift may already be under way. Exports from the United States to China grew in June while imports from China declined. The overall United States trade deficit dropped to its lowest level since 2009.

China’s newfound restraint is at the fulcrum of the shift. Its government is trying to temper the economy, the largest among the developing nations. In doing so, it shoulders much of the blame for the slowdown elsewhere in Asia and in Latin America. The price of commodities like iron and copper, which previously buoyed the developing countries producing them, are now sinking as Chinese leaders are reining in the grand developments that needed metals.

Brazil was growing largely because of commodities like iron ore and soybeans, which it was exporting to China. Two years ago, the Brazilian economy grew 7.6 percent. This year, however, economists predict the number will be around 2.3 percent.

“After years of strong growth, many Brazilians grew optimistic, but for many people who improved their lot, there is now a sense that their potential to rise further is limited,” said Samuel Pessoa, a researcher with the Brazilian Institute of Economics at the Fundação Getúlio Vargas, an elite university in Rio de Janeiro. People are worried.”
There is little prospect that the BRIC economies will ever return to the roaring growth that had come to seem normal.

Many superficial observers just assumed that the BRIC countries would keep growing at the rate they did in the first decade, which was very unlikely,” said Mr. O’Neill, who recently retired from Goldman.

Mr. O’Neill said that as China moved to a more consumer-based economy, “the winners and losers of the new China are probably going to be quite different than the winners and losers of the old China.”

Even the most optimistic forecasts do not see the United States or Europe reaching the double-digit levels of growth that China and India have enjoyed over the last decade. Analysts are expecting that growth in the United States will rise from less than 2 percent this year to nearly 3 percent next year. Because the developed economies still account for nearly 60 percent of the global economy, even a slower pace of growth can provide more economic activity than faster growth in the developing world. There are fears that even the lackluster recovery in United States, Japan and Europe could be derailed if China’s problems grow significantly worse. Some economists in China are warning that Communist Party leaders may not be able to smoothly wean the country off years of government-fueled development.

For emerging economies, analysts say that the current cooling of growth is taking some of the countries to a more sustainable pace of expansion after years of acceleration that some considered unhealthy. In China, the 14.2 percent expansion seen before the peak in 2007 is not likely to be reached again, though the expected growth of 7.5 percent next year is still impressive.

“Even though it’s slowed down some, there is still a big opportunity,” said Barry P. Bosworth, a China expert at the Brookings Institution.

Brazil and India have deeper problems. India has not been hurt by falling commodity prices, but the economy has been constrained by corruption and inefficiency. The value of the Indian rupee fell recently to a record low against the dollar.

In Brazil, many economists say the declining value of the country’s iron ore and soybeans has revealed that Brazil’s leaders failed to invest in infrastructure when the money was pouring in.

Silvésio de Oliveira, a soybean farmer in the midwestern state of Mato Grosso and a vice president of his state soy and corn farmers’ association, said years of insufficient investment in highways and ports finally caused a crisis this year.

Mr. Oliveira said an “infrastructure collapsedrove up freight costs and led several big foreign purchasers, tired of waiting for deliveries that never came, to cancel their orders.

Carlos Langoni, a former governor of Brazil’s central bank, said that infrastructure had become a significant constraint on growth. But he also noted that some of the country’s problems are similar to those in other developing economies.

Expectations were too high,” said Mr. Langoni, who is now the director of the Global Economics Center at the Fundação Getúlio Vargas. “The new emerging countries are no different from the old ones: once you reach a certain income level, it becomes harder to grow.”

Dan Horch contributed reporting.

viernes, agosto 16, 2013



Egypt's bloodbath

The battle for Egypt

The generals’ killing spree is a reckless denial of the lessons from the Arab spring

Aug 17th 2013

BARELY a month and a half into a government dominated by a general who had displaced a Muslim Brother in a coup that was cheered on by most of the people, Egypt is once again plunged into violence. On August 14th armed police, backed by helicopters in the skies and bulldozers on the streets, stormed thousands of the Brothers’ supporters encamped beside a mosque and a university in Cairo.

Hundreds were killed and nearly 3,000 injured and the violence spread to other cities, including Alexandria and Suez. A score of churches were burned by angry Islamists. The government declared a curfew in some provinces and a month-long state of emergency across the country. The last time that happened, when Hosni Mubarak took over as president after the assassination of Anwar Sadat in 1981, the state of emergency remained in force for 30 years.

The government has pleaded that it used “the utmost degree of self-restraint” this week. In fact, its choice to unleash deadly force against its own people was brutal and reckless. Far from marking the closing chapter in a popular coup, the killing threatens a period of strife that could drag the country towards civil war. At worst, the spectre of Algeria looms: the army there prevented Islamists from taking office after they won the first round of an election in 1991, and as many as 200,000 died in the decade-long bloodbath that ensued.

Thankfully Egypt still has a long way to go before that fate befalls it. But its 85m people are as deeply divided today as at any time since Egypt became a republic in 1953. The question is whether suppression really is now the way to deal with the Muslim Brothers, or whether it simply adds to the mayhem.

Death on the Nile
One view holds that the Muslim Brothers never intended to share power or to relinquish it in an election. There is no doubt that Muhammad Morsi’s performance as president was a disaster. He won about a quarter of the eligible vote and proceeded to flout every sort of democratic norm. His government packed a constitutional committee with Islamists, rushing through electoral and other laws without due consent. It let sectarian hatred against Muslim minorities and Egypt’s 8m-odd Christians rise unchecked.

Combined with sheer incompetence in its stewardship of the economy, this destroyed the standing of Mr Morsi among ordinary Egyptians. More than 20m peoplehalf the adult population—were said to have signed a petition for a referendum on his presidency.

Since his forced removal on July 3rd and subsequent incarceration, he and his fellow Brothers at large have refused any hint of compromise, and have demanded his reinstatement. How much more exhilarating was opposition than the tricky realities of governing. Victimhood, martyrdom even, has seemed a more potent political weapon than policymaking.

But that does not excuse the generals—for either the coup or this bloodshed. The coup was not only wrong, it was also a tactical mistake. The Brothers would probably have lost any election handily; and if they had refused to hold a vote, then the people would have risen up. The army’s violence since then has been disastrous. When it shot scores of people on July 8th, it drew a baleful lesson from the tepid Western response: that it could get away with it. In fact violence has served to unite Egypt’s various Islamist factionssome of which had previously rejected the Brothers almost as keenly as secular Egyptians did. The Brothers’ incompetence and abuse of power is now disappearing under a mantle of injustice and suffering.

The generals’ worst mistake, however, is to ignore the chief lesson of the Arab spring. This is that ordinary people yearn for dignity. They hate being bossed around by petty officials and ruled by corrupt autocrats. They reject the apparatus of a police state. Instead they want better lives, decent jobs and some basic freedoms. Egypt’s Islamists, in their reduced state, probably still make up 30% or so of the population. The generals cannot suppress them without also depriving millions of other Egyptians of the freedoms that they crave—and which they have tasted, however briefly, since the overthrow of Mr Mubarak.

Henceforth jihadists, in Egypt and beyond, who sympathise with al-Qaeda will find a more willing audience when they preach, as well as a supply of newly radicalised recruits. Likewise, each Islamist challenge will strengthen those in the army arguing for further suppression.

Go back to your barracks
If the generals want a stable Egypt, in which they command the loyalty of ordinary Egyptians, they should therefore draw back from the brink. Given their treatment at the hands of the army, it is hard to imagine the Brothers agreeing now to take part in a new political circus. But General Abdel Fattah al-Sisi, the power behind the throne, and his interim president, Adly Mansour, can create the conditions for a functioning economy and an inclusive politics. To do so they must set a timetable for parliamentary and presidential elections. The committee they have entrusted with amending the constitution should be widened to include more Islamists. And other Islamist parties, if the Brothers refuse to participate, should be wooed into playing their part in politicseventually, if not now.

The world must also act. This newspaper warned Western leaders that their lack of response to the July shootings would cause trouble; it has. It should not repeat the same mistake today.

America should cancel joint military exercises due in September and withhold its next tranche of military aid (already disbursed for the current year) until a civilian government has been elected and takes office. Saudi Arabia and other Gulf countries should not write the generals a blank cheque just because they share a dislike of the Brothers.

No one could ever have thought that reinventing Egypt was going to be easy. It has never had a proper democracy. Much of its populace is illiterate. Most of its people live in poverty. And the question of how to accommodate Islam has everywhere proved vexed. But the generals should stop and think: in modern history such immense obstacles have never been overcome by violence.

August 14, 2013 7:18 pm
Finance: Balance sheet battle
Regulators are reviving an old measure to gauge banks’ ability to withstand a crash but bankers are crying foul
Jpmorgan and Deutsche bank
When Anshu Jain finally buckled in April and agreed to raise €3bn of new Deutsche Bank shares, he was rewarded with a surge in the stock price.
The market took heart that the bank was now one of the best capitalised of its peer group, instead of one of the worst. Burnished with new equity, Deutsche even leapfrogged JPMorgan Chase, which has long boasted of a “fortress balance sheet”.
But the victory of Mr Jain, co-chief executive of Germany’s largest lender, was shortlived. Within weeks it became clear that Deutsche’s capital raising had been overtaken by a new regulatory agenda.

Officials were supposed to be putting the finishing touches on a new system, named Basel III after the Swiss city where it was agreed in 2010, that subjects global banks to higher capital requirements, making them better able to absorb losses in future financial crises.

On this measure, a small club, including Deutsche, BNP Paribas, Citigroup and UBS, makes up the world’s strongest banks today, with a ratio of equity to risk-weighted assets of more than 10 per cent. They are well ahead of the target: regulators have demanded that the world’s biggest banks have 9.5 per cent ratios by 2019.
But this summer officials around the world have upped the ante again. Suspicious that banks are finding dubious ways to comply with Basel III, they are leaning more heavily on an older, less sophisticated measure of debt levels: the leverage ratio.

Capital and leverage ratios

To enlarge graph click here: North America v Europe
What it does is it points out that when you compare apples with apples, the institutions on both sides of the Atlantic are highly leveraged institutions and I don’t think we do ourselves a favour by pretending they’re not,” says Tom Hoenig, an advocate of the leverage ratio from his perch as vice-chairman of the US Federal Deposit Insurance Corp, which supervises US banks and guarantees their deposits against default.

It differs from the main Basel III ratio, which allows banks to use models to decide whether a certain loan or security is risky and needs more equity to deal with a potential default – or safe like a US Treasury, which needs no equity at all.

Work by the Basel Committee on Banking Supervision, which gathers the major regulators from around the world, has shown a huge inconsistency in the ways these “risk weights” are applied, with some banks using only one-eighth as much capital as their competitors for the same trading assets. Their findings have led some to conclude that either the models are not working or banks are cheating.

The banks have an incentive to get their ratio higher by massaging down their assets: though more equity capital makes a bank safer, it also makes for a lower return on equity. This is a benchmark that investors use to compare stocks and it is also used in the calculation of bankers’ bonuses.

The leverage ratio is supposed to make massaging impossible as it measures equity against total assets with no risk weights. It is a blunter, simpler backstop: a dollar is a dollar whether it is a risky loan or safe government bond. The disadvantage, say bank executives and some officials, is that, without risk weights, it can tempt banks to move towards riskier loans that earn higher returns but are more likely to result in losses.
Taking into account capital cost and returns the leverage ratio incentivises high-risk business,” says Sabine Lautenschläger, deputy president of the Bundesbank, Germany’s central bank. “The leverage ratio doesn’t give you an idea of the risks in the bank. In Germany there are banks with high leverage but a large part of their business is financing the German government and German communities. You wouldn’t say these banks are high-risk.”

Despite some regulators’ reservations, the Basel committee has pressed ahead with a supplementary leverage ratio that should for the first time subject global banks to a standard set of simple rules.

In the past two months, the topic of leverage, once barely mentioned in conversations between banks, regulators and investors, has leapt to the top of the agenda for all three constituencies. And suddenly banks that have looked healthy because they have large amounts of assets that they manage to classify as risk-free, such as Deutsche and Morgan Stanley, have been found wanting.
Or they would be if they disclosed the same number. Because what regulators such as Mr Hoenig see as the gold standard of capital has been tarnished by the same problems that have dogged comparisons of banks’ strength for decades: a lack of transparency, competing national rules, and arguments over whether banks might be complying by cutting off lending or finding room between the spirit and letter of the law.

Analysts in the US and Europe peppered the banks with questions about leverage after the most recent round of earnings reports. They were trying to work out whether the banks were well-positioned for the new targets or whether they were undercapitalised.

They did not receive uniformly transparent answers. Deutsche’s chief financial officer Stefan Krause, for example, would offer only a measure of leverage on a European standard that looks to be overtaken by the tougher global requirement. Even under its chosen measure, it was barely compliant.

Harvey Schwartz, Goldman Sachs CFO, shrugged off seven attempts to get to the bank’s leverage, saying only that it was “pretty comfortable”. Of the major banks, Citi made the best stab at answering the question, providing estimates for its leverage ratios on both US and international standards.

Why competing standards at all? Confusingly, for the supposedly simplest, bluntest metric, there are multiple ways of calculating leverage. Andrew Fei, associate at Davis Polk, the law firm, says: “The way I see it, there are at least six different leverage ratios in the US, EU, UK and Basel committee, depending on how one counts them.”

Although the goal is to measure equity against assets, different countries and banks have different preferences on what should be included in the calculation. The biggest difference has been the US allowing its banks to report a “netnumber for derivatives exposure, so that if it sold $10m of insurance through credit derivatives from a company and took $1m of cash collateral it would report a $9m exposure. Under international rules it would have a $10m exposure.

Ironing out the global discrepancies is hard, but changes the calculation on leverage quite dramatically. US banks, with the support of some officials, have long pointed out that their leverage ratios are better than those of the Europeans. Mr Hoenig accused Deutsche of havinghorriblecapital levels in an interview with Reuters.

Using the existing US accounting rules Deutsche’s assets shrink from $2.3tn to about $1.6tn, compared with about $2.4tn at JPMorgan. While Deutsche provides numbers under US rules, JPMorgan does not provide an international measure of its assets. Mr Hoenig’s estimates, disputed by some bankers and officials, gives JPMorgan a $4tn balance sheet.

Deutsche also argues that it loses less money than US rivals. Mr Krause’s presentation last month contained a slide that listed the loan loss ratios of unnamed banks on one side of a chartwhose weaker members happened to correlate closely with US banks such as JPMorgan and Bank of Americacontrasted with Deutsche huddled in the safe corner with a couple of other European banks.
JPMorgan and BofA declined to comment, though US executives argue that focusing on the riskiness of loans ignores the riskiness of trading assets that constitute a greater share of some European banks’ balance sheets.
But Deutsche and other European banks unused to having to comply with a leverage ratio are going to have to meet the new rules. This might make their US rivals happy were it not for the fact that US regulators, including the Federal Reserve, are proposing to go even further.

Shortly after the Basel committee announced its leverage ratio, with a 3 per cent minimum of equity to assets, US regulators announced a higher one with a 5 per cent minimum for bank holding companies and 6 per cent for subsidiaries.

. . .

Jamie Dimon, chief executive of JPMorgan, cried foul. “It doesn’t have to be exactly the same to have a competitive marketplace,” he said in July. “We always ran with higher capital and liquidity than most of our competitors. I just think if one is 3 per cent and one is 6 per cent, that [gap] becomes just too big and over time it can have huge competitive effects. This is clearly no longer harmonisation. We have one part of the world that’s talking about two times what another part of the world is talking about.”
At the moment, Mr Dimon may be overstating his case because the Fed’s rule uses a more lenient calculation of assets; though higher, the US standard is not twice as high. But the Fed has said explicitly that it might adopt the new international standard and there is no reason to doubt it will.

Worryingly for the US banks, the Fed no longer seems too concerned with industry’s demands for a level playing field across the globe. Daniel Tarullo, the Fed governor in charge of regulation, says “these international standards are floors, not ceilings. National regulatory authorities should require higher capital levelseither across an industry or for specific institutionswhere necessary to ensure financial stability.”

The Fed has moved a long way from 1992 when Alan Greenspan, then chairman, told Congress that the leverage ratio would be made redundant by risk-based capital standards: “I believe we will be able to fairly quickly dispense with it,” he said. In 2005 a different Fed governor said it “has got to disappear”.

But if risk-based capital has lost some popularity because of its ability to begamed” by banks, the leverage ratio is not completely immune from creative solutions.

While Barclays and Deutsche have raised equity, banks are also examining less transparent paths to meet new rules. Analysts at Goldman Sachs noted in research for clients that “banks have a lot of options to mitigate the impact” – including shifting assets between subsidiaries, shortening the duration of derivatives and reducing credit commitments.
Some of those steps would have the effect of reducing banks’ overall credit exposures but others would not. Deutsche is even looking to reduce its cash holdings – a bastion of liquidity that could be vital in a crisisbecause such a reduction would cut the assets and raise the leverage ratio even if it did nothing to curb risk.

. . .
But whatever the regulators’ solution, investors will do their own sorting of the banks. If officials are rediscovering the joys of simplicity they are only following the market. Stock performance correlates much better with leverage than with risk-based regulatory ratios. That elite club of banks with a ratio of more than 10 per cent under Basel III are not all darlings of the market. Some trade at a discount to banks with lower headline capital levels such as Royal Bank of Canada and Wells Fargo, both of which happen to have better leverage ratios.
Banks that have stretched to meet new leverage requirements may have to keep doing so, says Philipp Hildebrand, who fought for tougher standards as head of the Swiss National Bank and is now vice-chairman at asset manager BlackRock.

“I still think it’s too low,” he says. “At the end of the road you have 3 per cent capital against total assets: that’s a tiny sliver of loss protection. If I had to guess I would say that we would end up in a world whether by regulatory constraints or what the market demandsthat would be closer to a 5-7 per cent leverage ratio.”

The micro battles over definitions are part of a broader war the banks are losing, he says. “I think people are beginning to recognise that the argument that strong capital levels undermine growth is factually and empirically and analytically wrong.”

Additional reporting by Daniel Schäfer

Copyright The Financial Times Limited 2013.