The ECB faces a stronger Euro and an unbalanced economy

One of the features of this time of year is that the ECB (European Central Bank) is quiet as its Governing Council gets in some research on holiday hot-spots and does its best to boost the economies of the southern countries. However in their absence there is little sign of a summer lull this year so let us take a look at what is happening. Firstly of course we have the deposit and current account rate set at -0.4% and the 80 billion Euros of QE (Quantitative Easing) per month which now includes corporate bond purchases.

Negative Interest-Rates

Standard and Poors has produced a report on this issue and it starts badly for the ECB. From the FT.

Almost 500 million people are living under negative central bank interest rates – an unprecedented policy move which is “a clear sign of desperation” with a host of unintended consequences for the world economy, Standard & Poor’s has warned.

Almost enough to make Mario Draghi choke on his lunchtime glass of chianti. There is more.

It warned of the danger of a “feedback loop”, where negative rates encourage irresponsible and excessive risk taking that could spillover into escalating defaults that would require yet more stimulus from central banks.

There are two further problems which will be familiar to readers of my work.

This has led to concerns for pension funds and insurance companies, “reducing the investment returns these institutions rely on to meet their long-term liabilities”. They could then be spurred to search for yield by investing in riskier assets.


Should negative rates spread across the economy, it could lead to a “cash-only economy”: “This means increased transaction costs and rising risks of theft”

Then suddenly there is some better news for the ECB as Standard and Poors decides that it should fall into line with the IMF and tell us that this is working.

Negative rates in the eurozone are “having the desired stimulative effect”, managing to spur bank lending and leading to a sustained fall in the value of the euro.

Let us look at bank lending vis the ECB August Bulletin.

Loan dynamics remained on a path of gradual recovery………While the annual growth rate of loans to non-financial corporations (NFCs) recovered further in May, the annual growth rate of loans to households has remained broadly stable since February 2016.

Not entirely convincing is it? The truth is that the ECB has stopped such lending from falling but the numbers are barely positive.

The Euro

I was interested in the “sustained fall in the value of the Euro” claim as the Euro has been rising recently. The most obvious rise has been the post Brexit leave vote move against the UK Pound £ which has seen it push forwards to 1.15. However it has also been rising against the US Dollar and has pushed above 1.13 versus it this morning after the US Federal Reserve Minutes showed uncertainty last night. I guess it has absolutely surged against the Mongolian Tugrik which has required a 4.5% increase in interest-rates today to try to shore it up!

If we look at the effective or trade-weighted numbers we see that the Euro has been rising since it fell to just below 89 in early April 2015 and it is now 95.6. Or as Sober Look pointed out.

: ‘s tradeweighted euro index now highest since start of QE; has to be frustrating for the ECB –

If you are wondering why? I suspect that some figures released this morning give us at least a partial guide.

As a result, the euro area recorded a €29.2 bn surplus in trade in goods with the rest of the world in June 2016……In January to June 2016  the euro area recorded a surplus of €134.5 bn, compared with +€111.4 bn in January-June 2015.

As you can see whenever we are not in an ouvert crisis phase then there is steady and regular demand for Euros to pay for goods. Actually there is an elephant in this particular room as two thirds of the trade surplus in goods comes from one country Germany which recorded a 89.2 billion Euro surplus in the first half of 2016.  We are back to the view that I expressed some years back that the Euro is a vehicle for Germany to get a lower exchange-rate. The price for the other 18 nations is that they get a higher exchange-rate and this has compromised the economic performance particularly of countries like Italy and Portugal and of course especially Greece.

For all the media rhetoric and talk about Germany being a loser in the various Euro negotiations and bailouts it remains an enormous winner from its original currency devaluation. What it did not know back then was that we would see a post credit crunch era where a German Deutschmark would have soared.

The banks

The problem here is duofold. The first has been caused by the ECB itself and the way that negative interest-rates impact on the banking sector. An irony because of course so many policies are aimed at supporting the banks. Benoit Coeure of the Governing Council put it like this at the end of last month.

In the euro area, the potential adverse impact on bank profitability, if it materialises, would be compounded by low growth prospects and a legacy of high non-performing loans.

In fact virtually his whole speech was about the banks revealing his real interests! In essence on this road they are being given not far off “free money” from the QE program to offset losses elsewhere.

While average deposit rates only decreased by around 0.2 percentage point between June 2014 and May 2016, loan rates decreased by around 0.8 percentage point, effectively reducing the interest margin.

If we return to the lending figures I quoted early on you might reasonably have expected them to have done better in response to this.

The next problem is responded to rather euphemistically.

In the euro area, this translates into geographic differences based on national banking structures,

He means the banking travails of Portugal and Italy for example but does not want to say so explicitly. I note that Algarve News has reported this.

Portugal’s government has spent €14 billion of public money on ensuring the banking sector is ‘robust’ – but much of this money will never be seen again……….This overall €14 billion bill, as computed by the Court of Auditors and the National Institute of Statistics, represents nearly 8% of Portuguese GDP, hence Moody’s recent warning that the Portuguese banking system is one of the most fragile in Europe.

Even the traditionally insular US Federal Reserve is on the case.

However, European bank equities, especially those of Italian banks, underperformed, reflecting investor fears that lower interest rates will continue to weigh on profitability.

Not everywhere is on a downwards spiral as the economic growth spurt in Spain has helped improve things for banks there. This morning has seen a fall in non performing loans recorded although I also note that another consequence of the To Big To Fail strategy has also been seen as national debt to GDP which was 36% in 2007 looks like it has passed 100%.


There is much to consider for the ECB as it looks at its policies. It did originally manage a fall in the Euro exchange rate but as I have explained above that has been fading. As I have pointed out before both the main QE players right now ( Euro area and Japan) are seeing stronger not weaker exchange-rates these days. Actually one bit of relief for Mario Draghi and his colleagues has been that the Yen has risen even against the Euro.

Also whilst the economy is growing the rate of growth halved in the second quarter of 2016 to 0.3% from 0.6% previously. Whilst Spain has done well and Ireland has recorded some quite extraordinary numbers Italy and France recorded no growth at all in the latest quarter. I think that the ECB if Benoit Coeure is any guide is starting to think that it is struggling.

Fiscal and structural policies should act more decisively to support aggregate demand and productivity, thereby preventing the economy from falling into a low interest rate trap.

Yes especially in the struggling nations. Oh hang on the ECB as part of the institutions or troika has been enforcing exactly the reverse there!

Should the oil price continue to edge higher some of the gains from its lower phase will start to ebb away as well.




The economy of Spain has received a fiscal stimulus as well as monetary easing

Today I wish to open with what has become a good news story and that is the economic recovery which has been taking place in Spain. The dog days which followed the bust in the housing construction and banking sectors has been replaced by an economic boom which reminds us of the song Y Viva Espana. This is reflected by this month’s Economic Bulletin from the Bank of Spain.

Specifically, GDP is estimated to have grown by 0.7% in the first quarter (0.8% in the fourth quarter of 2015).

As they point out this is in fact a slow down although of course it continues a pace which so many countries especially in Europe would love. Looking forwards they are quite optimistic too.

Specifically, GDP growth is estimated at 2.7% in 2016, with a slightly declining profile over the course of the year, and at 2.3% in 2017.

It is nice of them to also confirm an influence which I pointed out on January 29th last year where lower oil prices have boosted consumption and hence economic output.

such as the successive declines in oil prices since mid-2014…. such as the recent declines in oil prices.

Today’s numbers

The favourable position has been backed up this morning by new data on what is a continuing problem in both Spain and indeed the Euro area which is the elevated level of unemployment. From the labour ministry via Google Translate.

The number of unemployed registered at the offices of the Public Employment Services declined in March in 58,216 persons in relation to the previous month. In 2015 it fell by 60,214. Thus, the total number of registered unemployed stood at 4,094,770.

In seasonally adjusted terms, unemployment fell in March by 45,466 people.

Care is needed as this is registered unemployment but it is falling consistently now and we see that progress has indeed been made over the past year.

In the last 12 months unemployment has fallen by 357,169 people. Registered unemployment has fallen by around 8% (8.02%).

There has been some progress recorded in reducing youth unemployment too.

Unemployment among young people under 25 has decreased in the last year by 43,416 people. Thus, youth unemployment is reduced by 11.1% year on year,

Monetary Policy

Jostling at the front of the queue to take the credit for the improvement will be Mario Draghi and the European Central Bank (ECB). They have undertaken a whole panoply of policies to ease monetary policy. We have interest-rate cuts highlighted by a deposit rate of -0.4%, ever more Quantitative Easing now at 80 billion per month for the whole Euro area and new lending schemes ( LTTTROs) which may also lend down to -0.4% or if you like free money ( actually it is in fact better than free) from the central bank.

This has been highlighted this morning by the new interest-rate figures from the ECB which show that the composite cost of borrowing for companies fell to 1.98% in February. This compares to the recent peaks of just over 6% as the credit crunch hit and 3.72% at the end of 2011 as the Euro crisis reached a peak. On this score the ECB will be high-fiving in Frankfurt especially if they also note that the cost of household borrowing has fallen to 2.2%.

The Euro

Much more problematic for the ECB has been the recent strength of the Euro. Indeed I suggested an extra glass of Chianti to soothe the nerve of Mario Draghi as the Euro nudged 1.14 versus the US Dollar on Friday. It has led to a rather extraordinary Open Mouth Operation by Peter Praet this morning. From @mhewson_CMC


So he wants to take away one of the factors which has boosted the economy of Spain and other Euro area nations? Oh dear! But the issue here is that the initial impact of QE reducing the value of the Euro now sees a similar effect to what has happened to Japan where the currency has later strengthened. The Bank of Spain is on the case.

the strengthening of the euro……the depreciation of the euro over much of 2015…… an appreciation of the effective euro exchange rate and a fall in stock market prices,

Putting that into numbers the trade-weighted Euro which dipped under 89 just under a year ago was 95.4 on Friday. A bit awkward when you are employing 80 billion Euros of QE  a month to help weaken the currency and then see it rise. From a UK perspective the Euro has rallied to 1.25 versus the Pound £ or 0.8 if you prefer.

Fiscal Policy

This development blind-sided more than a few people. After all Spain was supposed to be in the grip of Euro area style austerity. Of course regular readers of this blog and the financial lexicon of these times will be well aware that a sub-section of claimed austerity includes what rather looks like what used to be called a fiscal stimulus. The Bank of Spain describes it thus.

the more expansionary fiscal policy stance last year

The Financial Times puts it like this.

Last week Madrid unveiled a budget deficit of 5.2 per cent of GDP for 2015, almost a full percentage point worse than the deficit target set by Brussels.

With an economy growing at around 3% per annum that is a clear fiscal stimulus and in fact quite a strong one. You would think it was election year in Spain! The stimulus has been hidden under the badge of claimed austerity as discussed above and as I have pointed out before shows that in terms of economic cycles Spain is often very similar to the UK.

In terms of the Euro area position there are all sorts of issues here. After all the fiscal deficit limit is supposed to be 3% and Spain has very few excuses with a strongly growing economy. Nonetheless it was given leeway to 4.2% and then in a more desperate move 4.8% but it exceeded the lot!

The ECB does have a role here because its QE purchases of Spanish debt have not only kept the “debt vigilantes” at bay it has added to the stimulus. As of the end of February the ECB had bought some 69 billion Euros of Spanish government bonds meaning that some short-dated bonds are in negative yield territory and even over ten years Spain is paying only 1.46%. The ECB will not want to be reminded that the low bond yields it has created helped the Spanish government to pump up a pre-election stimulus. It must be particularly grateful for the fast rate of economic growth which has kept the debt to GDP ratio under 100% albeit only just.


Whilst there is an economic good news story here as the Spanish economy powers ahead there are caveats. After all if we see monetary policy and fiscal policy both running hard we wonder what is left should there be any sort of a slow down? Also whilst 2014 and 15 were good years for the Spanish economy the legacy of the previous ones is that the economy is still some 3.7% smaller than the pre credit crunch peak leading to this consequence in today’s overall unemployment  numbers.

Spain (from 23.2% to 20.4%), and youth unemployment Spain (45.3%)

So better but still very poor. The Financial Times has a rather odd banking centric view of prospects.

Investment bankers, for example, are finding it increasingly hard to make money by advising on mergers and acquisitions or preparing companies for a public listing.

And an even odder view of unemployment,really?

Spain still has the highest unemployment in the western world

So as you can see the outlook for 2016 is still pretty good but Spain cannot afford any slow down and of course another housing bubble would be the last thing it needs. As ever it shows quite a few similarities to the patterns in the UK although at least our Royals seem so far to have steered clear of trouble in the Panama Papers. But Spain did get in ahead of the current economic stimulus fashion.

There’s a brand new talk,
but it’s not very clear
That people from good homes
are talking this year
It’s loud and tasteless
and I’ve heard it before
You shout it while you’re dancing
on the whole dance floor
Oh bop, fashion ( David Bowie )






The impact of the ever disappearing crude oil price

One of the features of the economic landscape since the summer of 2014 has been the falling oil price. If we look back it feels that the price of just below US $116 per barrel for Brent Crude Oil is from another economic world and of course that is true now. But back in late June 2014 it flirted with such levels after even higher prices and of course forecasts. Goldman Sachs were (in)famous for calling for US $200 oil in 2008 and in 2011 Nomura stepped up to the plate.

If Libya and Algeria were to halt oil production together, prices could peak above US$220/bbl…… we estimate oil could fetch well above US$220/bbl, should Libya and Algeria stop production.

How much is well above please? Anyway I introduced some past forecasting perspective because this week has already seen some efforts at forward guidance on this front. From Bloomberg.

A rapid appreciation of the U.S. dollar may send Brent oil to as low as $20 a barrel, according to Morgan Stanley….“Given the continued U.S. dollar appreciation, $20-$25 oil price scenarios are possible simply due to currency,”

Oh and a familiar firm had already predicted such a number.

Goldman Sachs Group Inc. has said there’s a possibility storage tanks will reach their limit, pushing crude down to levels necessary to force an immediate halt to some production.

An easy one for the spreadsheets as all they had to do was remove a zero from the past spreadsheets as I guess we are all reminded about the “Muppet” scandal. In such a situation what is an investment bank to do? Well this is the solution from Standard Chartered via Reuters.

“We think prices could fall as low as $10/bbl before most of the money managers in the market conceded that matters had gone too far,” it added.

Should it happen then one contributor may finally be happy with the oil price 🙂

Where are we now?

The first wave of the oil price fall took us down into the mid 40s in terms of the US Dollar and it did so around this time last year. following that there was a bounce to nearly US $70 but then the move acquired a second wind. Since the middle of May 2015 the oil market has again acquired a taste for the repetitive rhythms of Status Quo.

Get down deeper and down
Down down deeper and down
Down down deeper and down
Get down deeper and down

This morning Brent Crude Oil dipped below US $31 per barrel finding itself going back in time to 2004 as it did so. There has been around a 20% fall this January alone and market volumes have been very high. Combining this with the rumours of an emergency OPEC meeting which have just arisen makes me wonder if someone is what is called “long and wrong” in size? I will return to this issue later. But for now we return to an oil price which is much lower.

The impact on inflation

If we start with producer prices then most input numbers have been blitzed by this. for example we have been reminded of this today by the UK’s poor manufacturing numbers.

Input prices paid by UK manufacturers fell by 13.1% in the year to November 2015……..Over the past year the manufacturing industry has experienced deflation, in terms of the prices manufacturers pay for materials and fuels used in the production process (input prices) and the prices they charge for the goods they produce (output prices).

As UK manufacturing has fallen over the year for once the deflation moniker has some justification. I covered the problems there back on December second of last year.

There is also the impact on consumer inflation which we can look at from today’s official data on fuel prices at the pump. The price of petrol at 101.9 pence is some 7 pence lower than a year ago and the price of diesel at 103.4 pence is some 12.8 pence lower than a year ago. So not only are we seeing a price fall there is a welcome price bias for diesel drivers like me. The direct impact on consumer inflation is show below.

A 1 pence change on average in the cost of a litre of motor fuel contributes approximately 0.03 percentage points to the 1-month change in the CPI.

As you can see in just very round numbers we are looking at a 0.3% push lower from the direct effect and of course there are many other effects. There is the direct effect on domestic energy costs -well hopefully anyway- and lots of indirect influences on fares and transport costs. But the fundamental point is that an influence which might have faded in the latter part of 2015 is pushing into the early part of 2016.

This will be an influence on central bank and indeed Bank of England policy as it continues to pull us away from the 2% per annum CPI inflation target.

Economic activity

There are various routes as to how a lower oil price can benefit an economy. On the 29th of January last year I explained how I expected lower inflation to boost real wages and lead to a boost in consumption in the UK ( and Ireland and Spain). That proved to be true and has been in evidence in quite a lot of places although its impact on the United States has been relatively weak.

If we look at the overall impact then Price Waterhouse estimated this last March for the UK.

in Scenario 1, where the oil price remains persistently low at US$50 per barrel between 2015 and 2020, the initial impact will raise the level of real UK GDP by around 1.2% in the first year.

We have had that of sorts and are now facing the possibility of a sustained oli price that is even lower although of course matters are volatile. But the theme here is of an economic boost which also will get a second wave if oil prices remain at current levels or fall further.

For the UK there has also been something of a (space ) oddity from the oil price fall. Take a look at this from today’s poor production numbers.

There were increases in 3 of its 4 main sectors, with the largest contribution coming from mining & quarrying, which increased by 10.5% (on last November).

Curious is it not? I will have to enquire again as I am not sure that the impact of the maintenance cycle can fully explain this ongoing rise. You see if we look back UK oil and gas production has been in secular decline.

mining & quarrying and electricity, gas, steam & air conditioning, which continued to decline following the downturn, were 29.4% and 9.1% below their respective values in Quarter 1 (Jan to Mar) 2008.

A transfer from producers to consumers

Not everybody has gained from the oil price fall as producers have been hit hard. This has appeared in the news in various guises from the falls of the Russian Ruble to the budget problems and currency issues of Saudi Arabia to problems for parts of Africa. There must be issues for Canada as well as its tar sands oil has an even lower price than the ones quoted above.

So there are implications here from a transfer of economic gains or to be more specific lower transfers from consumers to producers. In our highly stressed world we have to question if our system can take it.

Derivatives, derivatives

The issue here is of what has become called a Black Swan event which is certainly easier to type than the serially uncorrelated error term! If we return to the concept of our stressed world then an obvious issue is the economic model of the US shale producers which looks to have been essentially a cash flow projection except much of the cash has dried up. There will be trouble ahead with anything like the current oil price and the only question is how much?

The indirect issue comes from my old line of work in derivatives. With oil at US$100+ and projections for US $200+ what could go wrong with writing some US $70 or US $60 put options? Free money isn’t it? Oh hang on…….

Big moves in our financially stressed world lead to fears that some have been caught out and the size of the move would be the prospective problem.


In ordinary times then for most nations the oil price fall would be nearly unambiguously good news. The fly in the ointment would be a reduction in demand from the oil producing nations and areas. So we continue with the associated good news of lower inflation and higher economic output as the impact of an improved real wage position is felt.

The danger is that in the race for “yield and returns” someone has been a combination of silly and desperate and done so in a large volume. Fingers crossed.





Spain is in an economic sweet spot with strong GDP growth in 2015 so far

On Tuesday I did an interview for Community Radio in Australia about the Portuguese economy. I explained that the decades long problem for Portugal was the fact that even in the good years economic growth struggled to average much more than 1% and that this was illustrated by it currently being 1.6%. In essence the economic and fiscal troubles it has come from that. However I noted that the Australian view was that Portugal had done better than Spain a notion I intend to dispel today as the recent experience for the Spanish economy has been a good news story.

You may be wondering about the issues over possible independence for Catalonia which could put something of a spanner in the works. In this Spain’s economic performance shows that it tends to be in phase with the UK in quite a few respects. Not only has its economy expanded more like the UK than many of its Euro area neighbours which of course poses a question for Euro area membership but it has an independence campaign in the North too as Catalonia replaces Scotland.

Economic Growth

Let us remind ourselves of the latest figures from Spain.

The Spanish economy registers a quarterly increase in volume of 1.0% in the second quarter of 2015, one tenth over that registered in the first quarter of this year (0.9%)…….GDP year-on-year growth in the second quarter stands at 3.1%, compared with 2.7% registered in the previous quarter.

The Spanish economy has been on something of a tear in 2015 so far or Boom Boom Pow as the Black Eyed Peas put it. If we look back the dark years were from 2010-13 when Spain underperformed the Euro area average followed by catch-up in 2013 and then outperformance since the beginning of 2014.

If we start at the beginning of 2014 the annual rate of increase in GDP has gone 0.6%,1.2%,1.6%,2%,2.7% and now 3.1%. What’s not to like about that? But these are the sort of numbers which can help with the debt matrices which have Portugal in a spiders web due to its inability to do the same.


The positive news is reinforced by the employment numbers.

Employment, measured in terms of full-time equivalent jobs, registered a quarterly variation of 0.9%, that is, on tenth over that registered in the previous quarter (0.8%)….In annual terms, employment registered a growth rate of 2.9%…..This evolution indicated a net increase of 477 thousand full-time jobs in one year.

Not only is this welcome for the individuals concerned but this also helps with the fiscal position as social security payments fall and tax receipts rise. Of course unemployment is still far too high but every little helps.

Looking Forwards

Standard and Poors upgraded Spain to BB+ a week ago and as part of this were bullish over future economic growth prospects. From Bloomberg.

The company expects economic growth to average 2.7 percent from 2015 to 2017, up from a previous estimate of 2.2 percent after a review in April.

In some ways that merely reflects what has happened so let us examine the business surveys. Something that has become rather familiar for September happened in manufacturing.

Although maintaining growth, the slowdown in the Spanish manufacturing sector continued in September and the average PMI reading for Q3 overall was below that seen in Q2.

If we move to the much larger services sector we see this.

While we continued to see solid growth in the Spanish service sector in September, there was a marked easing in the rate of expansion to the lowest in 2015 so far.

Again this is a familiar theme as i note the NIESR (National Institute for Economic and Social Research) put GDP growth in the UK at 0.5% in the third quarter and that the Atlanta Fed nowcast for US GDP growth is at 1.1% annualised. So we have a pattern of slowing growth as we wonder if this is merely a feature of a mature bull market or is a swing in the business cycle downwards. As I type this the Bank of France has joined this misery party by cutting its quarterly growth forecast to 0.2%.

The Bank of Spain remains optimistic.

On the conjunctural information available, GDP is expected to have increased by 0.8% in the July-September period, which would place its year-on-year rate of change at 3.4%

The fiscal position

This is not as good as you might think after looking at the economic situation which again mirrors the UK experience. From Bloomberg.

S&P said it expects Spain’s general government fiscal deficit at 4.5 percent of GDP this year, missing the government’s 4.2 percent target.

Part of that is due to the income and corporation tax cuts which the Spanish government has made in 2015 ahead of the general election. From the Bank of Spain.

On official estimates the budgetary cost of the personal income tax reform in 2015 and 2016 will be €3.87 billion and €1.57 billion, respectively, while that of the corporate income tax reform is estimated at €87 million and €2.34 billion in 2015 and 2016, respectively.

The longer-term picture for government finances depends on whether these tax cuts help to drive more economic growth in Spain but the short-term picture is awkward as whilst it is supposed to see its fiscal deficit fall below the Euro area 3% of GDP benchmark next year it now may not. The Eurocrats were hoping to celebrate their austerity poster boy/girl returning to the fiscal straight-jacket fold after being missing for 8 years and are now unsure.

For Spain the economic growth spurt has been welcome in that it had been approaching a big figure change for one of the matrices used. From the Bank of Spain.

The general government debt ratio stood at 97.7% of GDP at end-June, similar to the end-2014 figure.

All of these numbers are being helped by the QE (Quantitative Easing) program of the ECB (European Central Bank). It has so far bought some 39.3 billion Euros of Spanish government bonds including some 5.8 billion in September. This means that Spain can borrow very cheaply with its ten-year yield being 1,82%.

Is there a Euro area country that needed QE less than Spain? Also has the cheap borrowing allowed its government to relax its fiscal discipline? As ever we have more questions than answers.


This of course was the Spanish achilles heel as a housing boom was followed by a bust which dragged its banks into trouble and then the wider economy. We also get a critique of economic growth and GDP numbers as we note unused airports and empty housing developments. As to house prices they are still falling but slowly now and some areas are rebounding. Thank you to @Ibexsalad for the regional map.

The interest-rate benchmark used by the Bank of Spain for mortgages has fallen from 0.47% to 0.15% over the past year so it will be sipping a celebtraory glass of Rioja. This feeds into this.

In August, the number of property transfers registered is 123,281 properties, that is, 11.5% more than in the same month of the previous year

Nothing like the pre 2007 party but on the rise.


This has been a happy phase for Spain as it has found some sunshine in terms of economic growth. Like Ireland it continues to mirror the UK economic cycle much more than the Euro area one yet there is hardly a chorus for it to leave the Euro and join the UK Pound £. For now let us sing along to Barcelona from Freddie Mercury.

I had this perfect dream
-Un sueño me envolvió
This dream was me and you
-Tal vez estás aquí
I want all the world to see
-Un instinto me guiaba
A miracle sensation
My guide and inspiration
Now my dream is slowly coming true

Number Crunching

This has been posed by @grodaeu today.

Math quiz! Nils has monthly income of 30 000 SEK.

He wants to spend max 30% on interest.

How much can he borrow if interest rate is 0%?

I suggested that somebody asks the Riksbank of Sweden.( SEK equals Swedish Kroner).

If you really want to fry your brains then put in a negative mortgage rate!

The European Central Bank faces a bond market bubble followed by a crash

One of the themes of this blog is that the European Central Bank (ECB) is indulging in pro-cyclical policy rather than taking away the punchbowl when the party gets going. The dithering it displayed when the Euro area economy weakened meant that by the time it announced its 1.1 trillion Euro programme of asset purchases known as QE there were signs of a turn for the better anyway! Not only was the ECB claiming that its previous policies were working but the oil price more than halved and the price of other commodities fell too. Accordingly it has added a turbo-charger to the engine of the monetary boost it was already providing in a clear policy error.

Perhaps in a year or two’s time it will copy the words of US Federal Reserve Chair Janet Yellen who told us this yesterday.

Equity market valuations at this point are quite high. Now they’re not so high when you compare the returns on equities to the returns on safe assets like bonds which are also very low, but there are potential dangers there,

So the woman who has helped drive the balance sheet of the US Federal Reserve to over US $4 trillion and thereby pushed up all sorts of asset prices thinks they are now too high if we translate the central banker speech. No sign of a mea culpa there! Even worse she thinks that share prices are maybe okay because the prices of bonds which she has also driven higher are indeed high. Life as a central planner does not seem to involved having any awareness of the consequences of your own actions. I expect the ECB to exhibit this too as the consequences of its policies emerge in the coming months and years.

The Good News

This is that the Euro area has returned to growth as signaled by yesterday’s Markit Purchasing Managers Indices.

Eurozone growth continues as output rises across big-four nations…….April saw the rate of expansion in eurozone economic output hold broadly steady at March’s 11- month high.

This led to a forecast of solid if not spectacular economic growth in the first half of 2015.

The survey is signalling a rate of economic growth of approximately 0.4% at the start of the second quarter, similar to that indicated by the PMI in the first quarter.

Even Italy is now claimed to be expanding and Spain is at a 101 month high according to this measure. Although those with memories of the pre credit crunch era may experience some deja vu from the statements below.

Companies in Spain are seeing the largest inflows of new work for 15 years, while Ireland is enjoying one of its longest growth spells since the dot-com boom.

So whilst France is relatively stagnant and Greece is showing signs of getting even worse the ECB may think that things have finally got better and that some of the pressure placed upon it has eased.

Forecasting Problems

Regular readers will have followed my updates on the various Bank of England forecasting errors and its efforts to be the worst forecasting organisation in the world! Well the ECB has made its own effort in this regard in recent times as illustrated by this from June last year.

Headline inflation is expected to increase from 0.7% in the first quarter of 2014

Instead it dropped to negative territory and is now as shown below.

Euro area annual inflation is expected to be 0.0% in April 2015, up from -0.1% in March

Now it was never likely to be on the ball concerning the oil price drop but having mistimed matters it now finds itself trying to push inflation higher just as the oil price is rebounding! From the low of January 13th the Brent Crude Oil benchmark is up 50% to US $68 per barrel. There is a deeper issue which is why the ECB treated zero inflation as so bad as after all one of the causes of the recovery is an increase in real wages caused by the drop in price of quite a few essential goods.


There was a spell where the impact of the ECB’s bond buying was that Euro area bond markets surged and yields plummeted. There was a clear moral hazard in countries at risk of default such as Italy and particularly Portugal as the central planners chose to misprice the risk. By the way is market-rigging not supposed to be a crime?

Along this road we saw many short-dated yields go negative especially in Germany and even the ten-year yield fell below 0.1% to 0.07%. An opportunity for Germany to borrow and invest?I will leave that there as an open question which is rarely discussed, and describe the next stage of events with a children’s nursery rhyme.

Oh, The grand old Duke of York,
He had ten thousand men;
He marched them up to the top of the hill,
And he marched them down again.

And when they were up, they were up,
And when they were down, they were down,
And when they were only half-way up,
They were neither up nor down.

We can now conclude that the impact of the ECB QE programme is to create extraordinary bond volatility. The German ten-year bond or bund then fell heavily in price terms such that it now yields 0.77% or back to where it was in early December 2014. As it is the leader of the pack the other Euro area bond markets fell too in sympathy with Portugal seeing its ten-year yield surging from 1.6% to over 3%!

All of the price plunge and yield rise has taken place since the 20th of April amidst complaints that there is no liquidity and the market is broken. Well if you will rig it! But there are all sorts of consequences from such wild swings as we know that those who make profits disappear into the ether but losses seem to invariably end up with the taxpayer.

Anyway how does increasing uncertainty and destroying liquidity in bond markets help the underlying economy? It does fulfill though some of the criteria of being in a bubble.

Still there is an upside which is that the ECB can now buy these bonds at a much lower price albeit shame about the 95 billion Euros bought so far.

UK Election Day

There have been some consequences across the channel in the UK from this. As   pointed out.

UK 10yr Bond yield jumps to highest level in 2015 on election day. Gilts have underperformed US treasuries this year.


The ten-year Gilt yield has pushed above 2% but before Telegraph leader writers get into a panic that they have missed an “election crisis” headline I replied with this.

Also the lowest Gilt yield on in the modern era!
It was probably lower in the 1800s (h/t Moyeen Islam)

The Euro exchange-rate

This has reversed course somewhat in recent times as it has risen to above 1.13 versus the US Dollar and pushed the UK Pound back down to 1.34. So the ECB finds that even deploying pretty much every weapon it has may no longer be working in the currency wars game. Still the Nordic nations and Switzerland will be relieved for now anyway.


There are all sorts of themes at play today. But let us start with the central one of mistimed QE. The central planning effort has  found itself undermined by the rising oil price and the implications it has for future inflation. Thus the central planners find that the markets have treated even what are enormous sums like a mere bagatelle as we wonder if the bond vigilantes have returned? We have discussed in the past how interest-rates have been cut into a “liquidity-trap” well now the central planners at the ECB have managed to plunge bond markets into one as well. Future expectations of a tapering of the effort collide with higher yields which make it more likely to continue. Time for Ms Taylor Swift.

I knew you were trouble when you walked in
So shame on me now
Flew me to places I’d never been
Now I’m lying on the cold hard ground
Oh, oh, trouble, trouble, trouble
Oh, oh, trouble, trouble, trouble

Meanwhile outside the world of official statistics we see signs that even in Spain things may not be going as well as sometimes claimed. From Bloomberg talking to Guillermo Romero.

“I began looking for work at 20, I’m 27 and nothing has changed,” he said outside the unemployment office in the working-class district of Prosperidad in Madrid. “It’s pointless looking for work here. Most jobs pay no money or have nothing to do with your field.”

Will ECB QE end the Spanish economic recovery and boom?

Today in a topic allied to the nicer spring weather that has recently arrived let us go off to Spain where the economic sunshine is shining right now. Regular readers will be aware of my theme that contrary to much conventionAL economic thought and media scaremongering  about what they call deflation and I call lower prices the economy of Spain ended 2014 and started 2015 strongly. In other words lower prices have provided an economic boost which is very welcome after the previously troubled period. I first discussed this on the 29th of January and followed it up on the 27th of last month when the Bank of Spain announced an upgrade in its 2015 growth forecast due to this.

the decline in prices

So with economic growth expected of 2.8% this year and 2.7% next Spain will be hoping to put a dent in the problems created by the economic depression which previously engulfed it.

Today’s Numbers

The business surveys conducted by Markit in March as part of its Purchasing Managers Indices are very upbeat indeed.

The headline seasonally adjusted Business Activity
Index rose to 57.3 in March from 56.2 in the
previous month to signal a sharp increase in
service sector output, and one that was the
strongest since last August. Activity has now
increased in each of the past 17 months.

If we look in to the details we see that the good news keeps on coming.

The rate of job creation quickened for the fourth
successive month and was the sharpest since
November 2007.

Also according to this survey the outlook is bright.

The highlight from the latest Spanish Services PMI
is the sharpest monthly expansion in new business
for almost 15 years as improving economic
conditions encourage customers to commit to

What about employment?

Yesterday the Spanish labour ministry produced good news on this front too. From El Pais.

Social Security affiliations, considered a measure of job creation in Spain, grew an average 160,579 last month, making it the best March since 2001, when the records began being kept.

If we look at 2015 overall we now see this.

A total 199,902 people left the Social Security system in January, while 96,909 signed up in February, leaving a net number of nearly 60,000 affiliations for the first three months of the year, according to contributors’ figures.

So if the social security numbers are any guide some spring sunshine is hitting the employment numbers in a welcome development. This also carried through into the registered unemployment numbers.

Meanwhile, the number of jobless claims in late March stood at 4,451,939 after dropping 60,214 from February. The March figure represents the biggest drop for this month since 2002, according to the ministry.

What is not to like about rising employment and falling unemployment?

Rising consumer confidence

This is illustrated by the consumer confidence figure of the Spanish CIS which rose to 100.4 in March. This has been rising strongly over the past year. Via Google Translate.

In relation to March last year progress remains very significant; the increase reached 24.1 points,

A factor in this must be the improving employment situation.

Indeed this number is even stronger than in the housing boom which preceded the credit crunch. I am not so sure about that! But the outlook is currently good.

The scale of the Spanish depression

All of the hopeful news above needs to be put into perspective as the trends for employment and unemployment are good and positive but they come from a grim starting point. Also it is much better to look at unemployment as I am afraid that registered unemployment as a measure is easier to manipulate as I have regularly pointed out when looking at the UK. The catch is that we find ourselves awaiting timely data.

The unemployment rate stands at 23.70%, three hundredths over that of the previous quarter. Within the last year, the unemployment rate decreased by more than two percent
points, from 25.73 in the last quarter 2013.

The numbers above are from the end of 2014 and what they give us is an estimate of the scale of the economic depression which hit the Spanish labour market. An improvement of 2% in the unemployment rate is ordinarily very welcome but is dwarfed by even the new better rate of 23.7%. Indeed back then there was a worrying nudge higher in quarterly terms.

The number of unemployed persons increases by 30,100 persons this quarter, standing at 5,457,700 persons.

Employment was troubled too as whilst the overall numbers grew the situation was part-timers replacing full-timers. Yet another country could do with a reliable underemployment measure.

ECB policy is a potential problem

You are unlikely to read this much elsewhere is at all so let me explain. The boost to the Spanish economy has come to a large extent from lower prices as the Bank of Spain admitted above. However the very same Bank of Spain is trying to drive prices higher vis the QE (Quantitative Easing) program of the ECB! Accordingly it is harming the economic expansion rather than aiding it. From the Minutes of the March ECB meeting.

 All in all, the Governing Council’s decisions of 22 January 2015 had made a strong contribution in confronting the risks of too prolonged a period of low inflation and had given grounds for confidence.

There did not seem to be too many risks for the Spanish economy and the Spanish people did there. Perhaps the ECB was really thinking of what is the central banking fashion of these times.

Euro area equity markets had continued to perform strongly after the expanded APP announcement.

That is certainly true about the IBEX 35 in Spain which has risen more than 15% in 2015 so far. Also other asset markets have been rising too as of course the Spanish bond market has been pushed higher by the purchases made by its central bank. This morning has seen a by-product of that as for the first time ever Spanish debt has been sold at a negative yield. Marginal perhaps at -0.02% for some six months Treasury Bills but nonetheless negative.

However both the yield above and the 1.17% ten-year government bond yield are really extraordinary if we consider that Spain has an economy growing quickly. Not only are markets being distorted but there are genuine dangers that by raising inflation the ECB will not encourage economic expansion it will cut it.


As the sun shines so regularly in Spain let me welcome the change in its fortunes with this from the Beatles.

Here comes the sun, here comes the sun
And I say it’s all right

Little darling, it’s been a long cold lonely winter
Little darling, it feels like years since it’s been here

Here comes the sun, here comes the sun
And I say it’s all right

However the economic boost provided by the falls in oil and commodity prices and some of the earlier policies of the ECB are in danger of being slowed and maybe stopped by its present burst of QE. What is wrong with economic expansion combined with gently falling prices,after all some of the impact of the oil price on inflation is wearing off on its own as the oil price finds a level (for now at least)? Thus we see that the immediate outlook is good but that for later this year may not be as positive. Shame. Or rather shame on you ECB. It would do better saving its ammunition for future years to deal with the problems that will arrive then. From the overall formal employment report.

This is mainly due to the decrease of working age population (16-64 years old), whose essential cause is population ageing.


Number Crunching

Official intervention seems to have regular misfires as this from The Spain Report points out. Here is an analysis of the Spanish high-speed railway network.


“Either the initial calculations were done badly or they weren’t done at all”, he said: “they didn’t build them thinking about profitability but about the political benefits”.

50-year studies of financial viability carried out by FEDEA show none of the major Spanish high-speed lines comes close to profitability.

Perhaps the most damning part of it was this.

The Madrid–Seville high-speed line is approximately the same length as the Tokyo–Osaka or Paris-Lyon lines, but carries only 3.8% of the passengers each year compared to the Japanese version, or 20% of the passengers compared to the French route.

3.8%? It is a shame in a period which is good for both the Spanish economy and its people that we find ourselves mulling that officialdom is overruling the very same markets which have given it a boost. And their skill set appears, and let’s be polite, to be limited.






Lower prices are providing quite an economic boost for the UK, Spain and Ireland

Today I wish to reinforce a theme I established a couple of months ago, back on the 29th of January to be precise. This goes against the economic orthodoxy which tells us that consumers when faced with lower prices then expect even lower prices and defer consumption. Frankly that always looked dubious to me in a country like ours as the UK these days seems to be to be something of an instant gratification nation unlikely to be able to wait long for anything. Also even before these times of economic difficulty we had seen falling prices for many electronic goods and we saw booming sales of mp3 players I-Pads and the like rather than falls. Back on the 29th of January I reinforced the case in this fashion.

The results were fueled by all-time record revenue from iPhone® and Mac® sales as well as record performance of the App Store℠. iPhone unit sales of 74.5 million also set a new record.


This led me to this conclusion.

However if we look at the retail-sectors in the UK,Spain and Ireland we see that price falls are so far being accompanied by volume gains and as it happens by strong volume gains. This could not contradict conventional economic theory much more clearly.


And a subset conclusion about the likely behaviour of a profession that is prone to stuck in the mud type thinking.

If the history of the credit crunch is any guide many will try to ignore reality and instead cling to their prized and pet theories.


UK Retail Sales

My theory and theme received considerable reinforcement from yesterday’s UK Retail Sales data which were very strong and provided another sign that it has been a solid first quarter for the UK economy.

Year-on-year estimates of the quantity bought in the retail industry continued to show growth in February 2015, increasing by 5.7% compared with February 2014. This was the 23rd consecutive month of year-on-year growth and the longest period of sustained growth since May 2008 when there were 31 periods of growth.


Quite a powerhouse performance when we consider that UK consumer inflation was on its way to disappearing in February. But we get an even more significant implication if we look at retail price behaviour over the past year and the emphasis is mine.

Average store prices (including petrol stations) fell for the eighth consecutive month, falling by 3.6% in February 2015 compared with February 2014. This is the largest year-on-year fall since consistent records began in 1997. Once again the largest contribution to the year-on-year fall came from petrol stations, which fell by 15.5%, the largest year-on-year fall in this store type on record.


So for the deflationistas we should be seeing large amounts of deferred consumption to take advantage of expected lower prices in the future. It is not so easy to square that with year on year growth of 5.7% in the retail sector is it?! Indeed we are seeing quite the reverse as around 60% of the increase in the volume of retail sales is due to the effect of lower prices enhancing volumes. Furthermore if we drill down to the latest three months which is the period where consumer inflation has lurched down to zero we see this.

The underlying pattern in the 3 month on 3 month movement in the quantity bought continued to show growth for the 24th consecutive month, increasing by 2.0%. This was the longest period of sustained growth since November 2007


The doom,doom,doom theories of conventional economics should instead be listening to the Outhere brothers.

I say boom boom boom let me hear u say wayo
I say boom boom boom now everybody say wayo


What is happening here?

We find ourselves examining a much longer-term theme of this blog which is that the above target consumer inflation in the UK which the Bank of England “looked through” contributed to a decline in real incomes and therefore had a contractionary impact as opposed to the promised expansionary one. However now we found ourselves in an environment where even the current level of weak wage growth -let us hope that this was a one-off- is higher than consumer inflation and is much higher than inflation in the retail sector. We do not have a like-for like comparison but even the 1.1% wage growth of January will make consumers and workers feel better off when it faces the 3.6% fall in prices in the retail sector in the year to February. Put this way we have quite considerable real wage growth here and accordingly no wonder we are seeing a boom.

An International Perspective

Y Viva Espana

Back on January 29th I also established the view that disinflation was providing an economic boost for Spain too. As you can see below prices are falling in Spain.

The Harmonised Index of Consumer Prices (HICP) annual change stands at –1.2%, thus it increases three tenths as compared with January.


Indeed prices have been falling in Spain since last July, so much more time for the deflationistas doom-doom cycle to kick in. Er well not quite at least not according to the Bank of Spain…

During 2015 Q1 the economy saw a continuation of the expansionary path of the previous year. On the information available, GDP is estimated to have grown at a quarter-on-quarter rate of 0.8% in Q1, which would take its year-on-year rate of change to 2.5%. This estimate marks a slight acceleration in activity on the final stretch of 2014.


Against this backdrop, estimated GDP growth for 2015 has been revised upwards to 2.8%. This 0.8% revision of the projection.


So rather than collapsing in on itself in the fashion of a black hole the Spanish economy is for now at least showing hints of escape velocity. The Bank of Spain launches itself on a rather wordy explanation of all this but does at one point approach something of a singularity in its explanation of what is causing at least part of the expansion.

the decline in prices


Of course it is taking its part in the ECB QE effort to end this boost to the Spanish economy, but I will leave that as a matter for them and the consciences.


It would be remiss of me to not also examine the data of the third country from my original analysis which is the Emerald Isle which is currently basking in its Six Nations rugby triumph. How is the economy doing? Well it has falling prices.

Prices on average, as measured by the EU Harmonised Index of Consumer Prices (HICP), decreased by 0.4% compared with February 2014.


So the economy has collapsed? You no doubt have guessed the answer but I doubt that you guessed the scale of it.

The  volume of retail sales (i.e. excluding price effects) increased by 3.3% in January 2015 when compared with December 2014 and there was an increase of 8.8% in the annual figure.


The motor trade has surged over there. Whilst this is not quite like for like as Ireland is tardy with some of its data we see that it is certainly boom-boom rather than doom-doom.


So far the evidence is clear that disinflation is producing boom-boom rather than the doom-doom of conventional economic theory. Of course we have finite evidence and there are other factors impacting at the same time. These can offset the gains as we have seen in Greece. But we get a reinforcing note from the other side of the coin. You see Japan is the ying to this yang as it has forced consumer inflation higher via its consumption tax rise and Yen depreciation. How is that going? From Japan Today earlier.

Separate data from the ministry showed household spending dropped for the 11 months in a row since the tax hike, falling 2.9% on-year in February.


Now of course the higher tax rate had an impact but so in my view has the higher level of prices. Accordingly unlike the Bank of Japan I see the fact that its adjusted favourite measure of inflation has fallen to 0% as a benefit and not a loss.

Ben Broadbent speaks

We are in the season for Bank of England speeches and Mr.Broadbent has made a case for QE which must sound weak even to his own ears.

For one thing I think the evidence suggests that unconventional policy is effective: even if they don’t circumvent it entirely, asset purchases help soften
the constraint of the zero lower bound.


Oh and the zero lower bound is back to 0.5% Base Rates again in a version of the hokey-cokey as one speech puts it back and the next dismisses it.

Also after Mark Carney’s speech on the Euro you might think that attacks on other countries policy would be a no-no. I guess many will miss the implied criticism of Denmark, Switzerland, Bulgaria et al.

 if it’s not ruled out by an exchange rate peg


Still if they complain he could take a leaf out of the lyrics of Luther Vandross.

Out of my head to say the things I said
I didn’t mean a word

And I really didn’t mean it