EFSF Bonds, Eurobonds and ECB: German Caution Results

Back Ground of EFSF, Public/Private Organization, Overcapitalization

Germany’s continued resistance to a Eurobond highlights all of the already existing “agency” bonds circulating through Europe. Origins for these bonds are a plethora of acronyms identifying various quasi-governmental facilities and funds.

The European Financial Stability Facility (EFSF) is a quasi-public/private bond issuing entity. Agreed upon by the 17 countries that currently use the euro, EFSF is organized as a corporation based out of Luxembourg and is subject to Luxembourgish law. It’s overseen by various finance ministers with representatives of the European Union and ECB acting as observers.   

Organization of EFSF is based on the euro currency countries making commitments of guarantee to back the loans and bonds EFSF issues. Countries make commitments according to their paid up capital balances with the European Central Bank (ECB). Strongest countries such as Europe's largest economies have the largest ECB balances, resulting in higher contributions to EFSF.

According to its current reports, EFSF has commitments of 780B euros. These commitments guarantee the loans and bonds, which fund distressed countries. EFSF is not allowed to exceed its loans to distressed countries beyond the full amount of country commitments.

Agreements among euro countries allow only 440B to be loaned. This leaves some 340B for capital reserves, which sustains free capital to absorb potential losses. These reserves also contribute to EFSF’s high credit ratings—even though S&P cut the facility by a notch as with the U.S. and others, while Moody’s and Fitch did not.

Exposure of European Countries to EFSF Risk, or EFSF Risk to European Countries

Euro countries committed their EFSF contributions in 2010 when U.S. banks were experiencing their trouble. Since 2010, Greece, Ireland and Portugal have been removed--for obvious purposes-- from being continued guarantors. This has resulted in commitment totals being amended down to 726B, or an overcapitalization of 165%.

By removing Greece, Ireland and Portugal from commitments, percentage exposure of other more productive European countries increased. According to the Framework Agreement of the EFSF, once a country is removed as a guarantor, they remain liable only for loans and bonds issued prior to removal, not after removal.

Following removal of the above countries, Germany has the highest commitment at 29% of fund totals followed by France’s 21.83%, Italy’s 19.18% and Spain’s 12.75%. Percentage increases for the major contributors amount to more than a 1% increase in commitments and for Germany more than a 2% increase.

Credit rating among the respective countries did not matter in reallocating commitments following the removal of Greece, Ireland and Portugal. From a basis point perspective, Austria saw an increase of 21bps with Belgium at 25bps, Finland found 13bps, France 152bps, and notably Germany encountered 201bps. Contrast this with Italy at 132bps versus Spain’s 88bps.  A basis point can be viewed as 1.00% = 100 basis points (bps), or 0.01 = 1 bps. When looking at billions of dollars, a basis point by itself becomes profoundly significant.   

Of all commitments, Germany, France, Austria and Finland have top credit ratings compared with Italy and Spain. Italy is at BBB+/A3/A- while Spain has a rating of BBB+/A3/A, both considerably less than the other named countries.

Distribution of Risk to Europe's Highest Credit Ratings

Concerning is that Italy and Spain account for 31.9% of EFSF commitments, or 232B euro between the two of them. Should both Spain and Italy be removed as guarantors, as occurred with Greece, Ireland and Portugal, EFSF's overcapitalization rate would decline to 112% from 165%. A rating cut would certainly occur.

Removal of just Spain would result in a reduction of overcapitalization to 144%. A result not as dramatic as both Spain and Italy being removed.  

ESFS has made 147.9B (196.4B euro when including European Financial Stability Mechanism funds) euro in total loans and has issued about 50B in bonds. This reaches nearly 200B euro of the 440B EFSF may issue. IMF has contributed 78.5B of the known 250B it has availabe. The European Financial Stability Mechanism's (EFSM) contribution is at 48.5B euro of its 60B available euros.

Estimates on supporting Spain, should the event arise, are between 430 to 520B euros. The various entities that have been engaging in financial assistance have spent 325B euros of their original 750B euro total. By such calculations, an inadequate supply of only 425B euros remain to cover a Spanish bailout.


IMF has, however, been raising money. IMF director Christine Lagarde reported in April that the fund had raised an additional $430B to support distressed countries. This suggests available money is now at $770B. Counting what's already been spent, grand total bailout money that's currently been spent or otherwise available is essentially at the trillion dollar mark. Important is that currently only 325B has been spent.

Not accounted for in money already spent is an April 2010 80B euro loan to Greece (1st bailout) by Euro Area Member States. This loan appears to be individual country loans to Greece outside the EFSM, and the EFSM which is funded by the EU's budget, and prohibits any deficit spending. 

Also not included are individual loans to the Ireland bailout from the U.K. providing 3.8B euro (probably actually denominated in pounds), .6B euros from Sweden and Denmark loaning .4B euros. Resulting in total amounts not otherwise accounted for above of 84.8B euros. Results of all cash spent so far amounts to 409.8B euros.

 Strains Remained for Europe Even After Huge Cash Infusion

To date 409.8B euros have been spent on resurrecting Greece, Ireland and Portugal. Prior to their removal from the EFSF they accounted for a combined 6.9% of commitments, or 53.8B euros. Compare this with Spain at 12.8% or 93B euros. If it took 409.8B euros to save and protect contributions to the EFSF of only 53.8B euros, Europe's exposure to Spain's dynamics could be substantially more than the efforts expended so far.

Add to considerations the freezing of bank liquidity prior to ECB's LTRO operations. Where the loans of the past are strengthening stability in the weakest of euro countries, ECB'S liquidity operation of about 1T euro also girded the entire continent. Currently, one of the euro's largest economies could challenge deeply and command considerably more in support than previously experienced.

Eurobonds Could Compromise Quality of Collateral, What Really Leverages Europe's Efforts

If evolution in the EFSF is any indication of eurobond propositions, risk does accrete to the most stable. Where ESFS commitments are restricted by identified contributions, a eurobond would be a guarantee on all amounts issued, with joint and several liability in the event of default--meaning the most capable of payment are the first to be tapped for promised payments.

With both Germany and France being obvious targets for ultimate payment, and with potential financial challenges still pending from the weaker countries, it seems prudent to see how the existing structures play out. Existing structures still have major cash, if needed in the end.

Complicating issues are that bond markets will heavily influence liquidity, still the vigilantes can be held off. Fundamental strength through the euro area is the deepest challenge, especially with still existing proposals of austerity, missed targets and declines in GDP.

Overall, quality of collateral and credit ratings look to be the prime propositions of what Europe needs to accomplish. Float a bond from every new idea, turned bond issuance, where will European bonds go and the quality of their available collateral? Major crises is one thing, multiply crisis against any relative stability among the very strong countries against each other, is another thing.

It seems that challenges are finding a balance, even with speculation of another shoe dropping.

Swiss Franc and British Pound Switch Roles, But at What Cost for Britain

Swiss Franc Recedes from Safe Haven to Pegged Currency

Looking at interesting currencies, the Swiss Franc (CHF) has been, for some time, a safe haven currency. Still its value has a demonstrated a floor of 1.20 against the euro (EUR/CHF). That is, the franc will not rise in value against the euro beyond a named point. Commitment of Traders data provided by the Commodity Futures Trading Commission tells of substantial shorting of the Swiss Franc….A dramatic switch of circumstance from past expectations, which saw the Franc appreciating for what was looking like infinity.

Net trader short positions on the franc come from a policy change as opposed to market dynamics. Seeing a distortive high in the franc against the euro, was the Swiss National Bank (SNB) and all other similar institutions globally.

Appreciating franc values became very incongruent with euro values due to not only increases in the franc, but also because of declines in the euro. Spreads between franc and euro diverged such that Switzerland found its high currency creating a decline in its exports and a huge increase in its capital accounts. Joining an already challenged global situation with a high priced currency, SNB pegged their currency to the euro. Accordingly came the 1.20 limit on CHF appreciation, or EUR depreciation.

British Pound Now Experiences High Demand

Seeing the franc out of commission as a safe haven asset, traders are plowing into the British Pound. Among institutional traders, long contracts on the pound have increased by 29,920 from April 10 through May 8, a 52.5% increase according to May 8 COT numbers. Previously institutions were net short the pound, but currently are convincingly net long.

Implications of an appreciating currency obviously don’t bode well for United Kingdom exports and economic recovery. Britain recently reported trade balance results which showed that net trade was down for Q1, but demonstrated surprising improvement in the February to March period. Exports grew at a pace of 5.5% month over month for March. This contrasts with February results that declined -3.4%.

Growing exports to overcome recent recession in Britain is challenged by European weakness, and potentially now an appreciating currency. Should economic projections improve for Britain, and given persisting European problems and a constrained ECB, traders searching for safety could settle into the pound. Add to this that the Bank of England ended their quantitative easing program on May 10 over inflation concerns developing from March’s rate of 3.5%. From all factors, "Sound as a Pound" seems to ring well now days.  

Pressure on Safe Assets, Who Will Relieve the Pressure

Money is Going Risk off and Maybe for Awhile

Asset classes are starting to show convincing aversion to risk. Economic indicators being what they are, it’s not surprising that we see market declines to levels noticed last December and January. Back then, markets found revival in the European Central Bank’s (ECB) two Long Term Refinancing Operations (LTRO) conducted in December and February.

ECB operations pumped some 1 trillion euros into European banks, with the euros inevitably finding their way into markets. Now, markets are again showing signs of insecurity. But with ECB’s balance sheet, who has the capacity to spur another market revival?

Revealing is a May 11 Reuters article by Barani Krishnan wherein hedge funds decreased their long positions in commodities by 20% or $18 billion as of May 8. Based on Commitment of Traders (COT) data produced by the Commodity Futures Trading Commission (CFTC), Kirshnan’s article continues by pointing out that money last flowed out of commodity long positions to this degree was in January…Prior to the ECB full 1 trillion euro effort.

Return of Sentiment Driven by Europe: Commodities

Looking at asset classes, Reuters-CRB Commodity Index is a decently diversified commodity index. Included are grains, copper, cotton, live cattle, lean hogs, sugar, orange juice, gold, silver and of course crude oil. All told, commodities are considered high risk, and when they look to go down, money will leave them.

Currently the index sits at 524.61, which is lower than its pre-ECB intervention December number of 547.22. Following the completion of ECB liquidity infusions, CRB index reached a high in February of 601.86. Current numbers show a decline of 12.84%, and with weak economic numbers, organic commodity demand seems declining. Long term, commodities demonstrate a convincing down trend since May, 2011. Such declines are certainly associated with completion of U.S. quantitative easing.

Add to the current commodity situation, a rising U.S. dollar and further pressure bears against commodity prices. Commodities are priced in dollars, when the dollar increases, commodities often decrease. The apparent reason is when one pays for a commodity in foreign currencies, it takes more foreign currency to meet a rising dollar, which blunts demand.

Dollar Appreciation and Yield Declines

Speaking of the dollar, it’s increasing in value as a safe haven currency. Just as commodities declined last January amid market insecurity, the U.S. dollar index gained in value. In January, as commodities declined, the dollar index hit 81.53. Once the ECB intervened with their LTRO, dollar index relaxed to 78.26 but now sees itself rising at 80.61. For an index that moves little, such moves tell of significant market sentiment. Currently, sentiment seeks safety and opposes risk.

Indicative of direction among safe haven assets is also U.S. Treasuries. When demand for treasuries, or bonds in general, increase so does price while yields decrease. For the 10 year Treasury Note, it shows dramatic price increases and yield drops when European concerns grow.

Pricing of this instrument grew dramatically starting last spring, perhaps in anticipation of the Fed’s QE2 concluding and, of course, the then existing European problems. It then traded sideways through ECB’s LTRO with some deep declines. Now, it is shooting up in price like a rocket. Overall it tells of sustaining mid-term caution, and a favored refuge against market insecurities.

Dollar appreciation can present economic challenges for U.S. growth by making exports relatively more expensive. Progressively declining yields can also generate economic challenge. Where the ECB previously took strain off these dynamics, will these dynamics grow worse or just stop by themselves. Looks like the ingredients of a QE3 could be in the mix, but can it be of the sort seen with the last two rounds given political sentiment.

Rates of U.S. economic growth will factor the most in whether the Fed takes action. Regardless of Fed action, the underlying issue resides in Europe and is something QE3 can't fix. 

APRIL FED REGIONAL INDICATORS AND A WEAK START TO Q2

Weakness in Economic Indicators Find Way to GDP

U.S. data is showing sustained weakness in manufacturing originally reported here on March 28 in “Economic Strength, Where Is It: European and U.S. Data.”

Overall data for March revealed four Fed regional economic indicators showing declines in new orders, shipments and delivery times. These indicators consisted of the Empire State Index, the Philadelphia Fed Survey, Richmond Fed Manufacturing Index and the Dallas Fed Manufacturing Survey.

Supporting such index results was a fall in U.S. GDP for Q1, 2012 to 2.2% versus a consensus result of 2.5% and a Q4, 2011 number of 3.0%. Current data suggests a mild continuation of the trend down.

Slowing Growth in Regional Fed Data Starts Q2

Notable are the most recent regional data. The Empire State Index last reported on April 16 and showed growth, but with concerning rates of decline.

March results were looking promising by growing from a February number of 19.53 to 20.21 in March. Growth, however, was betrayed by substantial declines in new orders, shipments and unfilled orders. Also notable in March were steep increases on prices paid.

April Empire Index results deflated in growth to a rate of 6.56. That is, the index showed a decline in it growth rate from March to April of 20.21 to 6.56. Accounting for April declines are the same causes witnessed in March; declines in new orders, shipments, unfilled order, etc. Prices paid also remain under pressure.

Philadelphia Fed results reported here last March were similar to Empire’s March numbers. As of the last report on April 19, the numbers look likewise similar. For February of 2012, the index saw 10.2, March witnessed an advance to 12.5, but again betrayed by declines in new orders, shipments, unfilled orders and delivery times, April came in at 8.5. Prices paid and received edged up.

 Kansas City Fed Index , having reported on April 26, is like the above two indicators. The Kansas City Fed Index showed a February result of 13, March of 9 and April at 3. Declines in all months are attributed to new orders, shipments and order backlogs. Most noted is that the Index's production number went from 13 in March to 0 in April.

Add to the regional indicators the Dallas Fed Manufacturing Survey which reported April 30 for April results. Its business activity component fell to -3.4% versus March at 10.8 and February at 17.8. The production side of the survey showed 5.6 for April while March saw 11.1 and February 11.2. Accounting for the steady decline in results is a capacity utilization number that went from 12.3 in March to 1.4% in April. Shipments declined to -0.8 in April v. 8.6 in March. New orders have been near to zero for two months.

Regional Data Suggests Continued Weakness in Industrial Production And Durable Goods

Durable Goods Orders and Industrial Production reports, while lagging the above indicators, support a potential trend. Industrial Production reported on April 17 and had a stalled 0.0% result for March. February was also stalled at 0.0%.

Last increase for the report was January’s gain of .7%, with other previous months generally gaining. Despite the last two months of zero, year over year, results are positive at 3.8%. The big question will be the May 16 report.

The manufacturing component of Industrial Production showed a March decline of -0.2%. Comparing this decline is a February advance of .3% and a January gain of 1.1%.

Where Industrial Production is stalled, Durable goods orders are in decline and have been volatile. Reporting on April 25 for March results, new orders of durable goods showed decline of -4.2%, deeper than analyst expectations of -1.5%. Previously, the indicator showed February at 1.9% and January with -3.5%.

A Couple Pieces of Positive Data

Outlying positive results include April 24 figures for the Richmond Fed Manufacturing Index which grew to 14 in April compared to a March reading of 7. Consensus put the growth number at 8, which was well exceeded. Chicago Purchase Manager Index (PMI), which reported on April 30, has demonstrated numbers above 50, showing sustained growth. April revealed a result of 56.2 on a consensus of 60.8, March saw 62.2 with consensus of 63 and February came in at 64. All showing consistent growth, but April was several points below consensus.

April’s ISM Manufacturing Index also demonstrates sustained numbers above 50, with the April result at 54.8. Customers’ Inventories are at 45.5, but up 1.0, Inventories show 48.5, and down -1.5, while order backlogs reveal 49.5 and are down -3.0.

Bottom Line is That Q2 Could Continue in a Slowing Trend

Overall, the majority of regional Fed business activity indicators show slowing to substantially slowing rates of growth. This trend continued into April, and perhaps amplified in April. Turning negative is the Dallas Fed Manufacturing Survey’s business activity index. Substantially slowing were the Empire State Index and the Kansas City Fed Manufacturing Index.

Comparing these results with Industrial Production numbers being flat at zero for two months as of March, and negative Durable Goods orders, one wonders what drives the countervailing data. A slow start to Q2 could tell of persisting sluggishness.

May numbers will be necessary to determine direction of any trend and extent of strength. Should indicators continue to weaken, the natural question will be what real latitude does the Fed have for speculated QE3.

For now, relaxation in fuel prices and its effect on the Producer Price Index could significantly support renewal of growth.  

Where Is The End Of The Tunnel For Europe's Most Challenged

I've certainly become sensitive to the course of evidence reported upon on this space. Evidence of such nature requires one to step back and take a second or third look. Yet, from European to Brazilian conditions, the numbers are presented. From Germany's numbers to Euro Area numbers, again those numbers are presented. Looking at India, further numbers must be considered. China, for itself, has been very much reported upon in the media and the convention is whether it can avoid a hard landing.

Election results in Europe are pointing to a rejection of austerity. Newly elected French President Hallande himself mentioned today a movement across Europe of such a nature.

European election results need time for dust to settle. Greek results, given a backdrop of previous electorate reaction concerns all.

Still, as a union of nations, economically European countries are stronger than independent components. This is the strength of any proposition. Should countries at this point splinter off, even in a bankruptcy situation, they will have to inevitably export, one day need credit, and eventually need banks to lend to the consumer and business.

A withdrawal of countries from the Euro is a prospect to consider, but when the sobriety of the proposition sets in, especially given current economic circumstances...can any one country see their economy fall backwards 100 years.....or 25 years.

Propositions now are girded by the EU's world placement in competition for markets. The EU has negotiated and developed susbstantial market outlets, to the point where abandoning such negotiated chains of trade would be an erasing of the slate for any one country.

Hardship is among austerity, loss of trade partners, and in the end loss of liquidity or cash flow in a banking system. Breaking away from the euro holds the same propositions, only more assured.

Lots of thought, consideration and perhaps maybe a balance....But it must be a balance among the above forces. Such a balancing must have a hope, for countries to see a light in the tunnel of austerity. Even then, the countries under the most austerity are the least productive. What are you going to do.....promise to sell the products of the least efficient countries' the most.

Where could the end of that tunnel be. Currently, the most challenged in the Euro Area are also the least to see a light at the end of austerity.

German manufacturing shrinks and its wider implications

by Jonathan Saxty

 (submitted 2012-04-25)

Manufacturing in Germany has shrunk at the fastest pace since 2009. According to Alice Baghdjian for Reuters, "Markit's manufacturing Purchasing Mangers Index (PMI) fell sharply to 46.3 from March's 48.4, according to a flash estimate released on Monday, well below the 50 mark which would signal growth in activity. It marked the fastest rate of contraction since July 2009 in the sector, which has been hit by a decline in some exports as the debt crisis in the euro zone has choked demand from key trading partners."

Germany remains the strongest exporter in the West and the second biggest exporter globally, behind China. Although most of the economy is centred on services, compared to the US or the UK the German economy is still heavily reliant on manufacturing, most noticeably automobiles and electronics.

Much of the German economy relies on the mittelstand - small and medium-sized (and often family-run) companies, which make the smaller parts and components for larger machines. It is for this high quality produce which Germany has become known. Now declining Germany productivity will further harm the Eurozone which looks to Germany as its economic engine.

Germany has scored especially well from emerging markets like China. As the Chinese have got richer, more are demanding high quality Western cars, noticeably the likes of Volkswagen, BMW, Mercedes and Audi. But the Chinese economy has cooled somewhat and demand is tempering.

Moreover Germany must compete with indigeneous car makers. While virtual unknowns outside of China, the likes of BAIC, BYD, Geely and Chery are becoming increasingly popular in their home market. According to Jorn Madslien of the BBC, "BAIC will show off a possible future rival to the Audi A6, the BMW 5 series and the Mercedes E-Class."

Alice Baghdjian reported, "In February, German industrial orders rose less than expected, although strong demand from non-European countries provided some momentum, and industrial output fell more than expected due to cold weather." Indeed Germany is suffering especially from the turndown in southern Europe, a huge export market.

Only around 3% of the Chinese population own a car currently, which gives grounds for optimism. The market for cars in China could see sales of 30 million a year by 2020 - compared with 18.5 million in 2011. That said, last year's sales growth of 2.5% compared miserably with a rise of 35% during 2010. This year the market is expected to grow at 5%.

According to Madslien, "Germany's leading luxury car companies all reported sales growth in China of between 30% and 40% last year, and so far this year the luxury car market in China has enjoyed a growth rate close to 37%." Even Volkswagen admits that this will be a "very demanding year" as the Eurozone debt crisis and slowing global demand weigh in.

There is also the regulation. According to Reuters, "Beijing has removed autos from the government's list of "encouraged" industries, a step widely seen as a sign that China no longer actively promotes or encourages further direct investment in its auto sector from abroad." Indeed, "China's central government also has moved to bar certain government agencies from buying foreign cars, potentially excluding global auto makers from a market that totals between 70 billion and 80 billion yuan ($11.1 billion to $12.7 billion)."

Volkswagen has admitted that China's slowing automobile industry is facing rising inventory levels. VW "boosted deliveries in the country 16 percent to more than 633,000 vehicles in the first quarter of the year, compared with a decline in total industry deliveries."

Germany's wider problems include its declining demographics, which - on current trends - will see a 7 million shortfall in the labour force, in the coming years. There is little political appetite to turn to non-European immigration to fix this. Fears of cultural dilution are increasing in Europe, as seen by the National Front's winning of 20% of the votes in the French presidential election.

Turning to European migration sources is complicated because a) many European countries have low fertility themselves, b) many of the brightest Europeans, such as in Italy and Spain, are emigrating outside of Europe and c) Germany relies on southern Europe as a major export market, which will be undermined if Germany poaches too many workers and thereby hurts the economies of these export markets. Then Germany may end up having to bankroll not only its elderly population but its ailing Eurozone partners, as it is now.

Germany's most pressing problem is its demographics. As Kathleen Brooks in Reuters said, "the cost to bailout the [European] union from an entitlements crisis would be on a far larger scale and could bankrupt the entire currency bloc." While Germany remains in a healthy financial position now, it must eventually "draw down on its fiscal surpluses in future to pay for its aging population."

As Brooks asks, "who is going to want to lend to a country that has to spend its revenue on health care and pensions rather than infrastructure and investment?" Europeans should now be realising that big government supranationalism does not work. Anything other than light-touch government will ferment the kind of country-centric nationalism which undermines a body like the EU.

About the Author

Jonathan is a barrister and holds a degree in criminology from the University of Cambridge. He writes for Virtue Politics

Is the Indian economy stalling?

 by Jonathan Saxty

 (submitted 2012-04-25)

India's inflation is little changed, making the interest-rate-cutting task of the Reserve Bank of India (RBI) more complicated. Consumer prices in India rose by 6.89% from a year earlier, compared with 6.95% in the previous month. The RBI has been under pressure to cut its interest rates amid a slowdown in India's economy.

While India's industrial production was hoped to grow at around 6.6%, it only managed to grow at 4.1% from a year earlier, in February. Growth was dampened by weak demand for consumer goods and exports, as well as high interest rates. January's figure was revised from 6.8% to 1.14%.
In an article in the Evening Standard, BBC journalist Mihir Bose said that "India really has outgrown the need for UK aid." Bose begins by reminding readers that "giving aid is a colossal failure to understand how the country has changed." Not so fast.

The herculean growth rates of the last few years have dropped dramatically. While India had been posting Chinese levels of growth (9-10%), this has now fallen to around 5-7%. GDP growth slipped to 6.9% and industrial production decline 5.1% in late 2011.

Worries about illegal mining have reduced iron ore extraction in Karnataka and Goa. Meanwhile approvals for new projects have hit obstacles. Foreign direct investment slumped from $24bn to $19bn in 2011.

Chandrajit Banerjee, director-general of the Confederation of Indian Industry, said business was "extremely concerned" about the country's growth trajectory. He warned that under-investment and high borrowing costs threatened to curb India's economy.

"There are very few developments in the country, which can be termed as confidence boosters," Mr Banerjee said. "The current situation of the Indian economy is induced largely by domestic issues … the corrective actions are very much in the hands of domestic policymakers."

Bose continues that "there are more billionaires in India than in this country [the UK]. Since India gained independence in 1947, Indians have squirrelled away more than £900 billion in Swiss bank accounts, more than the rest of the world combined."

Is Bose seriously gloating about the fact that some Indians have siphoned off nearly £1 trillion into Swiss bank accounts? As Akash Kapur wrote in India Becoming, more Indians have mobile phones than access to lavatories, 93% of Indians still work in the black economy and 70% of surface water is polluted.

According to UNICEF, one in three of the world's malnourished children are in India; 50 per cent of all childhood deaths are attributed to malnutrition; around 46 per cent of all children below the age of three are too small for their age and 47 per cent are underweight and at least 16 per cent are wasted.
Ratan Tata, the chairman of the Tata Group has ruled out new acquisitions and told his employees to brace for austerity. He is turning to other growing Asian countries such as Malaysia, Indonesia and Thailand rather than India.

Rohini Malkani, an economist at Citigroup said India was enduring a tough fiscal year with a cocktail of domestic and global challenges. "Tough times don't always last, but they can last long enough to do more damage to the economic structure and momentum," she said.

"We have seen India growth expectations come off from 9 per cent levels to 7 per cent, with growing doubts on whether even a 7 per cent rate can hold," said Malkani. India suffers from gross under-investment, which is badly needed to supply more power and modernise India's infrastructure.
Gross fixed capital formation fell for the first time in two years in 2011, contracting 0.6%. Robert Prior-Wandesforde, an economist at Credit Suisse said that aggressive benchmark lending rate rises were "taking chunks out" of India's growth.

According to a recent article in the International Business Times, "foreign fund inflows - a major driver of Indian stocks - dried up in 2011 with net outflows in excess of $450 million, from record inflows of more than $29 billion in 2010. As a result, the BSE Sensex fell by almost 25 percent in 2011 making it among the world's worst performers. In the same period, the rupee lost about 19 percent of its value against the U.S. dollar owing to the capital flight from the economy."

In this country where, according to the Times of India young Indians still prefer to work abroad, no other country has seen quite the migration of human and financial capital as India has. Incidents like financial irregularities in the Commonwealth Games or the war widows scandal are still overshadowed by everyday corruption: the bureaucrat, official and tax collector engaging in corruption to supplement what are otherwise meagre incomes.

This year, agriculture is expected to grow just 2.5% (compared with 7% the previous year), manufacturing by 3.9% (compared with 7.6% the previous year) and mining could decline by 2.2% (compared with growth of 5% the previous year). Standard and Poor's also warned there could be a downgrade in India's investment-grade credit rating.

International trade organisations representing 250,000 companies have warned India's Prime Minister Manmohan Singh that new tax proposals are leading foreign investors to question their investments in India, according to Reuters. Foreign direct investment slumped from US$24bn to US$19bn in 2011 as the economy grew the weakest in nearly three years.

The letter went on to say that plans to expand the definition of "royalty" retrospectively to 1976 would affect companies such as Ericsson. "There appears to be an assumption, often expressed by Indian tax authorities, that India's ability to attract foreign investment is not affected by its taxation policies and practices. This simply is not the case."

"India will lose significant ground as a destination for international investment if it fails to align itself with policy and practice around the world."

About the Author

Jonathan is a barrister and holds a degree in criminology from the University of Cambridge. He writes for Virtue Politics

COUNTRIES OF INTEREST: SUSPECION RESIDES IN BRAZIL AND SPAIN

by Ron McWilliams

Latin America, Brazil and Europe; A Combination For The U.S. To Take A Look

Interesting implications could be developing with Brazilian economic results and their association with European, especially Spanish, banks. Brazil is undertaking major infrastructure development to prepare for hosting the 2014 World Cup and the 2016 Summer Olympics. Inflation is now looking to sustain amid declines in GDP and production; and despite tax cuts to domestic industry, interest rate cuts and increased tariffs to protect domestic industry.

 

While growth looks to sustain in Mexico and Argentina, Latin America's second and third largest economies, Brazil's largest economy in the region is showing an effect on one of the largest banks in the world, and certainly Spain's major bank to watch given trends in Brazil.

Banco Santander's Part, Given Its Role In Europe and Latin America

Spain's Banco Santander reported earnings on April 26 and showed net profits down for Q1 by 24% after “provisions” (potential losses) on non-performing loans that rose by 51%. Such poor loan performance appears to come mostly from Spain and the country's major deterioration in economic circumstances.

Santander said in their press release that the non-performing loan rate in Spain was 46%. They also told of Latin American results. According to Santander, some 52% of their profit came from Latin America. From this percentage, 27% came from Brazil....This does appear to account for a quarter of overall profits.

Santander's exposure to Latin America and Brazil in general is further focused by profit consequences from the respective locations. Santander said in their press release that profits dropped in Latin America by 4% in Q1 while profits dropped by 12% in Brazil specifically.

 

Though Spain leads Europe's economic connections with Latin America, Europe in general garnered significant exposure to the region.

IMF Description Of The Exposure of Spain and Europe To Brazil

IMF data reveals that foreign bank claims on the “LA6” (being Brazil, Chile, Colombia, Mexico, Peru and Uruguay), amount to 30% of the Latin region's GDP. Of these bank claims, European banks account for 60%.....essentially on 30% of the named countries' GDP production.

This amounts to heavy exposure against LA6 countries, and in reality against Brazil given its global size.

Brazil's economy has been experiencing a decline unlike other BRIC nations, or other Latin American nations. According to the CIA's World Fact Book, Brazil is the 8^th largest economy in the world, ahead of the United Kingdom, which is number 9. Ahead of Brazil is Russia at 7, Germany at 6, Japan at 5 and India at 4.

 

Because of Spain's exposure to Brazil, and Europe's exposure in general, looking at Brazil's surprising economic results are telling.

Brazil's GDP declined through 2011. Q1:2011 results showed a GDP of 4.20% which declined by Q4:2011 to 1.40%. Currently analysts are expecting Q1:2012 results to show a GDP of .5% to 1% according to a Reuters report dated April 16.

Particular Brazilian Economic Reports And The Future

These numbers seem to be generating significant support given recent data. Industrial production in Brazil isn't showing recovery right now. Instead, and according to the Brazilian Institute of Geography and Statistics (IBGE), Brazil's Census Bureau, numbers are in a trend of decline.

IBGE reports industrial production as having gained 1.3% month over month (Jan. to Feb. for April reports) .However, industrial production showes a Y/Y decline of -3.9% and an accumulation of loss for the first two reporting months of 2012 of -3.4%.

According to the IBGE, the year over year (Y/Y) loss of -3.9% is the 6^th consecutive negative rate (on a continuing basis) and the most for such a duration since 2009 (-7.6%).

Implicated from this is evidence that Brazil is finding a sort of drag from Europe's economic slowing. Also implicated is the association of Brazil to Europe's ability to over come its current circumstance. Naturally, with Brazil going into economic decline following Europe's sustained trouble, can Brazil decouple and show rates more congruent with “BRIC” performance. Probably not. It does appear that organic growth in Brazil, as with Europe, has been compromised.

 

Brazil And Europe Seem Linked To Suspicions Of Economic Disappointment

Other evidence indicates a cause for thought. Brazil's manufacturing data reported on Wednesday, shows corroboration for other indicators of decline. According to the manufacturing report from Reuters, Brazil showed a PMI manufacturing result that decreased below 50, finding itself at 49.3. An actual decline in manufacturing.

Conventional thinking attributes Brazil's economic situation to a strong currency, derived from years of being an export driven economy. A strong Brazilian currency only degrades its export competitiveness amid other countries. Which of course impairs economic performance.

But not expressed in conventional thought is Brazil's need for importing products due to its major infrastructure campaign.

Brazil grew a strong currency due to heavy exports, which grew year after year. While this export strength grew, many sought to engage either in direct investment in Brazil, or purchased its financial assets such as stocks and bonds.

Brazil's Balance of Payment Surplus

Emerging economies are very dependent on the balance of payment dynamic. Current accounts and capital accounts hopefully equal and thereby result in balanced growth. It appears that given Brazil's evolving economic weakness, with European and especially Spain's economic trouble, investors appear to be showing growing hesitation in Latin America.

Brazil's current account deficit (more imports than exports) has fallen year over year from 2011 through 2012. Brazil's capital account surplus has also fallen year over year. All a telling of progressing Brazilian economic circumstances. The real issue to be noticed, however, is Brazil's substantial and disproportionate capital account surplus.

Heavy capital account surpluses drive up the value of Brazil's currency, the real or reais. Also implicated are sustained declines in exports, inflation, declining economic performance and then comes unemployment.

Specifically, Brazil's current account shows that in March of 2011, it stood at -5,737 and its capital account at 16,811. And in March of 2012, current account showed -3,320 while the capital account revealed 13,607 (in $U.S. billion).

Looking only at March differences between current and capital accounts for 2012, a troubling spread exists. While both have fallen, the capital account surplus looks like an over-hang that can sustain Brazil's currency value by itself aside from other influences.

High And Sustained Capital Account Surpluses Look To Reveal Sustained Export Decline And Inflation

Should Brazil's current account deficit continue through building roads and stadiums to host coming events, the current account deficit will continue. Also, should Brazil's capital account surplus continue at its current spread versus the current account, and  due to declining organic economic growth created by global demand decline, it seems that inflation could overwhelm the economy.

Results amount to continuing inflation and an inflated Brazilian Real currency price. Both degrade not only domestic production, but also export potential due to currency differentials. With current and capital account balances declining, but a capital surplus likely to remain for sometime, inflation seems a given. Perhaps this is why Brazil is looking to become aggressive on cutting interest rates. 

From here, where is Spain's deeply extended Banco Santander, and other European banks?