Orphanides, Athanasios Orphanides, ECB governing council member, and current governor of Cyprus’s central bank. So the 16 country euro bloc is now being run from Cyprus. Ben Sils has the story:

A former Federal Reserve economist who made a name for himself telling his superiors they were wrong is now taking on European Central Bank President Jean-Claude Trichet.

Athanasios Orphanides, the governor of Cyprus’s central bank, was the first ECB official to argue in favor of zero interest rates, challenging Trichet’s position that cutting them so low would have “drawbacks” and should be avoided. Now, investors and economists are betting Orphanides, 46, is winning the argument as the euro region suffers its worst recession since World War II.

The ECB “can’t stand on the sidelines and use some weird voodoo economics,” said Erik Nielsen, chief European economist at Goldman Sachs Group Inc. in London. “Over time, the power of the right argument tends to win out over the wrong.”

At least seven members of the ECB’s 22-member Governing Council have lined up behind Trichet as they struggle to agree on new tools that would be needed with zero rates. Still, some have started to warm to the idea of deploying all the ECB’s rate ammunition and turning to unconventional methods, suggesting Orphanides may be securing support.

Bond markets expect Orphanides to prevail: Yields on two-year German bunds have fallen to their lowest level since at least 1990. All 55 economists surveyed by Bloomberg News predict the ECB will cut its main rate by a half-point to a record level of 1.5 percent on March 5.

Of course, the fact that Ben and I shared a very congenial cup of coffee last month in my favourite bar in Barcelona is entirely coincidental to all of this :).

Well if you want to set off a further wave of speculative contagion, here exactly is how to do it:

European Union Monetary Affairs Commissioner Joaquin Almunia said “there are risks in the banks” of eastern, southern and central Europe. “The assets of these subsidiaries of foreign banks are being impaired because of the crisis,” Almunia said at an event in Brussels today. Across the EU, “we need to have sound balance sheets in the banks to restore the credit channels.”
Bloomberg

Isn’t it time this guy was replaced, he is definitely on the liability rather than the asset side of the balance sheet? Helloo, anybody there?

Oh, and yesterday, according to Dow Jones News Wire we had this performance:

“Member States that have not done so should strive to meet the criteria for euro adoption,” Almunia said at a conference in Prague. The euro “provides a considerable shield from the worst effects of economic turbulence” and leads to better trade and financial integration and more competition, he added. Almunia said that an expanded euro area would have to go hand in hand with wider surveillance of national economies “in order to anchor stability and prevent the build up of macro-financial risks.”

What the hell is he going on about here? Is he suggesting that people haven’t been striving to join? What does he think they have been doing in Eastern Europe for the last 8 years. Or is he announcing a change in policy, that we will offer the carrot, and if they jump hard enough so they can bite it then in they will come, behind our defensive shield? Really the man is completely useless. As Krugman said yesterday, what IS the weather like on his planet, maybe we could all go for a visit.

Well Estonia just set a new record (at least for the EU) this time round, for the sharpest year on year contraction in industrial output seen to date (although still below Ukraine’s 34.1% January year on year contraction, as Ron points out in comments). The Great Depression II is evidently now among us, and it is currently visiting Estonia.

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It’s a depressing spectacle: on both sides of the Atlantic, policy-makers just keep falling short — and the odds that this slump really will turn into Great Depression II keep rising.

In Europe, leaders rejected pleas for a comprehensive rescue plan for troubled East European economies, promising instead to provide “case-by-case” support. That means a slow dribble of funds, with no chance of reversing the downward spiral.

Oh, and Jean-Claude Trichet says that there is no deflation threat in Europe. What’s the weather like on his planet?
Paul Krugman, yesterday

What follows here are simply a few charts to illustrate further the argument I developed yesterday as regards the significance of the deflation threat which now exists in the eurozone. The argument is that the ECB is once again being far too cautious, and risks allowing the entire eurozone to entire a deflationary cycle which may prove to be a lot harder to get out of than it was to get into. In my view the ECB should bring the refinancing rate close to zero % at next Thursday’s rate setting meeting, and then explore what measures can be taken to introduce a zonewide version of US/Japan style Quantitative Easing as quickly as possible.

The key argument I am presenting is that it is a mistake to focus at this point on what is happening to energy, food and other commodity prices. The key issue is what is happening to core prices, and what will continue to happen to them as output contracts further. The other side of the coin are inflation expectations, and as we will see below these are now falling rapidly across Europe. It is very important at this point that these expectations do not get “locked in” to price fall expectations. Continue reading →

I’ve got it. Germany has finally encircled itself. With 10 countries out there desperately looking for help from the East, 5 (including Austria) about to do so from the South, and two more (the UK and Ireland) from the West, news now comes in that one last group of walking wounded have finally made their way into that hastily erected field hospital – the Scandinavian countries. Perhaps all that is left is for Germany itself to finally throw the towel in and turn to the Union for help. Go to it France! Continue reading →

Well reading the press this morning it would be fairly easy to reach the conclusion that nothing really happened yesterday in Brussels, and that a great opportunity was lost. The latter may finally be true, but the former most certainly is not.

Let’s look first at what was not decided on Sunday. The leaders of the 27 member countries in the European Union most certainly did not vote to back a proposal from Hungarian Prime Minister Ferenc Gyurcsany for a 180-billion-euro ($228 billion) aid package for central and eastern Europe. They did not back it because it was not even seriously on the agenda at this point. These people move slowly and we need to talk them throught one step at a time. So what was on the agenda. EU bonds for one, and accelerated euro membership for the East for a second. And once we have the EU bonds firmly in place, then that will be the time to decide how we might use the extra shooting power they will bring us (boosting the ECB balance sheet would be one serious option they should consider, see forthcoming post from me and Claus Vistesen). That is when the emergency blood transfusion Gyurcsany was rooting for might come into play, but on this, as on so many items, the details of how we do what we do as well as the “what we do” will become important, so the moves we do take need to be well thought out, and systematic, they need to get to the roots of the problem, and not simply respond to problems on a piecemeal, reactive basis. Continue reading →

He’s at it again. Last year he was busily trying to worry us all that inflation was set to get completely out of hand among the 16 countries who make up the eurozone. Now the President of the European Central Bank, Jean-Claude Trichet, is hard at it on another tack and is busying himself trying to convince us that there is no credible deflation threat facing these countries. Apart from getting it wrong on both occasions, the common point here would be a certain inbuilt “inflation bias”, a bias which was earlier called “the original sin of the Bundesbank” by nobel prize winning Italian economist Franco Modigliani.

“There is presently no threat of deflation,” Trichet told a committee of the European Parliament on Wednesday 14 February. “We are currently witnessing is a process of disinflation, driven in particular by a sharp decline in commodity prices.” …”It is a welcome development,” he said, adding that the fall in energy, and other prices should help boost struggling economies.

Apart from manifesting a spectacular lack of economic judgement, the Financial Times’s Banker of the Year 2007 is now forcing us to ask the embarassing question as to just how far “out of touch” you can get with the material you are supposed to be handling and continue to hold down your job. It seems we are forced to come up with the rather worrying response, that, in the case of the principal EU institutions (remember the sad case of Economy and Finance Commissioner Joaquin Almunia), the answer is “bastante” (consideably), since a quick look at the data we have to hand shows us that Eurozone inflation is already significantly undershooting the European Central Bank’s own target (and principle policy objective) of maintaining the annual rate “below but close” to 2%. Worse, by all appearances the rate of consumer price inflation in the eurozone is now set to head straight off into negative territory. Continue reading →

Japanese manufacturing output fell in January by a record 10 per cent month-on-month while new job offers declined 18 per cent, reflecting the deepening recession in the world’s second biggest economy. Industrial production was down a whopping 30.8 per cent year-on-year, as manufacturers of vehicles, electronics parts and devices and general machinery cut output to adjust to the rapid fall in global demand.

Continue reading →

From Vyacheslav Dombrovsky:

Just when you thought there is nothing that can surprise you anymore in this country, comes this. LNT’s “Degpunktā” reports that Valmiera state prison had four special guards dogs shot as part of the “economy regime”. Apparently, the guards couldn’t bring themselves to do that so they called in an outsider and gave him a gun. I wonder if that’s the kind of measures that Mr Slakteris, the minister of finance, meant when he famously told the Bloomberg TV that “we will be …taupÄ«gi [economical].”

But more seriously, this is another point to the case that “wage devaluation” just does not seem to be working very well in the public sector. In theory, what was supposed to happen is mostly nominal adjustment in wages of public sector employees, without affecting the supply of (useful) services of the public sector. It’s hard to call the above case a “nominal adjustment”. Having fewer guards dogs will make it easier for inmates to escape, which is a pretty real effect as well. Generally, there seems to be growing evidence that the economy regime is largely about cutting the supply of public services, and not just a nominal decrease in wages. This is not how it’s supposed to be.

Meanwhile, it seems that in Latvia, the expression “being treated like a dog” assumes a whole new meaning…

Well, the Economist have finally scrambled out of their dugout and have now joined the fray. Welcome!

Today they have a leader entitled “The bill that could break up Europe“, with the sub heading “If eastern Europe goes down, it may take the European Union with it”, so I think we can all get the message easily enough.

Many west Europeans, faced with severe recession at home, will see this [an Eastern European “bail out” – Edward] as outrageously unfair. The east Europeans have been on a binge fuelled by foreign investment, the desire for western living standards and the hope that most would soon be able to adopt Europe’s single currency, the euro. Critics argue, with some justice, that some east European countries were ill-prepared for EU membership; that they have botched or sidestepped reforms; and that they have wasted their borrowed billions on construction and consumption booms. Surely they should pay the price for their own folly?

Yet if a country such as Hungary or one of the Baltic three went under, west Europeans would be among the first to suffer (see article). Banks from Austria, Italy and Sweden, which have invested and lent heavily in eastern Europe, would see catastrophic losses if the value of their assets shrivelled. The strain of default, combined with atavistic protectionist instincts coming to the fore all over Europe, could easily unravel the EU’s proudest achievement, its single market.

Indeed, collapse in the east would quickly raise questions about the future of the EU itself. It would destabilise the euro—for some euro members, such as Ireland and Greece, are not in much better shape than eastern Europe. And it would spell doom for any chance of further enlarging the EU, raising new doubts about the future prospects of the western Balkans, Turkey and several countries from the former Soviet Union.

The thing is, all of this is much more complicated than it seems at first glance. Surely local policies by individual governments and decisions by householders have been partly to blame for the mess. But so have lending decisions by Western banks, and the national central banks who supervise them. And then we have the policy decisions (or the lack of them) taken in Brussels or at the ECB in Frankfurt. We are singularly lacking in any form of self cricisism here, and yet, paraphrasing Oscar Wilde just one more time, losing one child may be put down to an accident, but losing all your children, all at the same time, surely that must be negligence. When you are up before the judge it just doesn’t wash to say that they were all very badly behaved, and you couldn’t control them. Whatever happened to our sense of parental responsibility?

Put another way, if you are a teacher and 10% of your students fail then that is their problem, but if 90% fail, then it is your problem, or it should be.

So Sunday is D Day, the day when we finally have nowhere to hide, and we need to take real decisions. Obviously this situation needs more than simply “tweaking”, it needs confronting head on. There is a gap in EU and Eurozone architecture and this lack now needs to be addressed. Short of this the markets, which already have woken up to the problem, will not settle and will not be convinced.

There is no longer a middle road, as I have argued here we need EU Bonds, and we need to clear the pathway for euro membership for those Eastern states who want it (see this post). Talk of beefing up the balance sheet of the European Investment Bank simply won’t wash at this point – we can see what is already happening to the spreads as the rumor mill goes to work. (Borrowing costs for the EIB’s 10-year bonds has already risen to 90 basis points above the benchmark German Bunds, a yield which is drawing ever closer to the borrowing costs of countries like Spain and Austria).

What we need are full blown EU bonds (ie backed by the Union and not by individual member states or subordinate entities), and we also need a fiscal component (ie simply making loans cheaper to obtain won’t work). Of course, in the short term our leaders may need some sort of dual discourse, one for the markets and one for the voters (who have hardly been prepared for all of this), but this is for the politicians to sort out, since they dug themselves into the mess in the first place, so over to you Angela and Nicolas. You go live in 48 hours.

Bailing out the same mythical Polish plumbers who just stole everybody’s jobs will be hard for Europe’s leaders to sell on the doorsteps of Berlin, Bradford and Bordeaux, especially with the xenophobic right in full cry. German taxpayers are already worried that others are after their hard-earned cash (see article). The bill will indeed be huge, but in truth western Europe cannot afford not to pay it. The meltdown of any EU country in the region, let alone the break-up of the euro or the single market, would be catastrophic for all of Europe; and on this issue there is little prospect of much help from America, China or elsewhere. It is certainly not too late to rescue the east; but politicians need to start making the case for it now.