Mish's Global Economic Trend Analysis

Noose Tightens, But On Whom?
Why OMT Cannot Possibly Solve Anything; Monti Warns Italian Unions; Over 200,000 Jobs at Risk; Italy's Insane Labor Rules
Spain's Prime Minister Considers ECB Bond Program While Denying Full Sovereign Bailout; Debt Restructuring Under OMT Not On Table Says ECB; Reflections on "Strict Conditions"
German Court Approves ESM While Ruling "No Unlimited Liability, Parliament Must Approve Changes in Ceiling"; Sigh of Relief Reaction

Posted: 12 Sep 2012 10:06 PM PDT

Ambrose Evans-Pritchard has an interesting piece in The Telegraph regarding the German constitutional court's upholding of the ESM with conditions.

Pritchard often takes a contrarian view, and with near-unanimous opinions that the court caved in, he has a different view.

It's the kind of post that makes you stop and think, which is why I keep reading Ambrose, even though we frequently clash over monetary policy.

Pritchard claims German Constitutional Court tightens the noose yet further.

Just as it gave the go-ahead for Maastricht, Lisbon, the Greek rescue, and the EFSF bailout fund with a "Yes, but" with the 'but' mattering most in the end — Karlsruhe has now endorsed the European Stability Mechanism (ESM) with strings attached as well.

It has done so only under conditions that will greatly complicate EMU rescue politics in the future.

Here are some instant thoughts. I will be writing at greater length about the court later today for the newspaper.

Germany's ESM share is capped at €190bn, so what happens if Spain and Italy are forced to step out of the rescue machinery because they themselves are in too much trouble to fund the mechanism?

The Court made it clear that Germany will not automatically pick up the slack.

"The Federal Republic of Germany must clearly express that it cannot be bound by the Treaty establishing the European Stability Mechanism in its entirety if the reservation made by it should prove to be ineffective."

This matters. It may well be tested.

The Court also killed off any idea of a banking licence for the ESM, viewed as crucial to give it adequate firepower.

"As borrowing by the ESM from the European Central Bank, alone or in connection with the depositing of government bonds, would be incompatible with the prohibition of monetary financing entrenched in Article 123 TFEU, the Treaty can only be taken to mean that it does not permit such borrowing operations."

And it laid down some markers on the ECB's Draghi Plan for bond purchases:

"An acquisition of government bonds on the secondary market by the European Central Bank aiming at financing the Members' budgets independently of the capital markets is prohibited as well, as it would circumvent the prohibition of monetary financing."

As for the bigger picture, here is the crucial point:

"The German Bundestag is prohibited from establishing mechanisms of considerable financial importance which may result in incalculable burdens with budget significance being incurred without the mandatory approval of the Bundestag."

"In this context, the Bundestag, as the legislature, is also prohibited from establishing permanent mechanisms based on international treaties which are tantamount to accepting liability for decisions by free will of other states, above all if they entail consequences which are hard to calculate."

Target2 Liabilities

Pritchard goes on to discuss Target2, and on that score he appears to be in exact agreement with what I stated in German Court Approves ESM While Ruling "No Unlimited Liability, Parliament Must Approve Changes in Ceiling"; Sigh of Relief Reaction.

He also caught something I didn't:

"An acquisition of government bonds on the secondary market by the European Central Bank aiming at financing the Members' budgets independently of the capital markets is prohibited as well, as it would circumvent the prohibition of monetary financing."

But does that matter?

With everyone but the Euroskeptics cheering the decision, Pritchard claims the "Noose Tightened".

After thinking about that for a while, and I have a number of questions.

Questions for Ambrose

Noose tightens on whom?
Do the politicians care?
Going one further, do the pro-euro advocates hope the noose tightens forcing Germany as quickly as possible into a no-win solution?
What indication is there the politicians simply will not raise the ceiling?
What indication is there that the constitutional court will do anything about things if the EU, ECB, or Bundestag oversteps their bounds?

Observation

By the time the anyone even recognizes the "noose has tightened" it will be far too late to do anything rational about the situation (which brings to the forefront bonus questions).

Additional Bonus Questions

Is that the nannycrat plan all along?
Isn't death by hanging still death?
Is there any escape for Germany?

The answer to 6 is probably not, at least according to Occam's Razor. However, regardless of how you feel about conspiracy theories or the answer to question 6, the answer to 7 is "yes", and the sad answer to question 8 is "no".

The best course of action for Germany and the EU is for Germany to exit the eurozone now.

Unfortunately, as a result of a pathetically wimpy ruling by the constitutional court that is 100% guaranteed to lead to "noose tightening", Germany will face the eurozone exit question at a time when the consequences of that decision, no matter which way Germany chooses, will be far more painful than they are today.

Thus, the answer to my primary question "Noose Tightens, But On Whom?" is German citizens, not misguided or stubborn politicians out to make history.

Please thank Chancellor Merkel for this sad state of affairs. Had she spoken out against Draghi's foolish plan the court would likely have killed it, and German citizens would have had the referendum they deserved.

For a discussion as to why the OMT cannot possibly solve anything, please see Monti Warns Italian Unions; Over 200,000 Jobs at Risk; Italy's Insane Labor Rules.

Mike "Mish" Shedlock
http://globaleconomicanalysis.blogspot.com
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Why OMT Cannot Possibly Solve Anything; Monti Warns Italian Unions; Over 200,000 Jobs at Risk; Italy's Insane Labor Rules

Posted: 12 Sep 2012 02:01 PM PDT

Amazing discrepancies in small business employment in Italy vs. the rest of the EU will go a long ways towards explaining why Mario Draghi's OMT plan to "save the euro" cannot possibly work.

I pieced the following analysis together after reading some interesting comments on Eurointelligence in today's Daily Morning Briefing.

Monti Warns Italian Unions

Mario Monti warned Italian labour unions during a meeting in Rome that time was running out for action, government sources told ANSA. "Greece, Spain, Ireland and Portugal have boosted productivity and lowered labour costs, turning around a negative trend, while Italy has not improved productivity and has increased labour costs," Monti said. An effort for concrete results is urgently needed from talks between business leaders and unions, Monti told to the union leaders. But the biggest Italian union CGIL said "growth cannot come on backs of workers alone." Monti reminded unions that only a few weeks remained before the eurogroup and EU summits in October. The premier called for concrete signals within a month.

Over 200,000 Jobs at Risk in Italy

Italy's main small business association found that Italian SMEs may be cutting 172,000 jobs, the lionshare of all jobs at risk in Italy from the recession, La Repubblica reports. Yesterday, the CGIA reiterated that idea. Italy risks having an additional 202,000 people unemployed in the second half of this year, relative to the same period in 2011, CGIA data shows. The association says the tax burden was the main problem - at over 60% for SMEs, and over 55% on average for Italian companies.

The Five Star Movement Established Itself as Italy's Third Party

The Movimento 5 Stelle (M5S) has entrenched its position as the third Italian Party, according to several polls appear on Il Fatto Quotidiano. The last poll (Ipsos) shows that the Silvio Berlusconi's party PDL is the second one in Italy, with 21.9%. The first is PD (Partito Democratico) with 25.4%. Beppe Grillo's Movimento 5 Stelle comes in at 17.9%. Italian analysts compare the M5S to the Greek Syriza. It is opposed to the euro, to austerity, to the ECB, and wants to regain sovereignty on monetary policy, and favours a default (Icelandic way), followed by devaluation.

Understanding SMEs

Inquiring minds (mine) had to look up the word "SMEs". It stands for small and medium sized businesses.

Micro businesses have fewer than 10 employees, small businesses fewer than 50 employees, and medium businesses under 250 employees.

Please consider this EU SME Fact Sheet

SMEs in Italy – A Brief Fact Check

There are approximately 65 SMEs per 1000 inhabitants in Italy, which is substantially above the EU27 average of ca 40. In line with this, the relative importance of SMEs for the Italian economy exceeds by far the EU average, as illustrated by a considerably above-EU-average share of persons employed and value added accounted for by SMEs. It should be noted, that this elevated importance is mainly due to the micro enterprises, while medium enterprises are, in fact, underrepresented vis-à-vis the EU average.

Italy SMEs

click on chart for sharper image

Italy SMEs vs. EU

94.6% of Italian businesses are "Micro Businesses" vs. EU Average of 91.8%
47.1% of Italian employment is by "Micro Businesses" vs. EU Average of 29.6%

Note those amazing differences, especially point number two. I will explain why in detail below, but union work rules are at the very heart of it all.

The SME comparison stats are from 2005, but if anything, I expect they would be even more lopsided now.

Italy Labor Force

Italy has an estimated Labor Force of about 23 million.

Unemployment Rate in Italy

A loss of 200,000 jobs would raise Italy's Unemployment Rate by about .9 percentage points, from 10.7% to 11.6%.

Italy's Insane Labor Rules

In searching for material on SME's I came across the Wall Street Journal report Employment, Italian Style which helps explain Europe's economic crisis. Here are a few key snips:

Imagine you're an ambitious Italian entrepreneur, trying to make a go of a new business. You know you will have to pay at least two-thirds of your employees' social security costs. You also know you're going to run into problems once you hire your 16th employee, since that will trigger provisions making it either impossible or very expensive to dismiss a staffer.

But there's so much more. Once you hire employee 11, you must submit an annual self-assessment to the national authorities outlining every possible health and safety hazard to which your employees might be subject. These include stress that is work-related or caused by age, gender and racial differences. You must also note all precautionary and individual measures to prevent risks, procedures to carry them out, the names of employees in charge of safety, as well as the physician whose presence is required for the assessment.

Now say you decide to scale up. Beware again: Once you hire your 16th employee, national unions can set up shop. As your company grows, so does the number of required employee representatives, each of whom is entitled to eight hours of paid leave monthly to fulfill union or works-council duties. Management must consult these worker reps on everything from gender equality to the introduction of new technology.

Hire No. 16 also means that your next recruit must qualify as disabled. By the time your firm hires its 51st worker, 7% of the payroll must be handicapped in some way, or else your company owes fees in-kind.

Once you hire your 101st employee, you must submit a report every two years on the gender dynamics within the company. This must include a tabulation of the men and women employed in each production unit, their functions and level within the company, details of compensation and benefits, and dates and reasons for recruitments, promotions and transfers, as well as the estimated revenue impact.

Businesses with no more than 250 employees may also still be enjoying their three-year profit-tax holiday, which was granted in 2010 for small and medium-sized firms that reinvest their profits in forging "networks" for "innovation" with other small businesses nearby.

All of these protections and assurances, along with the bureaucracies that oversee them, subtract 47.6% from the average Italian wage, according to the OECD. Two-thirds of that bite comes before payroll, meaning many Italian workers are unaware of their gross cost to employers.

Tax Holiday Ends

Note the second to last paragraph above regarding the end of the three-year profit-tax holiday on SMEs.

Italian unemployment is going to soar.

Structural Problems

The EU nannycrats and officials at the ECB think the problem in Europe is one of interest rates. The above analysis clearly shows something else.

The first structural problem is preposterous labor work rules in Italy, Spain, and Greece.

The second structural problem is the ECB and the euro itself. One size interest rate policy cannot possibly work in a mix of cultures and work rules.

Instead of fixing work rules or breaking up the eurozone (both are needed), the nannycrats in Brussels want higher taxes, the socialists in France want higher taxes, and the radical left parties want more stimulus and no pension reforms.

Mario Draghi's OMT cannot possibly fix anything.

If "progressives" and union advocates in the US had their way, we would be in the same shape.

Addendum:

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Mike "Mish" Shedlock
http://globaleconomicanalysis.blogspot.com
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Spain's Prime Minister Considers ECB Bond Program While Denying Full Sovereign Bailout; Debt Restructuring Under OMT Not On Table Says ECB; Reflections on "Strict Conditions"

Posted: 12 Sep 2012 11:04 AM PDT

The Economic Times reports Spain's Prime Minister Mariano Rajoy considers ECB bond programme

HELSINKI: Spain is considering asking help from the European Central Bank's bond-buying programme but is not planning a full sovereign bailout, Prime Minister Mariano Rajoy was quoted as saying on Wednesday in Finnish newspapers.

Last week the ECB agreed to launch a new bond-buying programme to lower struggling euro zone countries' borrowing costs.
"In addition to growth, the only option I am considering is using the central bank's announced mechanism," Rajoy said, according to Helsingin Sanomat.

"It is completely outruled that we would ask for a bailout for the whole country," he told business daily Kauppalehti.

Mish Translation

Spain wants and needs a full sovereign bailout, but Rajoy does not want to go along with the demands stipulated by Mario Draghi in the OMT program.

Recall that one of the conditions of the OMT involves oversight by the IMF.

Debt Restructuring Under OMT Not On Table Says ECB

The Wall Street Journal reports Talk of Debt Restructuring Under New Program 'Not on Table'

The European Central Bank won't discuss potential write-downs on debt bought under its new bond-buying program, ECB executive board member Joerg Asmussen said Tuesday.

Asked whether the ECB would participate in any voluntary restructuring of bonds bought under the program, known as Outright Monetary Transactions, Mr. Asmussen said the question "is not on the table."

ECB President Mario Draghi announced last week that the ECB is ready to buy a potentially unlimited amount of the bonds of stressed euro-zone governments, under strict conditions.

The OMT "has been designed to ensure full compatibility with European law, and in particular with the prohibition of monetary financing," Mr. Asmussen said.

He stressed that "strict conditionality is key," and warned that the program is no substitute for structural reforms and budget consolidation by governments.

The involvement of the International Monetary Fund is a necessary condition for the ECB to activate the new program, he added.

Strict Conditions For Bond Buying?

When Spain's budget deficit fails to come close to agreed upon targets (which by the way is right now) we will see just how "strict" those conditions are.

I strongly suggest even "loose" conditions will quickly fly out the window.

Mike "Mish" Shedlock
http://globaleconomicanalysis.blogspot.com
Click Here To Scroll Thru My Recent Post List

German Court Approves ESM While Ruling "No Unlimited Liability, Parliament Must Approve Changes in Ceiling"; Sigh of Relief Reaction

Posted: 12 Sep 2012 08:00 AM PDT

The German constitutional court approved the ESM, while stating there must be no unlimited liability for Germany. The court also stated the German parliament must approve any increase in the Germany's ceiling of €190bn.

Ho hum.

This is actually a wimpy decision, and basically what the market expected judging from the "sigh of relief" reaction as opposed to euphoria.

Because of soaring Target2 exposures, I would like to point out that Germany's potential liabilities already far exceed the ceiling of €190bn.

For further discussion, please see Target2 and the ELA (Emergency Liquidity Assistance) program; Reader From Europe Asks "Can You Please Explain Target2?"

Moreover, the recently hatched OMT plan of Mario Draghi in and of itself has potential unlimited liability in that it allows unlimited purchases of sovereign bonds for which Germany and other countries are responsible for their share of the pie in accordance with percentages noted in the above link.

Finally, please note that 37,000 people signed a petition against this deal, and polls show it likely would not have passed if put to a vote. Those petition signers, including a few top politicians looking out for their constituents (and for Germany itself), were seeking a referendum.

Once again the will of the people has been suppressed for the benefit of politicians wanting to protect their legacy, exactly as expected and exactly as opponents of the ESM feared.

Mike "Mish" Shedlock
http://globaleconomicanalysis.blogspot.com
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Wednesday, September 12, 2012

Mish's Global Economic Trend Analysis

Mish's Global Economic Trend Analysis

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