Archive for October, 2012

Drawing A Line

We saw recently how the ECB’s new bond-buying programme helped draw a line under the recovery in market sentiment. It feels as though a number of people are now less afraid of Europe than they were a few months ago.

Among those people, so it would seem, are the ratings companies. Last week we saw S&P downgrade Spain to a notch above junk – not good news, exactly, but a relatively moderate move (from BBB+ to BBB-). And then on Tuesday, Moody’s – who already had the country rated at the BBB- level, and “on watch” for future downgrades to boot – resisted the opportunity to put some distance between themselves and the competition by leaving their rating at investment grade. They specifically cited the possibility of further emergency lending together with bond market intervention by the ECB as reasons for their decision.

How times change. In July of 2011, Moody’s junked Portugal because of the intervention in debt markets being hinted at – but not by then even formally discussed – as part of the renegotiation of the Greek bailout. The following week they junked Ireland because they thought further emergency lending might be required to see it through its difficulties. Not to be left out, S&P waited until August then took some elegantly left-field action by notching the US down from AAA.

Back in 2011 the ratings companies were worried about falling behind the market and risking the same charges of over-optimism, incompetence or even negligence which they had faced as a big part of the credit market boom prior to the collapse of 2007-8. So what has changed?

The European downgrades last year were not well received. S&P’s and Moody’s offices in Milan were raided by police as Italy feared its ratings would be next. The EU began to take an interest in regulating the companies and there were appeals to take antitrust action against a perceived oligopoly. And action was taken by the ECB, ISDA and others to reduce the mechanistic reliance on credit ratings for the acceptance of loan collateral or the triggering of credit derivatives.

But more important than any of this must be the change in sentiment which recent months have seen. Last year’s downgrades really were chasing the market. Portugal’s five year bond yield began 2011 at 5.7%. By the time Moody’s slashed the rating in July this had more than doubled. This year things have taken a very different turn. When Moody’s cut Spain’s rating in mid-June its five year yield had jumped up past 6%; now it’s back to 4.2%.

None of this is to say that ratings are irrelevant – or that they were then. Portuguese paper suffered sharp falls when Moody’s pulled the plug, and Spanish bonds have found renewed support since they decided to hold fire. But what we surely can say is that these ratings decisions are a further sign that sentiment over the European crisis is bottoming out.

In the months ahead there is plenty of room for more scares. Ratings companies, governments, markets – the game goes on, and can always change. Still: it is encouraging to see that Moody’s, too, has drawn the line this week.

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19/10/2012 at 5:27 pm

In Data We Trust

The big economic news in the US of late has concerned jobs. Last Friday it was announced that the unemployment rate dropped to 7.8% in September from 8.1% the month before, the lowest level since January 2009. Some thought this was too good to be true. Jack Welch, legendary former chairman of GE, was suspicious that such positive news should come two days after a presidential debate which the incumbent was widely seen to have lost, accusing “the Chicago boys” of having “changed the numbers”.

Inevitably, Mr Welch was accused of cracking up. But it is true that governments do fiddle the figures, or perhaps just as worryingly, have to fight hard to make sure they’re not being exaggerated.

In Argentina for example, inflation was running at an uncomfortably high level a few years ago. The former president took decisive action.

In January 2007, key staff in the statistics office started to be replaced.

A year later, inflation had fallen from 9.7% to 8.2% – proof that the strategy worked. Except, that is, according to those who kept an unofficial eye on consumer prices and whispered that the true rate was nearer to 20%.

Sometimes it’s the statisticians who need policing. At around the same time as the former President Kirchner was improving the quality of Argentine price measurement, the Chinese government set about toughening the laws on falsifying data:

Data falsification has long been a problem among Chinese officials, who seek to meet government targets to qualify for promotions. In 2007, nearly 20,000 violations “were uncovered,” China Daily reported in April. In one case, the NPC [National People’s Congress] reportedly discovered that officials in Chongqing municipality added a zero to the production figure of an enterprise to boost its output data tenfold. In 2004, the NBS found that local economic reports exceeded the national GDP total by 3.9 percent …

Of course, in the West we have the rule of law, and self-advancement is not so dependent on flattering the targets of the state. Nonetheless, it is amusing to note that British officials are currently looking at ways to reduce the quoted rate of inflation here, something which would coincidentally cut the government’s cost of borrowing: it was the cost of servicing Argentina’s inflation-linked bonds that so irked the late President Kirchner half a decade ago.

But we must not be too cynical. Mr Welch – if not cracked, exactly – is very likely to be wrong.

US unemployment has stayed high for an unusually long time since the end of the recession. In the early 1980s it took less than two years for the peak in unemployment to fall back down to its pre-recessionary level. In the 1990s it took a little longer, as it did following the collapse of the stock market ten years later. Today we are exactly three years from the 10% high of October 2009 – and yet the rate has only fallen back to 7.8%. That’s still a long way from the 4.6% average seen in 2007. If anything, we should be surprised that the rate of job creation has taken so long to increase.

There has also been some corroborating evidence to support the release of the unemployment data since last week. Only yesterday, the number of weekly initial jobless claims was reported at 339,000 – the lowest level since January 2008. (And this is an actual number, unlike the labour market data which is based on business and household surveys.)

It is right to be sceptical of data, and folly to impart too much significance to an individual release. And it is an indisputable matter of record that politicians with the necessary degree of motivation and cojones (as they say in Argentina) can corrupt economic numbers if they so choose. Jack Welch’s incredulity is understandable, up to a point. But the best advice is surely to follow patterns of behaviour over time; to build up a big picture. Once we have that in mind, it becomes easier to spot what might genuinely be out of place.

12/10/2012 at 5:01 pm


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