Eurozone Debt Crisis

1. September 2011, Volume: 28
ISSUE
VOLUME
Investeurs
Chronicles
News …… In Focus
Cover Story .......
News on Industry and It takes 32 Rs. to cross
Eurozone in Intensive care
Emerging Markets
poverty line!
Open Forum……. Stats Watch ....... Outlook
Policy Rate Hike Falling connection-GSM Onshore Yuan
subscriber

2. Call Rates as on 23 rd September 2011
 6.50% - 8.35%
Figure Facts
Forex
Forward Rates against INR as on 23rdSeptember, 2011
Spot Rate 1 mth 3 mth 6 mth
US 49.63 49.88 50.3 50.56
Euro 66.8 67.12 67.68 68.06
Sterling 76.52 76.88 77.49 77.84
16501.
Yen 65.11 65.47 66.08 66.53
74
Swiss 54.43 54.75 55.32 55.79
Franc 4946.8 4867.7
Source: Hindu BusinessLine 16162 5
Libor Rates
Libor % 1 mth 3 mth 6 mth 12 mth
US 0.23 0.36 0.54 0.84 Sensex Nifty
Euro 1.29 1.48 1.69 2.03
Sterling 0.68 0.93 1.21 1.69
Yen 0.14 0.19 0.33 0.55
Swiss Franc 0.003 0.010 0.057 0.29
64681
Forward Cover 28134
1 mth 3 mth 6 mth
US 6.13% 5.47% 3.80%
Euro 5.83% 5.34% 3.82%
Sterling 5.72% 5.14% 3.50%
Yen 6.73% 6.04% 4.42%
27271 58801
Swiss Franc 7.15% 6.63% 5.07%
as on 23rd September, 2011 Source: Hindu BusinessLine
Gold (10 gm) Silver (1 KG)
Commodities
Aluminum (1 kg) 108.65
Copper (1 Kg) 397.40
50.01
Zinc (1 kg) 96.75
110.9
Steel L(1000kg) 31800
As on 23 rd September 2011
104.0
8 45.35
Crude Oil (per barrel) Dollar
th rd
Data from 12 September to 23 September

3. StatsWatch YEAR Outlook -Coal
Falling Connections- GSM subscribers Onshore Yuan
For more than a decade, economists and officials in other countries have charged that
the Chinese government has kept the value of its currency artificially low to make the
country's exports more affordable. China’s currency started appreciating in July 2005,
remained stagnant from July 2008 till May 2010 and started appreciating again in June
2010.
Spot Yuan (USD/ CNY) was at 6.3832 on 16 Sept, 2011. Though it was below its all time
high of 6.3705 on Aug 30, it has risen 3.24% so far this year and 6.94% since its de-
pegging in June 2010.
Currently, inflation is the biggest threat faced by Chinese administration. Hence, China
continues to focus on curbing inflation and to reduce the economy’s reliance on exports
and Yuan appreciation is one of the tools to achieve that. China’s economic outlook is
Gloss
rosier compared with developed countries, that helps stimulate demand for the
currency. The Yuan is expected to strengthen and rise 4% to around 6.115 by the end of
“Dumping” this year as the government uses it to reduce the nation’s inflationary pressure and help
The practice of selling goods outside of the usual distribution channels, often its overheating economy,
a foreign market, for a lower than normal price.

4. Cover Story
Run up to our cover story “The crisis Continues-European Union” published 0n 6th June 2011
Eurozone in Intensive Care
Almost every day, warnings come thick and fast that the euro currency club cannot Further, the first view ignores the successful use of fiscal tightening to escape debt
survive the ongoing Greek crisis. A wide range of policy makers and analysts are crises in, for example, Brazil and Turkey in the early 2000s as well as the oft-cited
convinced the eurozone will be torn apart by the wrangling over how much cash to examples of simultaneous austerity and expansion of Canada and Sweden in the
loan the Greeks and how much of the country's debt to write off. The government at 1990s. But they had the benefits of a rapidly recovering global economy to export
the heart of concerns, Greece, risks being unable to pay wages and pensions, if the into as also had the ability to depreciate their currencies. Greece has neither. It
funds (8 billion euros) are not released in next two weeks. Panicked officials are racing cannot escape its predicament using fiscal policy. It needs a debt restructuring.
to plug a gaping hole in the budget and accelerate reforms to evade such a possibility.
The second myth involves a willful or ignorant confusion of short-run stimulus and
A hastily announced property tax which should raise about €2 billion, to keep the
long-run solvency. The irony is that, assuming growth in their economies will
budget deficit below 9% of GDP this year, is a shot at pleasing international lenders.
materialize despite short-run fiscal tightening; the US, the UK and Germany are
A €13 bn bond-buying spree in the mid of September, by the European Central Bank jeopardizing the attempts of others to do the same. What those three countries
(ECB) has compounded the controversy. The purchase of Italian and Spanish think will reassure the markets about solvency will in fact scare them about
government debt led to the resignation of Jürgen Stark, the ECB's hardline chief growth.
economist, who argued that Rome and Madrid should be prevented from accessing
Meanwhile, the source of much of this tension – the eurozone’s painfully slow and
ECB funds before instituting further austerity measures.
disunited approach to resolving the Greek crisis – continues.
The problem is that although a beefed-up EFSF (European Financial Stability Fund)
The fine print of the fuss
will be able to cope with the smaller peripherals, it is unable to support the
For the uninitiated, the obvious solution to the problem may be Greece exiting
refinancing needs of an economy as big as Italy. At an auction of Italian five-year bonds
eurozone. After all, it is the proverbial Achilles’ heel here. However, it is easier
on September 13th its borrowing costs jumped to 5.6%, up from 4.9% at a similar
thought of than done. Adopting the euro was designed to be irrevocable, and
auction in July. Another problem is that the pressure on European banks is increasing.
European Union treaties don't contain provisions that would permit a country to
Again, the real last resort is the ECB, which could relieve the pressures on the system
leave. Amending the treaties could take years and requires unanimous
by being prepared to buy without limit the bonds of solvent euro-zone countries. But
agreement—including that of any country threatened with expulsion. That means
the ECB is itself divided by disagreement.
Greece can't be pushed out against its will. But fellow members could make life so
Fiscal policy in a debt crisis attracts two divergent views: one, austerity never works; difficult for Greece that is has no choice. After all, Greece depends almost entirely
two, you don’t get out of debt by taking on more debt. Neither is necessarily true. But on loans from the euro zone and International Monetary Fund while the European
the problem right now is that the first holds in Greece, where policy is based on Central Bank is providing badly needed liquidity to Greece's enfeebled banks.
ignoring it, and the second fails to hold in Germany, the US and UK, where policy is Those faucets could be shut off.
based on accepting it!

5. But such an action would be hugely costly. It would leave Greece with little or no
ability and incentive to service its euro denominated bonds. Remember, banks
across Europe hold Greek bonds and they would suffer giant losses. During
subprime crisis, toxic debt was hidden in ‘derivatives,’ and kept off balance-sheet.
Now instead of sub-prime property loans, the banks across America and Europe
are hiding toxic Greek debt in their assets: Thus even small exposures – US banks
hold only $1.5bn (€1.1bn) in Greek debt, and British banks are on the hook for
$3.4bn (€2.5bn) – could be masking considerably larger off-balance sheet risks.
Besides the American and British exposure, the direct impact list include: Japanese
banks holding $432m (€316m) in Greek debt, Turkey $30.4bn (€22bn), Poland
$8bn (€5.8bn), Croatia, Hungary and the Czech Republic combined are exposed to
some $460m (€336m) – and on through Bulgaria, Serbia, and Romania.
A Banking Crisis
No wonder then that the sovereign debt crisis has transformed into a ‘Banking
Sector Crisis’.
Greek default can lead to a severe liquidity crunch and flight to safety of deposits
from not only Greek and euro area banks, but from a number of closely inter- Commotion Continues
connected banking systems, especially those with close trading and investment Even if the bank's exposure to Greece was minimized and their position
links to the European Economic Community. This is bound to induce contagion consolidated, there still are a couple of reasons that will keep the threat of a
across the entire euro area and spill over to euro area banks’ cross-links to Eastern broader collapse alive.
and Central Europe and beyond.
The first is that market pressures will move on to the next most likely "candidate"
Already, credit-default-swap spreads for European banks, a measure of how costly to follow the path of Greece; Ireland and Portugal who have also received bailouts.
it is to buy insurance against their default, are at record highs. The rates that banks There will most probably be speculation regarding the future of Spain and Italy.
charge each other for loans in the interbank market are rising, too. Banks are The second issue is that if Greece eventually defaults, it will most probably re-
finding it hard to issue longer-term debt, too. The market for unsecured bonds has adopt its national currency, the drachma, which implies that inflation will sharply
been closed for weeks, leaving banks with no option but to sell covered bonds at rise leading to hyperinflation. This means that Greece will have absolutely no
usurious interest rates that will challenge their profitability. capacity to trade with its European partners under free market conditions, since
she will have to impose protectionist measures in an attempt to safeguard
whatever is left of her economy.

6. The protectionist measures, together with the massive depreciation of the Greek
currency, will have two effects: (a) Greek exports will become very cheap and
therefore will be preferred over the equivalent products of Greece's competitors,
who are also part of the Euro (b) Greece will act like a black hole that will absorb
all the money that is thrown her way without giving anything away (since she will
mostly export and not import). This will understandably destabilize trade, which
again will have negative implications for the rest as it will as well lead to a vicious
cycle.
At any rate the catastrophic implications of a Greek exit or default are such that
will force European leaders to devise any sort of action that will prevent them.
Eurobond
With the European Union (EU) on the brink, the world is hoping that the political note that its debt is far higher, so the ripple effects could be more serious.
leadership in eurozone agrees to plans for a common euro zone sovereign bond Total Greek public debt is about 370 billion euros, or $500 billion. By comparison,
that could avert Europe’s “Lehman moment”, and the prospect of fresh financial Argentina's debt was $82 billion when it defaulted in 2001; when Russia defaulted, in
contagion. Although such a bond cannot address the deeper structural issues that 1998, its debt was $79 billion.
the euro zone faces, of slow growth and political asymmetries, this joint debt issue
At its heart, the eurozone's problems remain rooted in the banking sector. A decision
will go some way towards easing the impending credit crunch by lowering the cost
by the French and German parliaments to underwrite their biggest at-risk banks
of borrowing for debt-ridden countries and, as important, sending signals to the
would take the problem off the table for now. But policymakers remain in denial and
investor community that Europe’s strong economies are – finally – ready to take
prevarication among politicians dumps the problem back in the ECB's lap. In
some responsibility for the smaller and weaker states. A euro-bond issue will also
particular, work on transforming Europe's main financial rescue vehicle, the proposed
give Europe the breather it needs to redefine the contours of the monetary union.
440 billion euro European Financial Stability Facility, would have to be fast tracked so
One sticking point about the euro bond is that it is likely to come with stricter and
that it would be in a position to buy European bonds and, crucially, provide emergency
more intrusive financial oversight, at which member countries may baulk.
loans to countries that need to inject money into capital starved banks.
Conclusion
Rising government credit risks, including recent Italy’s downgrade, shaky asset
While other countries have defaulted on their sovereign debt in recent times
markets, weakening growth: the makers of the horror movie of 2008 are clearly
without causing systemic contagion, analysts weighing the numbers on Greece
contemplating a sequel – “Lehman Brothers II: This Time its Sovereign”.

7. Everonn to sell 12% stake to Dubai-based GEMS Contracts for 7,300 km roads to be awarded by
Education for Rs 138 crore March-end: Joshi
Embattled Chennai-based Company Everonn Education, The government today said contracts for laying over
whose founder is in jail, will sell a 12% stake for Rs 138 7,300 km roads will be awarded by the end of current
12th rate hike by RBI; loans to cost more crore to Dubai-based GEMS Education via a preferential financial year."...Before the year ends, we will award
Concerned over high inflation, the Reserve Bank on 16th allotment of shares. Each share will cost GEMS 528, an concessions for over 7,300 km (roads). This will harness
September 2011 raised key interest rates by 25 basis over 40% premium to Tuesday's (20th September 2011) private investment of over Rs 50,000 crore," Road,
points, its 12th such hike since March, 2010, making auto, closing price. GEMS belongs to the Varkey Group, founded Transport & Highways Minister C P Joshi said at the
home and other loans more expensive. Following the by Padmashri Award recipient and Dubai-based NRI 'Conference on Public Private Partnership (PPP) in
increase, the short-term lending (repo) rate stands at 8.25 entrepreneur Sunny Varkey. National Highways: Challenges & Opportunities. He said
per cent and the short-term borrowing rate (reverse that out of India's highways network of 71,000 km, up
repo) is 7.25 per cent. The RBI, while announcing its mid- Desktops won't die so soon gradation projects for about 16,000 km have been
term review of the monetary policy, kept all other rates In the April-June quarter, desktop PCs accounted for 61 completed, while about 15,000 km are in different
and ratios unchanged per cent of the total market size of 2.5 million PC units stages of implementation of being awarded.
sold (the installed base is estimated at around 53 million
Consumer Price Index up 1.18% in Aug; food and units), according to Gartner. In 2011, while the growth of
clothing dearer desktops is expected to rise 10 per cent to 6.74 million
Expensive food and clothing pushed up the Consumer units, the share of desktops as a percentage of total PC
Price Index (CPI) by 1.18 per cent in August vis-a-vis the shipments is expected to fall marginally to 60 per cent. In
previous month, but experts said too much should not be 2012, desktops are estimated to grow by 11.9 per cent
read into the numbers, as the data on retail prices is yet to (7.54 million units).
stabilise. The CPI based on retail prices stood at 111.7
points in August, compared to 110.4 points in July, as per 12th rate hike by RBI; loans to cost more
data released by the government. The main increase was Concerned over high inflation, the Reserve Bank on 16th
seen in the prices of vegetables, with the index rising by September 2011 raised key interest rates by 25 basis
4.61 per cent month-on-month to 113.4 points, while the points, its 12th such hike since March, 2010, making auto,
indices for milk and milk products and fruits went up by home and other loans more expensive. Following the
over 1 per cent each. increase, the short-term lending (repo) rate stands at 8.25
per cent and the short-term borrowing rate (reverse
repo) is 7.25 per cent.

8. Emerging Markets
Indonesia: Coal production may reach 370 million discount-deals operator, acquired Ensogo, a Thai
tons this year company operating the same business, while Rakuten, a
South Africa: No surprise as rates held steady Given current production trends, Indonesian coal output Japanese e- commerce company, bought Tarad.com, a
The Reserve Bank has left the repo rate unchanged at may reach 370 million tons by the end of this year, if Thai online market. The two global players came to
5.5%, as widely forecast. Although economic data out rainfall is not too excessive during the final three months, Thailand as they are looking to expand to the fast-
this week sent mixed signals about the state of the the Indonesian Coal Mining Association (APBI) growing, less-crowded Asian market.
South African economy, the dovish stance of the announced. The association said that from January to
monetary policy committee (MPC) after its three-day August, the country’s coal production had already Egypt asks U.S. business for help, urges investment
meeting was no surprise. Money markets factored in reached 235 million tons. Earlier estimates had targeted Badly in need of cash flow, Egypt appealed to the U.S.
a small chance of a repo rate cut late this year or this year’s coal production to between 340 million and business community to help the country rebuild following
early next year, but the steep rand depreciation may 360 million tons. In 2011, Bob predicted that around 65 street protests that pushed its president out in February.
limit further monetary loosening. million tons of coal would be sold to the domestic market The Egyptian government has forecast growth of
through the domestic market obligation (DMO) somewhere between 3 to 3.5 percent in the current fiscal
Indonesia: Rupiah drops to lowest rate this regulation, which requires coal producers to sell a part of year ending June and has narrowed its budget deficit to
year their production to local buyers.In 2012, he estimated 8.6 percent of gross domestic product
The rupiah dropped to 9,367 per US dollar at that 75 million tons of coal would be allocated for the
opening time on 22nd September morning, its lowest country’s coal users. Singapore jobless rate up slightly in Q2
position since May last year. Commonwealth Bank Singapore's final unemployment rate increased slightly in
currency analyst Mika Martumpal said the rupiah Thailand: Thai tech companies draw global the second quarter, but is lower than the preliminary
depreciation had followed the falling stock and interest figure of 2.2 per cent reported in July. According to the
commodity markets. He said many investors had let Competition in the local online business is heating up Ministry of Manpower (MOM), the overall unemployment
go of stocks and bonds and shifted to dollars, further with some global companies exploring opportunities to rate increased from a seasonally adjusted 1.9 per cent in
pressuring the rupiah.“The market [situation] has buy or form partnerships with Thai online firms to March 2011 to 2.1 per cent in June 2011 with the slower
been triggered by the Greek default risk and the provide services here. Baidu, a Chinese search engine unemployment growth. Services continued to generate
decision of the [US] Federal Reserve, announced last operator, is in talks to invest in some Thai websites with the bulk of the employment gains, adding 20,200 workers
night,” Mika said. strong customer bases such as Mthai and Kapook, said an in the second quarter. Construction expanded by 3,600,
industry source. Earlier, Living Social, a US online higher while manufacturing rose by 800, up from the flat
gains (100) in the previous quarter.

9. Open Forum
InFocus
It takes 32 Rs. to cross poverty line! POLICY RATE HIKE: The other side of Discussion
If a person is spending more than Rs.32 a day in urban India, is he poor? No. All I Said Was Don’t Ignore Turkey Rate Cuts & Fall in Inflation: Basu
Atleast the Planning Commission thinks so! According to a reply submitted by the In the run up to the monetary policy review on September 16,
Planning Commission to the Supreme Court, anyone spending more than Rs 965 chief economic advisor Kaushik Basu said he did not favour an interest rate increase. The
per month in urban India and Rs 781 in rural India will be deemed to be not poor. RBI lifted the key policy rate 25 basis points.
This effectively means that those spending in excess of Rs 32 a day in urban areas
Contrary to what you were advising, the RBI has raised rates. Does this show a
or Rs 26 a day in villages would no longer be eligible to draw benefits of central
conflict among the decision-makers?
and state government welfare schemes for those living below the poverty line.
Not at all. Let me first clarify that what I advised RBI was to “consider” not raising the
Not surprisingly, it has created outrage among activists who feel it’s a ploy to
interest rate. Turkey, despite high inflation, began lowering interest rates from the
artificially depress the number of poor in India. However, commission maintains
middle of last year. Critics were fully braced for further inflation. What happened was
that these were provisional figures based on the Tendulkar committee report
interesting. Turkey’s growth rate rose—as expected; Turkey now stands with China at
updated for current prices by taking account of the Consumer Price Index for
the top of the league among G20 nations. The surprise was in the inflation. Far from
Industrial and Agricultural workers.
rising it came down from over 10% in April 2010 to around 6%. I am fully aware that
Practically applying this idea of Planning Commission would yield following
nations have their own idiosyncracies; but we must not dismiss other nations’
picture according to prices in the national capital:
experiences out of hand. I used the Turkish experience—and some of Brazil—and also
some economic theory to argue that it is no longer obvious that India should continue to
raise interest rates. I urged the RBI to think out of the box and then act. It is my job as an
economic adviser to float new ideas and not simply parrot the majority opinion. And I
am glad that India’s policy cycle is robust enough that we can openly discuss different
ideas. It is RBI’s job to take a final call. I like to believe that it did consider my views and
then took the decision. The Reserve Bank is a thinking organization and I have great
respect for those at its helm. But that does not mean that we will all reach the same
conclusion. Total coincidence of opinions is not a sign of good government but of a bad
totalitarian state.

10. The Turkish Central Bank lowered interest rates not to control inflation but to counter capital inflows?
You are right about that. But the reason for which Turkey did this is of no interest to me. Turkey’s action has thrown up evidence that is of interest. Fleming did not discover
penicillin because he was looking for it; it was a by-product of other activity. It is entirely possible that after studying this serendipitous experiment we will conclude that it is
unlikely to be repeated in India. I am fine with that. But we must have the openness to examine it.
Do you believe, as some have argued, that to control inflation India has to keep its growth down to below 8%?
No I don’t. The kind of research which leads to such a belief entails statistically extending a nation’s past experience to create a potential growth path. For a dynamic nation on
a take-off path, such as India, such projections are deeply misleading. There are many economies in early stages that have grown consistently beyond what would have been
considered their capacity growth by this calculation. From 1966 to the end of the 70s, South Korea grew at astonishing rates, often above 10% per annum. This was also a
period when it had high inflation. In fact, barring one year, it had double-digit inflation for this entire 14-year stretch. It is important to see that neither of these two trends got
in the way of the other. It would have been a mistake if Korea had cut its growth back during this vital period in the belief that it was performing above capacity.
Are inflation and slowdown signs of the government running out of ideas and the Indian miracle coming to an end?
The inflation situation and the slowdown in growth are indeed a matter of concern, but let us not get things out of proportion. A growth rate of 7.7%—the figure India
achieved in the first quarter of 2011-12—is disappointing compared to what we have achieved in recent times. But by any international comparison it is remarkable
performance. The fact that it disappoints us shows more than anything else how our yardstick has changed. We are demanding of India, which is a good sign. As for inflation,
9.8% is unacceptably high and we have to work to bring it down. But once again we have to recognize that there are nations—industrialized and emerging-—that have had
inflation many times more than that. Further, India’s nominal income is growing by roughly 18% per annum. So even if inflation takes away 10 of those percentage points,
people have more real goods and services to consume each year by a hefty 8%. This is no mean achievement.
Should we accept high inflation and press full throttle on growth?
We should not accept it and we press full throttle. Let me explain. I have argued elsewhere that it is natural to get an additional 2 percentage points of inflation during a
nation’s rapid growth phase. If in addition we treat up to 2 or 3 inflation as standard as many central banks do, even then we are talking of an inflation of less than 5%. I am in
favor of using such a target. I don’t think that just because we are in a high growth phase we have to inflate faster. At times, in rapidly growing economies such as ours or
Korea’s in the seventies, there is so much change that inflation goes up as happened in Korea and is happening here. But there is no “has to” about this. We simply need to find
the new policy rules, for a new and changing economy.

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