9th March 2011 by Shaun Richards
One of the certainties of the post credit crunch environment has been signs of inflationary pressure in the UK economy. This should be at the top of the agenda of the UK Monetary Policy Committee as it starts its latest two-day meeting. This morning the British Retail Consortium (BRC) has updated us on the picture for shop prices in February.
Overall shop price inflation increased to 2.7% in February from 2.5% in January. Food inflation fell to 4.5% from 4.6% in January. Non-food inflation increased to 1.6% from 1.3% in January.
So we see yet another rise and whilst the BRC engages in a spinning operation in its report to in effect tell us up is the new down I spotted this about food prices.
This is demonstrated by the record proportion of groceries on promotion or discount, currently 39 per cent.
As promotions and discounts are by their nature temporary then that means that putting 39% of groceries on them has reduced food price inflation by a mere 0.1%. When they end therefore we can expect further upward pressure on food prices and hence overall shop inflation. There is also an irony in the discounts being “temporary” as that it is of course what the Bank of England keeps telling us our inflation is! The biter bit perhaps. If we think back to the figures for shop sales in February which the BRC produced yesterday which showed a fall of 0.4% compared with February 2010 we see a worrying picture of a fall in sales combined with a pick up of inflation. One of the themes of this blog has been the danger of stagflation and in the retail sector that appears to be exactly what we got in February.
Problems in the Euro zone: Bank stress tests
Last July a group of civil servants in the Euro zone published the results of their stress tests for Europe’s banks. In spite of criticism that was a version of the football terrace chant “You don’t know what you’re doing” these stress tests were lauded by Euro zone officials and politicians. Unfortunately the Irish banks which passed the test collapsed soon after! I guess the analogy for this is a bridge passing a safety test and then falling down.
Well just to prove that history teaches the Euro zone nothing banking stress tests are back and at present the plans are looking awfully familiar. Indeed there are several areas where the criteria have been relaxed such as the macroeconomic stress test and also the fall in the equity market which has been downgraded from a 20% fall to a 15% fall. If we stick to that measure for one second we can see the extent of the ill-logic as equity markets are now higher and a higher asset price means more risk. The Eurofirst 300 equity index closed at 1044 on the day of release of the stress tests and is now some 9.96% higher at 1148.
Perhaps the worst aspect of the previous stress test remains with us as assets which the bank plans to hold to maturity will not be included. An example of this would be a Greek,Irish or Portuguese government bond where the bank can avoid any impact on its figures by saying it will hold it until maturity. I am reminded of the City aphorism that a long-term position is a short-term punt that has gone wrong! As many of the Greek banks have holdings of Greek government bonds which are larger and sometimes much larger than their capital then such a ruling means that any results for them are meaningless.
It is a sad thing to report but the previous bank stress tests did buy the Euro zone some time. Perhaps a couple of months or so before Ireland started her banking inspired spiral downwards. Why is this so sad? Easy after all this time it appears that buying a couple of months again is the best the Euro zone can come up with.
I am of the view that the concept of a stress test is at best a guide and should be treated as such. The Euro zone version has proved not even to be that and should be treated accordingly.
More Woe For Greece
There have been increasing rumours that Greece will issue some “diaspora” bonds. These look like they will be offered in US dollars and there have been claims that they may offer as little as 4% yield. The original plan was to issue around US $3 billion of these. The concept is that they would be sold to Greek expatriates of which it is estimated that there are as many as Greece’s actual population. Now to my mind they would really have to love the motherland to allow themselves to be taken advantage of by these proposed terms! Would Sir or Madam prefer 4% to 12%?
The truth is that the Greek government has promised regularly that it will return to issuing bonds in 2011. As conventional issuance at present price and yield levels would confirm Greece’s insolvency there is a clear flaw in such a plan. However they appear not to be bothered by such (petty?) inconveniences such as reality and are trying to come up with something which looks different and presumably will fool people enough that they might buy some of it. This has happened in other countries in one form or another as for example the War Loan stock in the UK has never been repaid. However whilst War Loan turned out to be a type of misrepresentation it was not evident at the time of sale!
Greece does issue bills and issued some yesterday and it did not go particularly well. Just to clear up the difference between a bill and a bond then bills are usually of 12 months lifespan or less and bonds are of longer maturity although paper with a lifespan of between 1 and 2 years can also sometimes be called a bill. As the debt issued yesterday was of 6 months maturity then it was a bill and Greece raised some 1.62 billion Euros. There the good news ended as she had to pay 4.75% rather than the (already inflated) 4.64% she had to pay in February.
The size of the bill issue was increased because Greece has higher debt repayments to make this month and this is an ominous foreboding for her. Apart from the increasing cost of issuance she does have two inflation linked bonds and inflation is over 5% so they are proving expensive too. This is also a problem for the UK as we also have inflation-linked bonds representing more than 20% of our national debt and inflation is high here too. Greece has a much more genuine case for ruing the increase in consumption taxes such as VAT as she has had several goes at it and they will have impacted on her inflation rate.
The net result of this was that Greek ten-year government bond yields rose to close at 12.85%. At times her government bond market has got so frenzied and confused it has been hard to tell exact yields but this is about as bad as it has got and this now includes the period running up to her “rescue” although some reports had the yield over 13% briefly. If we put this another way and go back one calendar year then Greek ten-year government bond yields are 6.82% higher now than they were then.
There is a worse problem as her two-year yields are now 16.25% which is some 10.83% higher than a calendar year ago! Now the official European Central Bank interest rate is 1% and I use the difference between official rates and short-term bond yields as a yardstick. For example to illustrate the point even after last weeks rises in yield after the ECB announced it is considered an interest-rate rise German two-year bond yields 1.73%. So the gap between her and Greece is some 14.52%.
Now here comes the rub as two-years is well within the scope of the “rescue” programme. So the return of the money is in effect guaranteed by the European Central Bank the International Monetary Fund and the European Union. However at a price of 79.8 for a bond on which you should accordingly get 100 in only two years sends its own message as to the credibility of this “rescue”. This is my message to those prone to hyperbole in support of the “rescue”, how much of this bond do you hold?
Greek finances: tax revenue disappoint again
The Greek newspaper Kathimerini reported this yesterday about Greek budget revenues.
Compared with the first two months of 2010, revenues declined this year by 9.2 percent…………the shortfall exceeding 870 million euros after the February goal was missed by 595 million.
This reinforced a point made in the downgrade issued by Moody’s (point two from my update from Monday the 7th of March) . It also reminds me of the furious sounding rebuttal of the downgrade issued by the Greek Finance Ministry.
Furthermore, Moody’s announcement refers to the delay in the rebounding of budget revenues, yet does not take into account the increase in revenues.
Whilst they are talking about 2010 they must have known their own figures for 2011…..
If you look at the Kathimerini article some things look awfully familiar to followers of the Greek crisis. The emphasis is mine for a bit I considered rather extraordinary (isn’t Greece supposed to be checking more not less?).
It appears that the revenue problems arose due to poor calculations by the Finance Ministry while drafting the budget, a reduction in checks and the go-slow tactics of some tax officers in protest at recent salary cuts.
Much of this is familiar at a time when we are supposed to believe that this is in effect the new improved Greece. As figures emerge they are contradicting the official story more and more. Looking at the detail of the figures the VAT take has in fact improved by 7.1% this year but this only means that other taxes must have fallen even further than the headline number suggests. I write this sadly but with the latest annualised economic growth figures showing a fall of 6.6% these tax revenue figures are not a surprise and I worry that things could get even worse.
Today the emphasis moves to Portugal as she is planning to issue some 1 billion Euros of a two and a half-year bond. The problem is that her ten-year bond yield closed above 7.6% yesterday and frankly there appear to be few signs of buyers of her paper/debt. It remains to be seen whether the European Central Bank will step in again and in effect become a “buyer of last resort”. No doubt there will be some arm-twisting to get some institutions to buy…..
Just as a matter of record I emailed the Minister of Finance with some suggestions as to how I feel the situation for Portugal could be improved last Friday. Should I get a reply I will let you know.
Update 11:30 am
The website for Portugal’s debt agency is a little confused about the new bond as on one bit it says 2012 and on another 2013 as the maturity of this bond…………..