The Global Economy: What Is and Isn't Being Done to Keep it Afloat

Carl B. Weinberg, Chief Economist

www.hifreqecon.com/ThirdWay

Presentation For Third Way, Washington DC, February 3, 2012

Capital Markets 101 The Global Economy: What Is And Isn’t Being Done To Keep It Afloat




Capital Markets 101 The Global Economy: What Is And Isn’t Being Done To Keep It Afloat

...Or, How I Learned To Stop Worrying And Love The Euroland Crisis




This Time Ain’t Different!




An Adverse Chain Of Events




Mispricing Of Euro Zone Bonds:• Convergence Trades Misprice Risk• Assumed Common Risk







Bursting Of The Bond Bubble:• Greece Fails, Germany Will Not Help• Catastrophic Destruction Of Wealth







Capital Losses At Banks:• Capital Adequacy Breached Or Insolvencies








Contraction Of Credit









Economic Depression: • Double Digit GDP Decline, Deflation, Record Unemployment










Could Have Been Broken At Any Point




Bad Policy Dooms EuropeTo Disaster











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Spreads Between 10-Year Bunds And French Bonds

Basis Points Based On Weekly Closing Yields, Data Through January 2012

EMU Begins CONVERGENCE

TRADE




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Spreads Between 10-Year Bunds And Greek Bonds

Basis Points Based On Monthly Average Yields, Data Through January 2012

Greece Joins EMU

CONVERGENCETRADE




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Spreads Between 10-Year Bunds, Italian And Spanish Bonds

Basis Points At Friday Closing, Italy Is Yellow Line, Spain Is Red Bar Weekly Data Through January 27




Sovereigns Do Not Have To Default To Hurt The Banking System...




Sovereigns Do Not Have To Default To Hurt The Banking System...

A Big Drop In Bond Prices Can Wound A Bank And A Banking System




How Do You Fix A Busted Bank?

Bank Zed Assets Liabilities Cash Deposits Sovereign Bonds Funding Debt Loans Deposits At Central Bank Shareholder Equity






Capital Adequacy = Shareholder Equity / Risky Assets







Examples: 9/100 = 9% 8/99 = 8% 7/98 = 7.1%





Bank Zed Assets Liabilities Cash +100 Deposits Sovereign Bonds Funding Debt Loans Deposits At Central Bank Shareholder Equity +100





How Do You Fix A Busted Bank? Sell New Shares!

Who Will Buy Shares In An Undercapitalized Or Bankrupt Bank?

Private Investors?Governments?EFSF?ESM?




How Do You Fix A Busted Bank? PLAN B: Call In Loans

Bank Zed Assets Liabilities Cash Deposits -100

Sovereign Bonds Funding Debt -2

Loans -100 Deposits At Central Bank -2 Shareholder Equity

Capital Adequacy = Shareholder Equity / Risky Assets -100




How Do You Fix A Busted Bank? PLAN B: Call In Loans

Bank Zed Assets Liabilities Cash Deposits -100

Sovereign Bonds Funding Debt -2

Loans -100 Deposits At Central Bank -2 Shareholder Equity

Capital Adequacy = Shareholder Equity / Risky Assets -100

Examples: 6/100 = 6% 9/100 = 9% 6/67 = 9%







Contraction Of CreditAn Adverse Chain Of Events




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Consumer Lending

Total Lending Including Mortgages

Euro Zone: Credit Flows To Non-Bank Residents

Billions Of Euros, Seasonally Adjusted




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M3 M3 Target Lending to Non-Banks

Euro Zone: M3 And Credit Growth, Percent Change Year Ago




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Euro Zone: M3 Levels, Billions Of Euros




Bad Policy Dooms EuropeTo Disaster











What Is NEEDED To Resolve Problems?

Save The Banks — Save The World…At Least, Save Euroland






A Partnership Between Monetary Authorities And Governments







…To Create Liquidity And Channel Cash Into Funded Resources To Recapitalize BanksEURO-TARP







…To Create Liquidity And Channel Cash Into Funded Resources To Recapitalize BanksEURO-TARP

And We Need A King To Make It Happen!




Politics May Make It Impossible For Euroland To Avoid A Deep Economic Downturn

…An Economic Episode More Akin To The Great DepressionThan Any Economic Event We Have Seen In Our Lifetimes




Good News Flash:

Europe Is Not The World!




United States

Canada

EMU

Britain Dev Asia

Japan

LATAM

Other

Share Of World GDP 2010: An Engine With Many Cylinders




We Expect The U.S. Economy Will Be Dented, Not Sunk, By Euroland’s Woes:

Banks’ Capitalization Ratios Near 13%

On-Balance-Sheet Connections To Euroland Banks Cut

Domestic Banking Business Dwarfs Offshore Risk

U.S. Exports To Euroland Less Than 1.6% Of GDP




We All Want To Feel Happy And Optimistic!

But... Recession In Euroland Has Already Begun:

Unemployment Rate Is Over 10%… And Rising

Industrial Production Is 9.7% Below Peak And Falling ...Never Having Recovered From 2008-09 Decline

Core CPI Is Rising Only 1%... And Slowing

Money Supply And Credit Are Contracting




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Euro Zone: Industrial Production Index

Seasonally Adjusted, 2005 = 100

Industrial Output Is Still Depressed …And Falling Again!




Politicians Can Fix This...

Politics May Not Allow Them To Do So!

The Global Economy: What Is and Isn't Being Done to Keep it Afloat

Economy & Finance

Transcript of The Global Economy: What Is and Isn't Being Done to Keep it Afloat