More woe for Spanish, Italian,Portuguese and German government bonds as the European Central Bank hides its purchases

Today is a day that is significant in two respects. Firstly we will see the debate and vote on the Irish austerity proposals in the Irish dail. These proposals plan to reduce the budget deficit by 15 billion Euros over the next four years with 6 billion Euros worth of cuts planned for 2011 in what is a front-loaded plan. It looks as though the vote will be tight but will be in favour. Also we have the curious situation of a bank boycott being led today by the sometime footballer, philosopher,actor and kung-fu proponent Eric Cantona. He is suggesting that individuals withdraw their savings from banks today as a type of protest. I do not think that his plan will make banks collapse and lead to the creation of a citizens bank as he hopes but in France at least he has gathered some support and it will be interesting to see exactly what happens. I suspect he may struggle for support in the  Crystal Palace area….

The European Central Bank hides some of its government bond buying

Last night the ECB published this on its website and by SMP it means its Securities Markets Programme which is what it uses to buy peripheral government bonds.

As the SMP transactions which settled in the week from Monday 29 November to Friday 3 December were of a volume of EUR 1,965 million, the rounded settled amount – and the intended amount for absorption accordingly – increased to EUR 69 billion. The transactions made between Wednesday 1 December and Friday 3 December have, with few exceptions, not yet settled and hence are not reflected in this figure.

At first it looks like the ECB has done well to influence the government bond markets so strongly with what is a relatively low increase in the level of its purchases but then the truth becomes clear. It is excluding the period after Mr.Trichet’s speech “with few exceptions” when it appeared to market participants to really accelerate its purchases. So it is likely that we have been presented with a number for purchases which excludes the majority of the purchases! I took a look back to the previous history of these tenders to see if this has happened before and it has not. This includes the first week of the SMP when the programme purchased some 16.5 billion Euros of debt and had to be organised from scratch. So for reasons known only to itself the ECB has chosen to hide the true amount of its bond purchases last week which can only lead one to suspect that it must have bought a very large amount. We will have to wait and see but such rather transparent manoeuvering does nothing for the ECB’s credibility.

I was intrigued yesterday to see that the US central bank the Federal Reserve bought some US $2.044 billion or 1.54 billion Euros worth of government bonds yesterday as part of its asset purchase programme which has been nicknamed QE2. I cannot compare the scale of this with last weeks purchases by the ECB as it is hiding them but I can compare them with previous purchases by the ECB where recently around US $1 billion a week has seemed a lot. So up until now the scale of asset purchases by the ECB has been much smaller but so far it has been intervening in what are relatively small parts of the Euro zone economy.

Euro zone politicians disagree again.

One of the continuing features of the Euro zone crisis has been the way that supposedly united European politicians squabble in public. If you think about it then this is exactly the sort of tactic to avoid. Yesterday there was a proposal for a type of pan-euro zone bond market proposed which was shot down before the ink was even dry by the German Finance Minister. The German Chancellor Angela Merkel also criticised the plan and refused to even countenance increasing the European rescue fund. Austria too was very critical of any such plans. So yet again the Euro zone is split just at the moment it most needs unity.

We are also starting to see more and more signs of dissent within the European Central Bank. Here are the words of the Dutch member of the Governing Council according to Bloomberg, “It’s not up to the ECB to save countries where governments run the risk of becoming insolvent.” So I am beginning to wonder exactly how much of a majority the policy actually has on the Governing Council of the ECB.

Spanish,Italian, Portuguese and German government bond markets struggle

The news reported above meant that yesterday the bond markets mentioned above struggled. This was in spite of the fact that the ECB was reported as being a buyer again. If we look at ten-year government bond yields then Italian yields rose to 4.55%, Spanish yields rose to 5.22% and Portuguese rose to 6.08%. So it would appear that we are back to my suggestion that as soon as the ECB steps back in any way then these yields will rise again and that its intervention is at best a short-term palliative. Indeed members must be pulling their hair out with frustration at the way their best efforts are being undermined by bickering amongst European politicians.

One area where there is certainly no ECB support is the German government bond market. It is the benchmark by which European government bond markets are measured. But it has continued its recent fall this morning. Its ten-year yield which back in the summer was testing a yield of 2.2% is testing 2.9% as I type this as it is increasingly looking that there is a real cost now to German taxpayers from the current and proposed bailouts in the peripheral Euro zone nations.

Economic problems mount for Hungary as she is downgraded

Back on the nineteenth and twelfth of July I discussed the economic problems that face Hungary. One big issue is the amount of borrowing which took place in foreign currencies mostly the Swiss Franc.

This would impact on the cost of the Swiss Franc mortgages which are held by 1.7 million people out of a population of 10 million……..according to the Hungarian central bank household foreign-currency loans amount to 5.4 trillion Forint, or 67 % of total loans, with 4.4 trillion Forint, or 82 % of them owed in the Swiss Franc. Businesses owe 4.4 trillion Forint in foreign currency, or 58 percent of the total, the data showed.

Those who followed the story back in July will remember that Hungary’s government turned down future help from the IMF by rejecting its terms. If we move to more recent decisions by this government which have involved packing the central bank with political appointees and rather disturbingly a raid on pension funds then you may conclude that events are again troubling on the Danube. Even one of the ratings agencies have picked up on this point and Moodys has downgraded Hungary leaving her hanging onto investment status but only just.

If we look at the impact of this on those who hold Hungarian mortgages denominated in a foreign currency then problems are rising again. After a period where matters improved as for example the recent fall in the Euro was good for those with Euro mortgages things are now getting worse again. The exchange rate is now 280 Forint to the Euro and may have mortgage holders looking at exchange rates daily again. However the bigger problem is the Swiss Franc which is improving again and there are clear implications for those with their debts in Swiss Francs. Over the past ten years the highest monthly average for this exchange rate has been 215.8 in September 2010 and things seemed to be improving from the point of the debt holders. However this morning the exchange rate is at 214.

Not only will such an exchange rate send a chill wind to Hungary but to link my two main sections today a lot of the money was loaned by Austrian banks. I have noticed recently that Austria has reined back its support from some Euro zone measures and I suspect this is because she may well be feeling that what funds she had may be needed at home. Should mortgage defaults increase in Hungary then Austria’s banks would be hit hard.

President Obama decides to ease fiscal policy

After the interview with Federal Reserve Chairman Ben Bernanke which was aired on Sunday which hinted at a possible future easing of monetary policy we  saw President Obama actually easing fiscal policy yesterday. The details of the fiscal easing are as follows.

1. He extended the income tax, capital gains and estate or inheritance tax cuts instituted by his predecessor George Bush for another 2 years as they were due to expire at the end of this year.

2. In addition the US payroll tax will be cut by two cents for a year leading to an approximately US $120 boost to the US economy and a corresponding fall in tax revenues.

3. Aid to the long-term unemployed will be extended by thirteen months.

In total this deal is expected to cost around US $900 billion over two years.

Comment: Is this actually a stimulus to the US economy?

Yes it is but it is much less of a stimulus than the numbers quoted. Much of the plan involves extending existing schemes so it is more accurate to say that it is preventing contractionary influences rather than being a stimulus for much of the plan. The genuine stimulus comes from  the cut in the payroll tax and some will also come from the extension to unemployment benefits. Perhaps the worst aspect of the deal is the extension of tax cuts to the already well-off.

One area that will plainly be affected over the next twenty-four months will be the US fiscal deficit which will rise by some US $900 billion and this will of course affect the national debt.Will the economic benefits of this plan outweigh that? One can perhaps make a case for the payroll tax reduction as it might help with unemployment and helping the unemployed may also provide a boost as their marginal propensity to consume is likely to be high, however one is one much weaker ground with the tax cuts for high income earners. So it is no wonder that US government bond yields rose as we return to the fundamental question which is will US legislators ever summon the resolve to cut the deficit? The tax cuts for the wealthy are worrying on this front.


We are back to a fundamental difference between US and Euro zone economic policy. The American administration thinks stimulus first whilst the Germanic influence on the Euro zone makes it think austerity first. The problem is that in many respects neither is going that well! I feel that rather than getting bogged down in a theoretical debate one should look at individual policies and for example the payroll tax cut is worth a try in the US. It is a shame that some of the other measures are not as well targeted. Concerns about the rise in the deficit would be lower if the money looked like it was being well spent whereas as we stand it is looking somewhat out of control.


11 thoughts on “More woe for Spanish, Italian,Portuguese and German government bonds as the European Central Bank hides its purchases

  1. “I was intrigued yesterday to see that the US central bank the Federal Reserve bought some US $2.044 billion or 2.7 billion Euros worth of government bonds yesterday as part of its asset purchase programme.”
    That is a severe drop in value for the E !
    The crisis seems to inspire a conflict rather like Man United versus Barcelona when people are considering the merits of the various attempts to impose a a solution in Europe and the US. Me? I feel the US is not trying to find a solution, merely trying to weather the storm. Europe, I feel is trying to find a solution that may be sustainable. This may even be the reason why all the pundits are interested in Europe and not on the really big problem constituted by the US.

  2. While I believe that the US needs to reign in the deficit with spending cuts, I would take the US position over the European one any day of the week and twice on Sunday. The ship of state in the US all seem to be on the same path, with a plan and a single government and currency. Europe’s problem, as highlighted in this article, is that Europe has one currency but many ships of state, many of which are headed in many different directions. The currency mess described above re: Hungary is common throughout eastern Europe as I understand it, and EU banks are leveraged at least 2 to 3 times as high as are US banks. In my humble opinion, Europe & Japan are in much more trouble than we are.. but at some point, our own chickens will come home to roost.

    • You are probably quite right. The US fought the civil war over the very matters you mention, whilst Europe is still in the Federation or Confederation stage of the struggle. Will the Federation side win or will the Confederates win? My money is on a similar outcome to the Civil War. Europe will simply have to adopt a Federal system, probably by stealth and necessity. I think that is what we are seeing now.

    • I had an afterthought. Can it be said that the US has a single government with a plan? I thought one of the problems the US has is the rather disparate set up with a Congress and President able to be loggerheads and then throw in the lobbies just to add to the mix. However the single biggest plus for them is that they control the world’s trading currency – but for how long is that sustainable given their debt levels, and given the appearance that their plan is to devalue the dollar?

  3. The beauty of all of these massive numbers, so far as politicians are concerned, is that no-one really can get their head round them.
    The bald facts in your blog are that:
    1. The US is caving into Republican demands for tax breaks and simultaneously to Democrat demands for extra welfare. Neither side, despite the bipartisan committee demand this week to reduce the deficit, will accede to a reduction in net expenditure, whether by tax increases or expenditure cuts. $900 billion EXTRA on the deficit in two years is simply staggering.
    2. The Europeans are arguing, in public as well as privately, about who is going to pick up the tab. This conveniently ignores the fact that, even if Greece et al do everything asked of them in terms of fiscal consolidation, it is still going to owe more in five years’ time than now. There is simply no plan to accept the bleeding obvious, i.e. that greece and ireland are incapable of ever paying back the debt. By the time the haircut comes, the ECB will own all of the debt, so we have somehow transferred national losses on to the ECB, ie ourselves.

    The farce involving Tremonti and Juncker yesterday simply highlighted the gulf between the reality and the fantasy land inhabited by senior European politicians.

  4. Great work on this Blog. Excellent and well done.

    Keep it coming. Appreciate it, living over ‘ere across the pond.

    Have a Merry Christmas and A Happy New Year.

  5. Hi Shaun – I just wonder sometimes whether you, with your experience as a market participant, expect too much of the various EU bodies which all have differing briefs and democratic constraints. I have just listened to Olli Rehn, the Commissioner for Financial Economic Affairs of the EU. He appears to be busily putting proposals to Ecofin ministers to fight the fires and hold the hands of individual finance ministries in troubled states encouraging them to make the prudent decisions. He then has to have an eye on the meeting of Heads of State as to whether broader agreements can be reached. The ECB are saying they cannot become sovereign debt financiers.There are legal prohibitions all over the place. There is a mixture of majority voting and unanimous voting decision-making that needs to be balanced in gaining agreements. From yours and my point of view, this all looks cumbersome and indecisive. Markets can move trillions in the blink of an eye.

    I am not sure this set-up can ever meet your criticism – it will always lag and dither. Its set up that way.

    • Hi shireblogger
      I think that there is obvious validity in the principle behind your point. If we looked at politicians/officials generically they will virtually always lag behind market movements. It is not just in the Euro zone they do this.
      However the Euro zone by its nature has made itself vulnerable to this for several reasons.

      1. There is no person or institution that is in charge. For example although I believe in voting and accordingly have always voted in European elections I have little faith that the parliament achieves much or that officials are actually accountable to it.

      2. The concept of the Euro is not necessarily flawed but the way it has been implemented has been. This has been compounded over time by policy mistakes such as the failure to restructure debt when the first problems hit Greece.

      3. An agenda is being progressed for a federal Europe in an implicit rather than an explicit way.

      I do not particularly blame Mr. Rehn for these problems these are mostly caused by his political masters. But also I do not hear him calling for fundamental change. Also he has made public pronouncements that he must know are absolute rubbish. He could do the former and stop doing the latter.

      You see the fundamental issue here is not whether they meet my criticism but whether they are capable of making decisions which can improve on the three points I make above and accordingly offer some hope to those in Ireland and Greece for better days to come rather than the current muddle and confusion. That is the real issue. Sadly if events continue on the same course then I expect other countries to join them in financial distress. In the end this is the real test. You would hope that (hopefully intelligent) people would be able to tell between the normal ebb and flow of markets and a genuine crisis at which point there are three rules I think, be prompt , be decisive and be consistent.

      Also is it to much to hope that they should learn things over time and not repeat the same mistakes?

  6. So if the ECB is running QE and so are the Americans then the end result is inflation. What happens when we get inflation, no growth and still have fiscal deficits? When do interest rates go up?

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