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IMF Director Christine Lagarde Sees “Crisis of Confidence”

There seems to be some kind of revival sweeping over Europe these days, with both economists, regulators and politicians suddenly starting to realize what so many have pointing out for several years: The global crisis is actually just getting started, the stimulus and the austerity measures are just not working and the financial markets has ditched most of what little confidence they once had in governmental and institutional leaders’ ability to solve basically systemic flaws in our economic system. Today, as the markets keeps tumbling, newly appointed IMF-boss, Christine Lagarde, is telling us that a “crisis of confidence” have aggravated the situation.

“The spectrum of policies available to the various governments and central banks is narrower because a lot of the ammunition was used in 2009.”

Christine Lagarde

“It is a combination of slow growth coming out of the financial crisis and heavy sovereign debt. Both fuel serious concerns about the capital and the strength of banks, notably when they hold significant volumes of sovereign bonds. Should banks experience further difficulties, further countries will be stricken. We have to break this cycle,” Mrs. Lagarde says in the interview with Der SPIEGEL. But when it comes to concrete solutions, she’s just as vague as any other politician. 

The journalists, Marc Hujer and Christian Reiermann, from Der Spiegel asks all the right questions.

But Mrs. Lagarde is an experienced politician, and her answers are exactly as precise or foggy as they need to be from the IMF point of view.

Here’s the first part of the interview:

SPIEGEL: Ms. Lagarde, the global economy is slowing, markets are volatile and banks have all but ceased lending each other money. Does the situation remind you of 2008 just before the investment bank Lehman Brothers collapsed?

Lagarde: Each moment in history is different from previous situations and it’s wrong to try to draw comparisons. At the International Monetary Fund, we see that there has been, particularly over the summer, a clear crisis of confidence that has seriously aggravated the situation. Measures need to be taken to ensure that this vicious circle is broken.

SPIEGEL: What does that circle look like?

Lagarde: It is a combination of slow growth coming out of the financial crisis and heavy sovereign debt. Both fuel serious concerns about the capital and the strength of banks, notably when they hold significant volumes of sovereign bonds. Should banks experience further difficulties, further countries will be stricken. We have to break this cycle.

SPIEGEL: What should be done?

Lagarde: When we look at the European situation, there has to be fiscal consolidation qualified by growth-intensive measures. In addition, there has to be increased recapitalization of the banks. Clearly, the two go together. The sovereign debt issue weighs on the confidence that market players have in European banks.

SPIEGEL: Don’t you think that your warning that €200 billion ($285 billion) might be missing in the balance sheets of European banks aggravates the situation of those banks?

Lagarde: In the course of our work on global financial stability, we are looking at the situation in Europe. We will publish the results of this work in a couple of weeks. More generally, we do see a need for recapitalization of European banks so they are strong enough to withstand the risks coming from sovereign borrowers and from weak growth. This is key to cutting the chains of contagion.

SPIEGEL: Is the world on the brink of a renewed recession?

Lagarde: We are in a situation where we can still avoid it. The spectrum of policies available to the various governments and central banks is narrower because a lot of the ammunition was used in 2009. But if the various governments, international institutions and central banks work together, we’ll avoid the recession.

SPIEGEL: At the moment, however, exactly the opposite would appear to be happening. Many governments have introduced austerity packages in order to make up for the vast expenditures made during the crisis. Is that wrong?

Lagarde: I wouldn’t pass general judgement on that because it’s going to be country-specific. For some countries, the path is fine and should continue as is. For others, some of the measures that have been taken are so strong, given the current deficit situation, that they can accommodate some relaxation — especially if the economy weakens further, and provided there is a clear medium-term consolidation path.

SPIEGEL: Do you consider Germany to be one of those countries which could do more to stimulate the global economy?

Lagarde: In the course of our annual country checks, our experts recently visited Germany. Their conclusion was that, under the circumstances, the fiscal consolidation path adopted by Berlin was perfectly fine.

SPIEGEL: For now.

Lagarde: Of course these things always depend on circumstances. Given Germany’s heavy reliance on exports, if demand weakens so much that it really changes the equilibrium, then it would need to be revisited.

SPIEGEL: By, for example, stimulating domestic demand?

Lagarde: Domestic demand is good for both the German economy and for the other economies surrounding Germany. I do think that domestic demand in Germany has improved since the time when I floated this idea as finance minister in France.

SPIEGEL: Given the economic climate, do you not think it dangerous when countries pass laws mandating a balanced budget, as France is considering?

Lagarde: It’s clearly a signal to market players. It shows investors the seriousness of the government’s commitment to the principle of balanced finances. The general intention behind it is good.

SPIEGEL: Would you like to see the US implement such a “debt brake” rule?

Lagarde: Each country must find the best way to signal to the markets that they are serious about public finances. The IMF has a lot of experience and we would be very happy to give a hand to those countries that actually are in the process of implementing a debt brake.

SPIEGEL: Do you think the austerity measures recently agreed to in the US go far enough?

Lagarde: Which ones do you mean?

SPIEGEL: The commitment, after weeks of disagreement about the debt ceiling, to cut federal expenditures by at least $2.4 trillion over the next 10 years.

Lagarde: Such long-term commitments are a good principle because they credibly signal an intention to reduce the deficit and consolidate public finances on a more stable course, for example in health care spending. It can indicate that a country will reduce the deficit in the medium term and yet still have enough room in the short term to put in place measures that will actually stimulate growth and help create employment.

SPIEGEL: Does the US need a new stimulus package?

Lagarde: We are in a situation of slowed growth and we have a confidence issue that culminated this summer with the downgrading of the US from its AAA status. As long as the US puts in place a credible medium-term adjustment plan, there is probably space at the moment to contain the short-term adjustment and take some of those growth-inducing measures.

Read part 2 of the interview with Chrisitine Lagarde at SPIEGEL Online:

“European Leaders Have Made Very Strong Commitments”

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Greece: Just Do It!

One might certainly wonder how long the stage managers in Brussels will let the Greek tragedy run, before they finally close down the show. It seems like the top leaders of EU are afraid of the consequences of a Greek default and a restructuring of the nations debt. But the consequences of doing nothing may be far worse.

“We therefore urgently need a thorough assessment of the systemic implications of a Greek debt restructuring.“

Guntram Wolff

As Guntram Wolff points out in a syndicated column by eurointelligence.com,  the opinions are divided whether or not a Greek debt restructuring would undermine the financial stability of the euro area . But, as Wolff also indicates, the current strategy of doing nothing may cause far worse problems.

In fact, no one can say for sure what will be the result of a Greek default and a restructuring of the nations debt.

But one thing is for sure; the longer the EU and IMF wait to come up with a solution, the longer we have to wait for our economy to recover.

And most important of all: we have to get all the facts regarding Greek debt on the table.

As this blogger has stressed a thousand times, market confidence will not return before a transparent financial system is in place.

Mr. Wolff makes an additional good point about this being a natural task for the  newly established European Systemic Risk Board (ESRB) to take on.

Here’s the full article:

Among the most vocal opponents of a restructuring, ECB’s board member Bini Smaghi has argued that a restructuring would severely undermine the stability of the Greek banking system and euro area financial stability as a whole.

He may be right.

Others, however, argue that a sovereign restructuring is manageable, pointing out to the low exposure of German and French banks to Greek debt.

The Greek banking system could even be restructured and taken over by foreign banks.

Moreover, they dismiss the idea that a restructuring would lead to contagion beyond the countries that are already under EU/IMF assistance. Hence they argue that this would not be comparable to a second “Lehman Brothers”.

Given this uncertainty in the assessment of what a restructuring of debt with private sector involvement means, European decision makers have so far erred on the side of caution, preferring to commit significant amounts of tax payers’ money instead.

However, the election success of the True Finns has shown that such a policy has limits.

We therefore urgently need a thorough assessment of the systemic implications of a Greek debt restructuring.

The ESRB is the institution uniquely placed to make such an assessment.

First, it has probably the best access to the kind of data needed to make such an assessment.

The ECB – providing a large part of the infrastructure of the ESRB – knows which banks use Greek bonds as collateral for the open market operations and should therefore have a good picture of exposure to Greek bonds.

The ECB should also have fairly detailed information on the interbank market, from which contagion across banks can be assessed.

Last but not least, the ESRB has the legal authority to request data from the national and European supervisors needed for such an assessment.

The assessment would obviously have to take into account the possible contagion effects.

Second, the ESRB is the European institution with the legal mandate to warn about systemic risk..”

A warning from the ESRB that a Greek debt restructuring undermines the stability of the financial system of the EU would enjoy great credibility since its General Board includes among its members central bank governors, national supervisors and the chairs of the European Supervisory Authorities.

To further increase the credibility of the warning, the ESRB could choose to publish its warning.

Publication would also help convincing voters that a bail-out is in their own best interest if, indeed, a systemic risk exists.

Conversely, in the absence of a warning from the ESRB, EU decision makers as well as voters should rightly assume that a restructuring would not constitute a systemic risk and would not undermine the financial stability of the euro area.

They could then confidently move to the task of involving the private sector in the restructuring.

Could the ESRB have a different opinion than the ECB’s current opposition against restructuring?

The ESRB is of course dominated by central bankers and might therefore be similarly risk averse as the ECB.

However, in the ESRB central bank governors of all 27 member states are present.

Already now, one can see substantial differences in the assessment of some of the central banks of the euro zone.

As regards the central banks outside the euro area, little is known to date as regards their opinion on the issue.

Moreover, one should not underestimate the importance of the other members of the board, including the non-voting members, who will voice their opinion.


At the end of the day, the decision will crucially depend on how convincing the analysis prepared by the ESRB staff will be.

Different degrees of risk aversion will only play a role if the analysis does not allow for a clear decision. In that case, the ESRB may opt to be risk averse, not least because it will fear to lose its reputation.

Whith respect to timing, the second half of 2011 would be the right time for the ESRB to undertake such an assessment.

This is important in particular for Greece.

Greece will have to return to the market on a large-scale in 2012.

If the market refuses to provide finance, Greece will either need a new program or it will need to reduce its debt burden through a restructuring.

Clearly, a decision will have to be made earlier to avoid further risks.

Guntram Wolff

A clear communication strategy would help mitigate short-term risks.

In the absence of a contagion warning, EU decision makers should move ahead with restructuring not to strain the financial stability of the euro area any further.

It is time to act for the ESRB.


By Guntram Wolff

Mr. Wolff is a scholar at Bruegel in Brussels.


Article syndicated by www.eurointelligence.com


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Options: Highest Put/Call Ratio Since Lehman

The cost of three-month put options to sell the Standard & Poor’s 500 Index is almost twice the price of calls to buy, the highest ratio since July 2007, according to data compiled by Bloomberg. Investors are paying a high price to hedge against a drop in the US stock market.

“We are buying puts and protection across the board. There are many open fronts, too many question marks.”

Sergi Martin Amoros


The end of the Federal Reserve’s Treasury repurchase program is prompting options traders to pay the most in four years for protection against stock declines, a signal that proved bullish in the past, Bloomberg reports.

The cost of three-month put options to sell the Standard & Poor’s 500 Index is almost twice the price of calls to buy, the highest ratio since July 2007, according to data compiled by Bloomberg.

The last 17 times that so-called skew rose as high, the benchmark gauge for American equities climbed a median 3.9 percent over three months, data compiled by Bloomberg show.

Traders are loading up on insurance in the options market on speculation policy makers will halt their program of quantitative easing in June.

“A Major Trend”

Similar purchases preceded gains in the past because they meant professional investors who use the contracts as hedges are buying stocks, said Pam Finelli, head of European equity derivatives research at Deutsche Bank AG.

Risk management and portfolio protection is a huge theme in the market and it’s not unusual to see people expanding their equity allocation, but doing so with a hedge in place,” Finelli says in an interview from London.

“The equity market goes up but the puts stay bid because there’s an underlying hedge that’s being put on at the same time. This has been a major trend.”

Sergi Martin Amoros, chief executive officer at Credit Andorra Asset Management in Andorra, added to equities following the March 11 earthquake in Japan, he said in a telephone interview on April 21.

He’s also buying protection on the firm’s 4 billion euros ($5.8 billion) in investments.

“Question Marks”

“We made the most of the March sell-off to add to positions as equities had weakened,” he said.

“There were good prices and we took the opportunity. We are buying puts and protection across the board. There are many open fronts, too many question marks.”

The S&P 500 fell 0.2 percent to 1,334.60 as of 9:42 a.m. in New York. It climbed 6.3 percent this year through April 21 as the US unemployment rate unexpectedly dropped to a two-year low of 8.8 percent in March as companies created more jobs than forecast, the Labor Department said earlier this month.

The economy probably expanded at a 1.9 percent annual pace in the first quarter and will grow at an average rate of 3.1 percent though 2013, according to the average of estimates in a Bloomberg survey.

Source: Bloomberg

Bloomberg’s Jeff Kearns and Whitney Kisling report the conversation between Howard Present, president and chief executive officer of F-Squared Investments Inc., and Carol Massar, Matt Miller and Adam Johnson on Bloomberg Television’s “Street Smart.”

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