Saturday, May 30, 2009

The Debts of the Spenders: Eurozone Inflation Drops to Zero

Bond bulls take heart. Goldbugs be warned.

According to the latest government statistics from the Eurozone, annual inflation will fall to zero. That's right: Z-E-R-O. In other words, the lowest since 1991 (before the ECB was even formed).

I find the economic outlook to be entirely credible. Continental banks took on dramatically more risk than their Japanese or even American counterparts. Exposure to potentially bad E. European loans remains a tail risk.

Moreover, the Eurozone is entirely too dependent on the public sector for macroeconomic activity (the private sector remains swaddled in a byzantine maze of red tape and trade union hostility - 6 week vacations and 30 hour workweeks are not exactly popular w/employers that need to watch the bottom line). While it is unlikely that govts will enact deep spending cuts, SOME measure of fiscal austerity is in order - especially for the PIIGS (Portugal, Italy, Ireland, Greece, and Spain) countries which share the characteristics of lacking deep capital markets and relying too much on employing their populations as functionaries.

Indeed, the situation in Greece, Ireland, and Spain are especially severe as all 3 nations are in the middle of some especially painful housing deflation. While the situation was nowhere near as bad as offering NINJA (No income, no job, no asset) loans to borrowers, European bank officers had succumbed to the same poor sighted judgment as their American and British peers.

Eurozone annual inflation rate falls to zero

By Ralph Atkins in Frankfurt

Published: May 30 2009 03:00 | Last updated: May 30 2009 03:00

Eurozone inflation has fallen to zero, the lowest rate since at least 1991, and could fall lower as a result of the region's severe recession as well as cheaper oil prices.

The annual inflation rate in the 16-country region fell from 0.6 per cent in April to 0 per cent this month, according to Eurostat, the European Union's statistical office.

Economists said inflation would almost certainly turn negative in June, complicating further the task of the European Central Bank as it combats the worst economic downturn for half a century in continental Europe.

Among the eurozone's biggest countries, Germany and Spain have already reported negative national inflation rates. The US has also reported year-on-year falls in consumer prices but UK inflation is expected to remain positive, largely because of the effects of sterling's weakness.

Although forward-looking confidence indicators have suggested the eurozone is contracting at a much slower pace than at the start of the year, the latest ECB credit data underscored the continuing weakness of eurozone economic activity. They showed annual growth in eurozone mortgage lending and consumer credit turned negative in April for the first time since the launch of the euro in 1999.

The ECB has cut its main interest rate by 325 basis points since last October to 1 per cent, the lowest ever, and is not expected to announce any change after its meeting next week.

But it has followed the US Federal Reserve and Bank of England in announcing an emergency asset purchase programme to help revive financial markets. The ECB will next week announce details of plans to buy €60bn ($85bn, £52.5bn) in covered bonds, which are issued by banks and backed by mortgages or public sector loans.

One likely solution is that the package will be split according to eurozone countries' capital shares in the ECB, which would result in Germany accounting for about a quarter of the €60bn programme.

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