Week in Review Part I: Europe, Washington and Wall Street

First a little about me before we get to the mess in Europe. I finished my column last time saying I was headed to Charleston, S.C., weather permitting, and it just so happened my brother and I got one of the last flights out of Newark Liberty before the freak snowstorm closed the airport. About an hour after we left they started diverting flights already in the air that were headed to Newark, including the JetBlue disaster you heard about where the passengers were forced to sit on the tarmac at Hartford’s Bradley International for 7 ½ hours as the storm hit there as well.

But we landed on time in Charleston, a beautiful spot I hadn’t spent any real time in outside of a few business trips, and my brother and I had a fun four days indulging in great food and drink and a lot of American history. Go to Fort Sumter if you haven’t before, especially if you’re a Civil War buff, and do a tour of some of the old homes in Charleston, where you’ll understand more fully why they kept having yellow fever outbreaks there; putting the privies next to the well water didn’t help matters. Plus the Charleston and Confederate museums were terrific, as was the Citadel and the aquarium (outstanding), and the best fried shrimp in the world can be found at Alouette’s.

All the time we were in Charleston, though, we knew about the incredible destruction the snowstorm wreaked on my hometown and the surrounding area but I was still startled to see the damage upon returning on Wednesday. Never in the area’s recorded history has there ever been a storm so destructive. [One 29-year-old father from my town was killed when he went out for diapers and a tree crashed onto his car.] The foot of heavy wet snow on leaf-laden trees was a bad combination and this was far worse than Hurricane Irene just two months earlier.

Schools were closed the entire week, so imagine how ticked kids, and perhaps a few parents, are that their snow days were used before the second week in November.

The situation in my building, which is why I’m boring you with this, is that when I returned on Wednesday, the elevator was out, there was no heat, phone, TV, or Internet in my home, the food was of course spoiled (‘No, not the Stouffer’s fish filet meals I bought on sale!’) but I have electricity in one room and water. How can that be? I learned my building, a combination of condo apartments and retail, is on two transformers. One is working, the other is out. The one working gives me electricity to power up a laptop and I have a wireless card so it’s like when I’m traveling, only that these last few days were crucial for me not to have television and get the best coverage of the Greek/Euro debacle.

Thus I’m doing the best I can under sub-par conditions. Thankfully the no heat issue isn’t a big problem. But we were supposed to have everything fixed by now, thank you JCP&L (the world’s worst utility), and I’d like to watch LSU-Alabama, Saturday night, from the comfort of my own home.
OK, enough bitching. At least I don’t live in Greece.

And so it was just last week that I wrote not to get too excited about the deal the euro-17 and EU hammered out to recapitalize the banks, reduce Greece’s debt, and create a firewall around Italy and Spain, because the devil was in the details, of which there were none. But I think all of us at least thought we’d be able to catch our breath for a week or two and this proved not to be the case.

As the G20 leaders prepared to fly to Cannes, France for their annual summit (a showcase for Nicolas Sarkozy and his reelection efforts, he hoped), which was to basically rubber stamp the eurozone’s Greek Bailout II efforts, including the bank recapitalization plan and increased firepower for the European Financial Stability Facility that was the key to stopping the crisis at the doorstep of the PIIGS, a funny thing happened on the way to the land of make believe.

Greek Prime Minister Papandreou said, ‘You know what, guys. I’m really glad you settled on a plan to bail us out, but I’m thinking we should first have a referendum in December where the Greek people could vote on the bailout. After all, it’s going to contain another wrenching round of austerity measures, and they need to understand what this really entails and…’

To which German Chancellor Angela Merkel and French President Nicolas Sarkozy stopped Papandreou’s discourse cold and said, ‘Are you freakin’ nuts?! What the [heck] are you doing?!’

Papandreou dropped his bombshell after the European Central Bank, International Monetary Fund and European Commission (the troika) had all agreed to fund the next 8bn euro installment of Greek Bailout I; cash the Greeks need desperately, soon, to meet payroll and pension costs. Without the 8bn ($11 billion), they’d immediately default and the euro meltdown would be on.

But while the Greek people have been revolting over the austerity measures, and further pain would have inspired even more violence, the fact is polls show 70 to 75 percent of the people still want to remain in the eurozone so Papandreou was banking on the people approving the referendum, which would have been a simple ‘yes’ or ‘no’ on the just agreed upon Greek Bailout II (130 billion euro in aid on top of the 110bn of Greek Bailout I), which assuming approval would have given Papandreou his vote of confidence to proceed until the next election in 2013.

Merkel and Sarkozy listened to this logic and after a meeting with the prime minister, Merkel said, “The referendum will revolve around nothing less than the question does Greece want to stay in the euro, yes or no?” Sarkozy said Papandreou’s government won’t get a single cent of assistance if voters reject the plan and, further, both Merkel and Sarkozy agreed that Greece obviously wasn’t getting the 8bn installment in mid-November until the political situation was cleared up.

Needless to say, this whole episode roiled global stock markets, with the S&P 500 dropping 5.2 percent on Monday and Tuesday alone.

But then Papandreou, who is clearly cracking under the pressure, said he’d hold a no-confidence vote on Friday, looking to set up a transitional government that would secure the aid. He said the opposition agreed to this scenario. A referendum would not be called, after all.

Meanwhile, new European Central Bank President Mario Draghi surprised the markets on Wednesday when he cut the ECB’s prime lending rate from 1.50 to 1.25 percent. Stocks rallied smartly on the news, even though Draghi said the reason for doing so was that Europe was heading into a “mild recession.” Draghi strongly hinted the rate move wasn’t his last as he added he was sanguine on the inflation outlook given the non-existent growth. He also said, disconcertingly, that the ECB’s bond purchase program was only temporary, and given the widening spreads between German, French, Spanish and Italian bonds, for example, there is little reason for private investors to feel confident buying anything but German paper. [The Greek two-year bond, by the way, traded at a yield of over 100% at one point this week.]
More on Mario Draghi’s mild recession:

The eurozone unemployment rate hit 10.2% in October, the highest since June 2010, and highest since the introduction of the currency in 1999. Unemployment in Spain climbed to 22.6%; in Greece it’s 17.6%.

The U.K. reported GDP advanced 0.5% in the third quarter (after a gain of just 0.1% in Q2) but manufacturing in October shrank at its fastest rate in two years, with a PMI of just 47.4.

The Organization of Economic Cooperation and Development (OECD) lowered its euro area GDP forecast for 2012 to 0.3%.

George Soros on Greece: “There’s a real danger of a disorderly default.” Without support for Greek lenders, “you’re liable to have a run on the banks in other countries as well. That’s the danger of a meltdown.”
Lawrence Summers / Financial Times

“Leaders of the Group of 20 big industrial and developing countries first convened almost three years ago to address the financial crisis. As now, there were deep doubts about the financial fundamentals of a major economy. As now, authorities were struggling to bring Main Street the financial stability it needed, without going too far beyond what it wanted. As now, the immediate task was to contain financial panic and the deeper challenge was to lay a foundation for renewed and inclusive prosperity.

“The depression that looked possible then has been avoided but the outlook is hardly satisfactory. What can be learnt from the past three years as the G20 gathers in Cannes? The world’s leaders, especially the Europeans, will ignore the following at their peril.

“First, program announcements that are vague and try to purchase stability on the cheap are more likely to exacerbate problems than to resolve them….

“Second, dubious assertions by policymakers end up undermining confidence. Like the 13th chime of a clock, policymakers who deny the obvious or claim to know the unknowable call into question all that they say….

“Third, containing systemic financial risk is not enough to restore growth. U.S. credit markets had largely returned to normal by the end of 2009, but because of weak demand, growth has not been sufficient to reduce unemployment. Even if Europe restores its finances, it is hard to see what will drive growth in countries pursuing austerity programs that will cut incomes and demand….

“Fourth, the greatest risk of sovereign credit crises comes not from profligacy but slow growth and deflation. Four years ago Spain and Ireland were seen as models of fiscal rectitude. Their problems come from a collapsing economy and financial system. For very indebted countries, a prolonged period when the rate of interest on debt far exceeds the nominal growth rate makes reducing debt to GDP ratios all but impossible….

“Fifth, the doctrine of expansionary fiscal contraction is an oxymoron in the current context. It is often said that determined efforts to cut deficits will boost growth. This is sometimes true… (But) as Britain is now demonstrating, fiscal contraction leads to economic contraction. This situation is made worse if, as in Europe at present, the central bank does not act to offset the adverse impact of austerity on demand….

“(Alas) only if policymakers feel the alarm appropriate to dangers as great as any the world economy has faced over the past 30 years will they take the necessary action.”

On Thursday, the Financial Times had an editorial with the title:
“The world needs a Cannes-do summit”

A separate article in the paper then had the poll numbers of four key figures at the summit.
[‘Approval of governance’ or ‘would vote for today’]

George Papandreou…23%
Silvio Berlusconi…22%
Nicolas Sarkozy…35%
Angela Merkel…31%

The G20 proved to be an unmitigated disaster as the major players were obsessed with the euro crisis and the developing world was ignored. Once again, not exactly dealing from a position of strength, i.e., fiscal rectitude, President Obama attempted to lead from behind. Host Sarkozy scolded Obama for not being on board with the former’s financial transaction tax plan.

And so we advanced to Friday night, early Saturday morning in Greece, and Papandreou survived his no-confidence vote, 153-145, but in attempting to form a new government that would then act quickly on Greek Bailout II and secure the 8bn euro in aid, the prime minister is likely a victim. As my principal in such matters is always ‘wait 24 hours,’ I’ll be damned if I could comment further anyway. No one knows what the heck is next for Greece.

One final important note.   Some are already saying Greece is but a sideshow, which couldn’t be further from the truth. A ‘hard’ default in Greece would be catastrophic for the eurozone. It needs to be planned and thought out, and should have been the summer of 2010.

But, yes, the story today is also about Italy and it’s tottering Prime Minister Berlusconi, who is barely holding onto power while trying to convince the eurozone members he is serious about enacting real fiscal reforms when it comes to his nation’s massive entitlement obligations and $1.9 trillion in sovereign debt, $400 billion of which needs to be rolled over in 2012. [With current interest rates on the key 10-year at over 6.30%, or 450 basis points over German bunds, see Larry Summers above on what happens when the bond rate is far above the nominal growth rate; it doesn’t work.]

By the end of Friday, Berlusconi refused any aid from the IMF, saying it would be surrendering Italy’s sovereignty (one of my main points last week), but he did agree to an IMF monitor to watch over the implementation of his government’s austerity program. To be continued…

Washington and Wall Street

Meanwhile, across the pond, Federal Reserve Chairman Ben Bernanke gave one of his pressers following the Fed’s Open Market Committee meeting wherein they kept monetary policy as is; having previously announced the key funds rate would remain at zero until at least mid-2013. So any suspense is in Bernanke updating us on the Fed’s view of the economy.

The chairman said economic improvement was “frustratingly slow” and the Fed now doesn’t see the unemployment rate dropping to 8% for two years.

In a statement, the FOMC added “significant downside risks” remain, including “concerns about European fiscal and banking issues.” The Fed expects the inflation outlook to remain “subdued.”

The Fed also lowered its GDP outlook for 2012 to 2.5% to 2.9% from a June estimate of 3.3% to 3.7%. The jobless rate is expected to be 8.5% to 8.7%, which won’t help President Obama much in his reelection effort.

To stimulate the economy, Bernanke said buying mortgage bonds was still a “viable option,” ergo, QE3 remains on the table.

As if to illustrate what a frustratingly slow economic recovery looks like, Friday saw the release of the October jobs report. The unemployment rate ticked down to 9.0% from 9.1%, as the economy added 80,000 new jobs, below expectations, but the figures for August and September were revised up by 102,000, a decent thing, even as the underemployed figure is still 16.2%, including those who stopped looking. Republicans will make hay with the fact the unemployment rate has been 9.0% or higher for 28 straight months.

On the manufacturing front, the October readings for the Chicago PMI and ISM were 58.4 and 50.8, respectively, both below expectations. But September factory orders rose when a slight decline was forecast.

Chain store sales figures for October were up 3.4% over year ago levels, also less than expected. The figure was 5.1% in September. More on this below.

The OECD forecast U.S. GDP will grow only 1.8% in 2012. Its forecast back in May was for 3.1% growth.

And on the supercommittee front, the 12-member bipartisan congressional group that is supposed to come up with at least $1.2 trillion in budget cuts by Nov. 23 that would then be voted on by the full Congress by Dec. 23, it doesn’t appear to be making any progress at all. House Speaker John Boehner said Republicans will entertain revenue enhancers only if the Democrats are serious about entitlement reform. Democratic leaders keep introducing surcharges on the rich in their proposals.

The problem is we need far more than the $1.2 trillion to make any real progress in the deficit, as I’ve been harping on ad nauseum. Or as an editorial in USA TODAY put it:

“(The $1.2 trillion is) less than a third of the minimum recommended by two bipartisan deficit commissions. If the committee…could somehow find a combination of spending cuts and revenue increases totaling at least $4 trillion, everybody would go into the campaign with an achievement to brag about.

“If that ‘grand bargain’ doesn’t materialize, however, the next 12 months are shaping up as an unproductive blame game for America’s declining economic fortunes. And at the end of this year-long process, neither party would have the will or the way, even with control of both chambers of Congress and the White House, to force through a plan without significant participation from the other.

“Someday, Americans might be able to get on with their lives again without having to worry about the dysfunction in Washington. That would be nice. In the meantime, Nov. 4, 2012, is shaping up like an episode of Fear Factor meets Last Man Standing.”

Lastly on China…the official barometer of manufacturing activity, the PMI for October, came in at 50.4 after HSBC had previously projected 51.0 [50 being the dividing line between contraction and expansion.] The 50.4 is down from 51.2 in September and the lowest since February 2009.  The non-manufacturing PMI was 57.7, down from 59.3.

Importantly, the inflation report for October is to be released this week and is expected to show further declines in consumer prices, thus potentially freeing the government to ease monetary policy. In looking at money market rates there, the easing has already started.

The IMF is still projecting GDP growth of 9.0% in China for 2012, 8% being the generally accepted level needed to maintain social stability.

Finally, my own personal barometer, casino revenues on Macau, revealed another whopping advance for October over year ago levels, up 42.3% and a new record for any month. In October alone, Macau surpassed Vegas’ first six months this year. For the first ten months of 2011, Macau’s revenues are up 45.4% vs. the same period in 2010. I’ve been saying I wanted to see October and November’s figures for any signs of a significant slowdown. One down, one to go.