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Bond markets signal 'Japanese' slump for US and Europe The global credit markets are braced for deflation and perhaps depression By Ambrose Evans-Pritchard, International business editor The Telegraph (London) August 19 2011 Panic flight to safety has pushed the yield on 10-year US Treasuries below 2pc for the first time in modern American history, exceeding the extremes of the Lehman crisis and the banking crash of the 1930s. Investors scrambled to buy the bonds of strongest industrial states on Thursday on fears of a double-dip recession on both sides of the Atlantic and a European banking crash, driving down their returns to investors. German yields fell to 2.08pc and Switzerland's 3-month rates have turned deeply negative. Markets were stunned by a plunge in the manufacturing index of the Philadelphia Federal Reserve to minus 30.7 in August from plus 3.2 in July, one of the most violent falls ever recorded. "It is a catastrophic collapse," said Rob Carnell from ING. "Markets are in a fearful state right now, and data like this gives them plenty of excuses to panic." Andrew Roberts, credit strategist at RBS, said investors are haunted by fears that European banks may have lost full access to America's $7 trillion markets, leaving them at imminent risk of a dollar squeeze. An unidentified European lender had to tap $500m from the European Central Bank's (ECB) swap line with the Federal Reserve, indicating that it had been shut out of the markets. US investors have brought down the guillotine since the EMU debt crisis spread to Italy and Spain, and Germany vetoed any form of eurobonds or fiscal union. "This is what has kicked [off] the latest turbulence," Mr Roberts said. Ewald Nowotny, Austria's central bank governor and an ECB member, told newspaper Wirtschaftsblatt there was a "growing reluctance" within US money market funds to finance the Europeans, though he blamed the cut-off on a change in US banking regulations. Mr Nowotny said a global double-dip recession was unlikely but said nobody should be complacent because "we have learned painfully from history" that a global slump can strike unexpectedly. His personal fear is an insidious slide towards "Japanese" stagnation in Europe. The Bank for International Settlements said German, Dutch, Swiss and British banks together have a US dollar funding gap of around $1 trillion. The global dollar gap is $5 trillion, reflecting the continued use of the greenback as the base for international finance. This means that severe market stress sets off a scramble for dollars, akin to a global margin call. "It won't take much for the interbank market to collapse," said Lars Frisell from Sweden's Riksbank. "It is extremely important that we don't see a repeat of the situation in 2008." Morgan Stanley warned that both Europe and America are "dangerously close to recession". The banks said a repeat of the Lehman meltdown in 2008 is unlikely since households and companies have healthier debt levels today, but the risk is there if the eurozone drifts into a policy blunder and allows the default of a sovereign state. "This could bring down the whole financial system," it said. Elga Bartsch, the bank's Europe economist, said euroland remains the "weakest link" in the global chain. "The risks of another shock pushing the region over the edge are significant," she said. The southern European states cannot resort to emergency stimulus to cushion the downturn and may have tighten fiscal policy to satisfy the bond vigilantes. Ms Bartsch said the ECB may have to reverse its tightening cycle and start cutting interest rates in early 2012. European bank shares were crushed in a cascade of selling, with Societe Generale off 12pc, Commerzbank 10pc, and Intesa Sanpaolo 9pc, Credit Agricole 7pc, and Deutsche Bank 6pc. Curbs imposed by several exchanges on the short-selling of equities appears to have had no relevant effect. Andreas Schmitz, head of the German banking federation, called on Europe's leaders to stop dithering and accept that there will have to be changes to the Lisbon Treaty and a profound reform of the Maastricht system if monetary union is to survive. "In the end it comes down to the question of whether we're willing to move to a 'transfer union', or whether we let the euro break down or we retreat to core-euro. Monetary union is not going to collapse because of the weaker members, but because of the stronger one," he said in a thinly-veiled criticism of German leadership. Jacques Delors, the ex-president of the European Commission and the euro's "godfather", pleaded for a "partial mutualisation of debts" to save the European Project and prevent the EU degenerating into a "mere free-trade zone". "Open our eyes: the euro and Europe are on the brink of the abyss. From the start of the crisis Europe's leaders have refused to face reality," he told Belgium's Le Soir, saying it was staggering European leaders had gone on holiday after the EU's July summit without activating the emergency measures agreed. Mr Delors said French policy had been reduced to "trying to stop Germany abandoning ship: but the oversized ego of Nicolas Sarkozy is proving an impediment." "Besides, it has to be admitted that Europe is no longer a motivating issue for the French," he said. ________________________________________________ Send list submissions to: Marxism@greenhouse.economics.utah.edu Set your options at: http://greenhouse.economics.utah.edu/mailman/options/marxism/archive%40mail-archive.com
