Collection of Interesting, Worth Reading NEWS, ANALYSIS & ARTICLES

Is this another victim of the financial crisis. I don't think so. I have lived in California and the problems that are highlighted in the article are not new. California faced the same or similar issues in good times as well. Just stumbled upon this very interesting article. I was in California for 3 years and thank god I did not chose to be based in California after I returned to US.

The tagline of the article is "As California ceases to function like a sensible state, a new constitution looks both necessary and likely".

ON MAY 19th Californians will go to the polls to vote on six ballot measures that are as important as they are confusing. If these measures fail, America’s biggest state will enter a full-blown financial crisis that will require excruciating cuts in public services. If the measures succeed, the crisis will be only a little less acute. Recent polls suggest that voters are planning to vote most of them down.

The occasion has thus become an ugly summary of all that is wrong with California’s governance, and that list is long. This special election, the sixth in 36 years, came about because the state’s elected politicians once again—for the system virtually assures as much—could not agree on a budget in time and had to cobble together a compromise in February to fill a $42 billion gap between revenue and spending. But that compromise required extending some temporary taxes, shifting spending around and borrowing against future lottery profits. These are among the steps that voters must now approve, thanks to California’s brand of direct democracy, which is unique in extent, complexity and misuse.

A good outcome is no longer possible. California now has the worst bond rating among the 50 states. Income-tax receipts are coming in far below expectations. On May 11th Arnold Schwarzenegger, the governor, sent a letter to the legislature warning it that, by his latest estimates, the state will face a budget gap of $15.4 billion if the ballot measures pass, $21.3 billion if they fail. Prisoners will have to be released, firefighters fired, and other services cut or eliminated. One way or the other, on May 20th Californians will have to begin discussing how to fix their broken state.

Read the full article HERE.

FOR years leaders in continental Europe have been told by the Americans, the British and even this newspaper that their economies are sclerotic, overregulated and too state-dominated, and that to prosper in true Anglo-Saxon style they need a dose of free-market reform. But the global economic meltdown has given them the satisfying triple whammy of exposing the risks in deregulation, giving the state a more important role and (best of all) laying low les Anglo-Saxons.

At the April G20 summit in London, France’s Nicolas Sarkozy and Germany’s Angela Merkel stood shoulder-to-shoulder to insist pointedly that this recession was not of their making. Ms Merkel has never been a particular fan of Wall Street. But the rhetorical lead has been grabbed by Mr Sarkozy. The man who once wanted to make Paris more like London now declares laissez-faire a broken system. Jean-Baptiste Colbert once again reigns in Paris. Rather than challenge dirigisme, the British and Americans are busy following it: Gordon Brown is ushering in new financial rules and higher taxes, and Barack Obama is suggesting that America could copy some things from France, to the consternation of his more conservative countrymen. Indeed, a new European pecking order has emerged, with statist France on top, corporatist Germany in the middle and poor old liberal Britain floored.

NOBODY talks about “decoupling” any more. Instead, emerging economies are sinking alongside developed ones. In 2008 emerging stock markets fell by more than those in the rich world, and financial woes forced countries such as Hungary, Latvia and Pakistan to go cap in hand to the IMF. Taiwan’s exports have plunged by 42% over the past year, and South Korea’s by 17%; even China’s have shrunk. Singapore’s GDP fell by an annualised 12.5% in the fourth quarter of 2008, its biggest drop on record. Is this the end of the emerging-market boom?

Over the five years to 2007, emerging economies grew by an annual average of more than 7%. But in the past three months their total output may have fallen slightly, according to JPMorgan, as the fall in exports was exacerbated by a sudden drying up in trade finance. For 2008 as a whole, average growth in emerging economies was still above 6%, but recent private-sector forecasts suggest that this could slip to less than 4% this year. That is grim compared with the recent past, though still robust set against an expected 2% decline in the GDP of the G7 countries.

Short-term pain is only to be expected. But some economists argue that emerging markets’ longer-term prospects have been badly hurt by the global financial crisis. From Brazil to China, they claim, the boom was driven largely by exports to American consumers, easy access to cheap capital and high commodity prices. All three props have now collapsed. In particular, as America’s housing bust causes households to save more, they will import less over the coming years. This could reduce emerging economies’ future growth rates.

JAPAN developed rapidly after American gunboats opened it to trade in the late 19th century. Within 40 years, Emperor Meiji led his once-feudal country into the modern world economically (and, alas, militarily). To do so, the state bought Western technology such as factory machines, railroads and telegraph lines. But until the turn of the 20th century it did so by eschewing foreign loans, which were equated with a loss of sovereignty.

How did a poor country like Japan obtain the foreign currency to pay for such products? The answer was exports: first, of light industrial goods such as raw silk and pottery; later, of heavier materials, including steel and chemicals. It was a huge success. In the 1860s Japan’s small-scale cotton-textile industry was nearly decimated by European imports. By 1914, however, after buying automated cotton spinners, the country sold half of its yarn production abroad, which accounted for one-quarter of the world’s cotton yarn exports.

Thus the “Asian model” of export-led growth was born. The region was inspired by Japan’s lead before the second world war and its economic resurrection afterward. In the 1960s Asia’s four “tiger economies” (Singapore, Hong Kong, Taiwan and South Korea) imitated Japan and flourished. South Korea’s bureaucrats, for example, protected domestic firms and funneled them cheap loans under the condition that they exported their wares.

China also boomed after opening its economy in 1978. Its “special economic zones” were designed to attract foreign capital—initially from Chinese businessmen in Hong Kong and Taiwan—to build factories for export production. Malaysia, Thailand, Indonesia and later Vietnam all forged similar export-led paths to growth.

Read the full article HERE

Regulators struggling to fix the world’s troubled financial institutions may take heart from the experience of China’s large state-owned banks. In the late 1990s, Chinese state lenders were all but insolvent, with nonperforming loan ratios at many banks exceeding 50 percent. A decade later, China’s state banks have found their footing—and have managed to keep it amid a global financial crisis that has their European and US counterparts reeling. The bad-loan ratio has been reduced, and this year China’s state banks expect solid profits and continued rapid growth—despite the global downturn. What’s more, top bank executives express confidence in their capacity to heed government instructions to boost lending while effectively controlling credit risk.

Industrial and Commercial Bank of China (ICBC) is generally regarded as the strongest of China’s state-owned bank giants. It is also the largest bank by market capitalization and total profits—both in China and the world—with total assets of more than $1.4 trillion. ICBC chairman Jiang Jianqing met recently with McKinsey’s Dominic Barton, Yi Wang, and Mei Ye to share his thoughts on corporate governance, risk management, and the origins of the financial crisis.


Read the full article HERE. You may need to register at the McKinsey website. Its Free.

The recent bailout of Romania by the International Monetary Fund puts the spotlight back on the East European block of countries and what it means for the Western European banking sector. If evidence is anything to go by, things are turning for the worse. In fact, if a block of countries could be termed 'sub-prime', Eastern Europe seems to qualify as the countries seem to have been battered and bruised big time by the ongoing global financial turmoil.

With the financial contagion going beyond the developed West, few countries seem to be as hard hit as these are. These are the countries that had earlier benefited tremendously from the cheap global credit which helped them finance the consumption and investment boom.

They ratcheted up large external debts to fund their ambitious growth. And now they are feeling the pain. The freezing of money markets in the United States and Western Europe, followed by a sharp increase in credit risk subsequent to the Lehman Brothers bankruptcy, drove investors into a liquidity scramble.

In Eastern Europe, these events translated into capital repatriations, lower foreign investment and higher risk premiums. The slowdown in the developed economies and, finally, the onset of the recession in the second part of last year brought a fall in Eastern European exports, which further exacerbated the downfall.

This is amply evident from the fact that for most of these economies, current account balance has deteriorated like nobody's business over the last few years.

In fact, IMF data shows that, on an average, the current account deficit for this region more than doubled between 2003 and 2008.

Consequently, the region's currencies also plummeted. Banks in Hungary and the Baltic states fueled consumer boom in recent years by lending heavily in foreign currency, most notably Euro and the Swiss Franc. Sometime, more than 50 per cent of a local bank's loan portfolio was in foreign currency.

Consumers were demanding loan in foreign currency simply because these carried lower interest rates. Things were fine as long as the currency remained stable or even appreciating. But a sharp depreciation in the values of the local currency over the past year has increased the loan burden substantially, leading to deeper recessions and the banks facing heavy loss. Not surprisingly these economies are skating downhill.

Hungary and Ukraine has already turned to the IMF for multi-billion-dollar bailouts, and Romania turned out to be third in the list as IMF said on Wednesday (March 25, 2009) that it would come to the rescue of Romania as part of a Euro 20 billion financing package to help it weather the financial crisis.

Next in line seem to be the Baltic countries which are suffering one of the most severe recessions of any region. Estonia and Latvia are expected to have seen their economy recording negative growth in 2009, while for Latvia the growth rate was down by nearly 60 per cent.

This is a frightening development indeed. As mentioned earlier, we are virtually staring at a group of countries that are looking increasingly like sub-prime.

Recently, Credit Suisse released a scorecard which is called Vulnerability Scorecard for countries. This scorecard ranks a number of countries around the world on factors usually taken into consideration when assessing the credit quality of sovereign debt. The same is produced below.

Not surprisingly Iceland is at the top. This country has become a poster boy of doom invited by reckless policies. But what is more important to note is that in the top 14 countries in the above lists, eight are from Eastern Europe. Fortunately for us Indians, we are in a much better position at 25.

This brings to fore, the question of the likely implication of the deteriorating condition in Eastern Europe on the Western European financial sector.

Before we go into this, a brief recounting of history is in order. In Eastern Europe, banks were privatised during the 1990s and early 2000s. The preferred method of privatization was the sale of a majority stake in a local state-owned bank to a big foreign banking group, deemed capable of restructuring it and making it profitable.

Consequently, nowadays most banks in the region -- and especially in those countries that are now members of the European Union -- are owned by big Western Europe groups. The Eastern European subsidiaries of all of these banks, often among the largest in their home countries, form a significant share of their assets.

What also led to this scenario is the European regulation which has allowed European banks to take on much more leverage than their American counterparts.

In Europe, unlike in the United States, it is only risk-weighted assets which matter to the regulators, not the total leverage ratio. European banks can therefore apply a lot more leverage than their US counterparties, provided they load their balance sheets with higher rated assets.

This is what they have been doing. Problem is, what was AAA couple of years earlier is possibly a junk now. And, clearly that's a problem.

Data from Bank for International Settlements (BIS) puts things in perspective.

And because of this huge exposure, the growing crisis in Eastern Europe is now proving critical to their financial health. Furthermore, a fall of any one of these banks due to losses on their operations in Eastern Europe will add a new threat to the stability of the European financial system.

The next chart produced, identifies the Western European countries that have more exposure to East Europe.

Going by this, Austria is the country most at risk. It is followed by Germany and Italy. However, to understand the real problem, it is important to bring the size of the economy to focus which will give the extent of risk at relative level. Doing so brings about an interesting situation.

Clearly, Austria is the country that is at maximum risk with exposure topping 60 per cent. Their top four exposures are in Czech Republic, Romania, Hungary and Slovakia. Of these, Romania and Hungary are already facing problems.

Banks of other Western European countries are at relatively less risk. However, at 20 per cent plus, Belgium and Sweden are still at high risk. Sweden, in particular, is at more risk because they have maximum exposure to Baltic countries which has been impacted the most by the recent turmoil.

To conclude, it turns out that Eastern Europe has now become the sub-prime borrower of Western Europe. As was the case with the US mortgage borrowers, both the public and private sector in Eastern European countries are highly leveraged while falling currencies and declining output mean lower income in the immediate future.

Because of the deepening recession in the United States and Western Europe, the Eastern European countries are moving quickly into negative growth rates as well. And with them comes the increased risk of default on debts. Seemingly, there is a long way to go before all the risk plays out in Europe.

The global trade is declining. WTO estimates that the global trade will decline 9% this year against a 2% increase in 2008. It was even at a 6% increase 15 months ago. Is it because of protectionism that made the 1930s recession a great depression or is it because of falling demand. Thankfully it is because of falling demand.

UK's Story (March 25th 2009):
In a reminder of how bad things are across the globe, the U.K. failed to find enough buyers for $2.55 billion (1.75 billion pounds) in gilt-edge bonds, Bloomberg is reporting. This is debt that the U.K. is attempting to sell to raise money to help the country out of its recession. The snub marks the third time in the past 10 years Britain has been unable to complete a debt auction. This is bad news on its face, but it could be worse news going forward: Prime Minister Gordon Brown hopes to sell $214 billion worth of debt this year and an additional $215 billion next year. The Treasury was able to sell $2.4 billion worth of the 40-year securities, leaving some $100 million worth of debt unsold. The failed auction could be a bad sign for a number of nations that hope to sell debt to raise money to dig out of the recession. The United States plans to triple its debt sales this year to a record $2.5 trillion. Germany, by comparison, plans a far more modest $470 billion debt offering this year.

Ireland's Story (March 25th 2009):
Ireland's successful sale of €1bn in bonds, in its first auction since 2005, showed investor concern about the risk of default is overblown and the securities offer value, investment bank ING said yesterday. The National Treasury Management Agency (NTMA) sold the bonds to raise cash as the economic slump hoovers up tax revenue. Irish 10-year bonds rose after the auction, reducing the spread between the securities and German benchmark notes to the narrowest in three weeks. The cost of insuring against a government default also declined, credit-default swap prices showed. "This is an opportunity to buy," said Padhraic Garvey, head of investment-grade bond strategy at ING in Amsterdam. "Ireland's bond spread overshot and talk about the country potentially defaulting on its debt was just ridiculous and far-fetched." The three-year €300m bond was 3.8 times oversubscribed while the 10-year €700m was 2.7 times over, the NTMA said. "The healthy demand is really good news," said Rossa White, chief economist at Davy Stockbrokers. Moreover, spreads on the 2020 note have tightened by 30 basis points in the secondary market already, he added. Analysts added that the CDS went too far in February when worries about Ireland were at their highest, and it has now converged with the cash market. The spread between Irish and German 10-year debt narrowed 24 basis points yesterday to 249. The average spread during the past 10 years between Irish and German 10-year debt was 18 basis points, according to Bloomberg analysis. However, market watchers added that the key event in the Irish economic calender is the April 7 Budget. "If hard decisions are made on current Government spending, we could see a significant further tightening of Irish spreads vis-a-vis Germany," Mr White said. Although this was the first auction in some time, Ireland has already had several fund raisings via syndication whereby governments use banks to find buyers for the securities rather than offer the debt through auction. In January and February the NTMA raised €10bn in two bond sales via syndication. Other commentators were also cheered by the latest news. "Ireland chose a fantastic time to put their toes back in the water," said Peter Chatwell, a fixed-income strategist in London at Calyon, the investment-banking unit of Credit Agricole SA. "Risk appetite has improved and the spread is pulling in, suggesting the auction inspired a lot of confidence."

Analysis:
Clearly amidst the doom and gloom this is excellent news, without wanting to understate the serious challenges that lie ahead - they obviously see something we don't! But the markets seem to be suggesting that either Brown is complete nuts if the UK cannot raise 1.75bn at a gilt auction and he is hoping for 150bn of borrowing or Ireland is taking the pain quick and fast for their liking. Me thinks the latter is of utmost importance. Ireland is x4 over subscribed on it's debt raising! This is extremely good news. The markets are willing to lend to trusty Ireland in vast amounts. The borrowing plans of the UK look shaky and ridiculous now and the risk of default has suddenly shifted from Ireland onto UK. Mervin King, the head of the Bank of England, before this auction warned that not only where the public finances out of control but that a second stimulus plan was unaffordable. This means the UK, having failed to raise debt, is having to print that money right now...that means inflation is becoming a risk in a declining economy which in turn raises the horrid specter of hyper inflation should the BOE go too far. It is all a big game of chess. The UK has to take action should a second gilt raising exercise fail and dramatically cut down on spending like Ireland has done. Brown won't be able to keep his stimulus in full after this fiasco. Unlike Ireland which has received a huge boost - this was a pretty big warning shot for the UK. "Don't take the markets for granted".

The plan announced this week by the US Treasury secretary Tim Geithner is designed to clear away a large load of so-called “toxic assets” clogging up America’s financial system. But what are these assets? And how will the plan work?

Financial Times provides a very good video explanation that even the beginners can understand.

Before reading further just make a guess after glancing at the headline of this post.

According to the Bank for International Settlements, the notional value of over-the-counter derivatives worldwide reached a mind-boggling $684 trillion last summer. That's more than six times the scale they had reached by 2002 when Warren Buffett dubbed derivatives "financial weapons of mass destruction".

Perhaps the trillions pledged can plug the leaks from subprime mortgages and failed auto loans, but can we reasonably expect to keep a derivatives market afloat that is at least eight times the size of a contracting global economy? I don't know, but I sure hope Bernanke and Geithner do.

The following table provides as precise an accounting of the crisis as the public record presently permits. After calculations, the combined total of existing, announced, and potential outlays from the Federal Reserve and U.S. government agencies that are directly attributable to the financial crisis will breach $13 trillion! Now match this figure with the guess you made at the start of this post. Did it match? I am sure it did not; at least mine didn't.

The adopted strategy of spending to bring United States out of this mess by propping up the system with loans and guarantees has now been etched into stone ... there is no turning back. To the contrary, experts fear the only path ahead implies still further commitments of public funds and woeful undermining of the U.S. dollar. Lets keep our fingers crossed and hope this plan doesn't go underwater otherwise not only US but whole world will sink along with this titanic ship called United States.

As delegates gather for the G20 summit in London on 2 April, it is worth looking to the last time London hosted a world economic summit. In June 1933, delegates from 66 countries gathered in London to try and agree plans to revive the world economy in the midst of the Great Depression. The author of this report from BBC argues that though the crisis this time is different but need of political will and the global nature of both recessions are same. If correct lessons are not drawn from the 1993 conference failure then it may happen again. The author also aomments that being the largest economy, US has to be have the political will to solve the world's problem rather than having a double agenda just like that of FDR. April 2nd is not far. Lets see what happens.

Read the full BBC article HERE

Did you know (At least I didn't know) that another not so well known financial crisis happened a century ago? In early 1906, the US banker Jacob Schiff told a group of colleagues that if the United States did not modernize its banking and currency systems, its economy would, in effect, fall off a cliff — that the country would “have such a panic ... as will make all previous panics look like child’s play.”

Yet the United Sates failed to reform its financial institutions, and conditions deteriorated steadily over the next 20 months. There was a worldwide credit shortage. The American stock market crashed twice. The young Dow Jones industrial average lost half of its value.

In October 1907, when a panic started among trust companies in New York and terrified depositors lined up to get their money out, Schiff’s dire prediction seemed about to come true. The United States had no Federal Reserve, the Treasury secretary did not have much political authority, and the president, Theodore Roosevelt, was off shooting game in Louisiana.

J. Pierpont Morgan, a 70-year-old private banker, quietly took charge of the situation.

Sounds interesting? Read the full story HERE

Here is the mother of all rescue plans!!! As we all know (If you don't know please READ HERE) that among all the issues, issue of toxic assets in at the center of all the banks. This issue in turn is affecting the ability of banks to extend more loans and hence making things worse. As NY Times states, it is believed that there are around $2 trillion of troubled assets that are ruining the balance sheets of banks. In his effort to bring the market back to normal Mr. Obama is planning three pronged approach.

1. To facilitate the selling of banks' troubled assets, FDIC will set up special purpose investment partnerships and lend nearly 85% of money that the above said partnerships will be needing.
2. US treasury will hire few investment management firms and will match the private money on dollar-for-dollar basis.
3. US Treasury, in collaboration with US Federal Reserve, is planning to expand lending through Term-Asset Backed Security Loan Facility (TABSLF). This is more targetted towards the individuals and small businesses. To read more about TABSLF click here OR here.

Rather than just the government doing it alone, it want to encourage private investors (Such as Hedhe Funds, PE firms) whose sentiments are at the lowest and who have put their money under the mattress. To do that FDIC will provide nonrecourse loans — that is, loans that are secured only by the value of the mortgage assets being bought — worth up to 85 percent of the value of a portfolio of troubled assets. The remaining 15 percent will come from the government and the private investors. The Treasury would put up as much as 80 percent of that, while private investors would put up as little as 20 percent of the money, according to industry officials. Private investors, then, would be contributing as little as 3 percent of the equity, and the government as much as 97 percent.

This sounds like a good plan but this plan alone (apart from other rescue packages) gonna cost US a whopping $1 Trillion and there are so many treacherous complexities that haven't been resolved since the bush government was in power.

Just now read an article in the Portfolio Magzine that the scientists (Physicists, statisticians, earthquake specialists and others) are trying to predict the economic downturns and other economic messes related to finance, utilities, real estate, derivatives, hedge funds etc. The scientists cited in the article argue that these problems are very complex and economists are not even capable of solving those problems. They add that the fundamental assumptions of the economics that "people, firms and other economic agents act rationally" is flawed and is no longer valid because of added complexity of these large "systems". The article provides some real examples such as Illinois' power market and the state of Illinois avoided the Enron-like manipulation. The scientists believe that the technology exists to build the massive computer programs to map our entire economies and predict what will happen if things go awry. Very Impressive!!! If this can happen then I wonder what these nobel prize winner economist will do for a living. :-) :-)

The full article can be read HERE

Recently I stumbled upon an article on fixing the toxic asset problems of the US banks by Lowell Bryan and Toos Daruvala (Directors of the NY McKinsey Office). The article is well argued but as suggested it is just a conversation starter. They are arguing that mark-to-market (also called fair value accounting) is not good in times of high volatility and they are suggesting that mark-to-model approach is the best suited in these times. But they somehow overlooking the fact that mark-to-model has its own flaws because everybody will be having their own model and there will be no standards. On top of that investors are not fools who will believe the models of these financial institutions and they will still be more inclined towards the mark-to market model since value of a asset is its price in the market not in some formulae.

The original article can be read below:

I am starting my first entry with the some basics of the current state of the economy of the world. May of you would be wondering how this mess was created at the first place. Yes, the mess was created... it did not happen all by itself. You may say the cause to be greed, loose regulations or any other but something caused it. So read the following in the order they are written:

Financial Crisis for Beginners - There are lot of other articles on this page. If those interest you then do read them to get a full picture.

What is National Debt

Interest Rates for Beginners

Federal Reserve for Beginners

Bank Failures

Bank Runs

Above articles are basics. If you have some more energy to read then go through these articles as well. These are little more than beginner ones...

Primary Surpluses and Sustainable Debt Levels in Emerging Market Countries

Keynes Economics Theory

Keynes Theory being tested by Obama first time since it is written

The Recession Paradox: Spend Or Save?

Reviving The Economy: What Really Works?

And some other related ones that I thought will interest you are here...

How Hedge Funds and other investors are making money on toxic assets of banks

Wall Street on the Tundra (Iceland's Fall)