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The Pfandbrief, a fixture of German finance, turns 250

Thu, 08/29/2019 - 14:45

IN 1769 THE noble landowners of Silesia—then in Prussia, now in Poland—were short of cash. War and plummeting farm output had left their mark. On August 29th the king stepped in. Frederick the Great issued an order establishing a Landschaft, or landowners’ co-operative. That allowed the hard-up nobles to issue, in 1770, the first Pfandbrief: a tradable bond, secured on individual properties and the assets of the whole Landschaft. The first investors, write Fritz Engelhard of Barclays, a bank, and Friederike Sattler of Goethe University in Frankfurt in a book* marking the Pfandbrief’s 250th birthday, included merchants, royal houses and the churches.

The Pfandbrief, or covered bond, became a mainstay of German finance, in particular the mortgage market. Over time the landowners’ individual liability to bondholders ended. They were liable to their Landschaften, which in turn were liable to investors. In the 19th century Pfandbriefe came to be issued by specialised mortgage banks, which backed the bonds with housing loans. In the late 1800s building, banks and bonds boomed. Banks inevitably lent too freely and some investors lost money. A legal overhaul of...

Donald Trump admits to putting the world through a “rough patch”

Thu, 08/29/2019 - 14:45

“I THINK IT was necessary,” said President Donald Trump of the “rough patch” the world economy has been going through as a consequence of his shake-up of the global trade regime. His comments came on August 26th, towards the end of the G7 meeting of rich-world leaders in Biarritz, France, and a particularly bumpy series of trade announcements. There is still plenty of turbulence ahead.

The drama started on August 23rd, when the Chinese government announced its plans for retaliation in response to an earlier tranche of American tariffs. China’s average tariff on imports from America (weighted to match America’s global exports in 2017) will rise from 20.7% to 21.8% on September 1st, and to 25.9% on December 15th (see chart), by which time 69% of America’s exports to China will be affected.

Aircraft, integrated circuits and pharmaceuticals were spared, perhaps in recognition that tariffs on those would hurt China more. But previously announced tariffs on cars and...

Germany debates banning negative interest rates

Thu, 08/29/2019 - 14:45

“SAVE OUR savings, Frau Merkel!” begged Bild, a German tabloid, on August 26th. Articles blaming the European Central Bank (ECB) for keeping interest rates low, and seeking reassurances from banks that thrifty Germans will be spared Strafzinsen, or negative “penalty rates”, are proliferating. One in Die Welt in July feared that ECB stimulus would lead to the “ultimate expropriation” of the German saver.

German hostility to low interest rates is hardly surprising. The value of thrift has deep roots in the national psyche, going back to the Reformation. Households have €2.4trn ($2.6trn) stashed in bank deposits, almost as much as those in France and Italy combined. Last year they squirrelled away a tenth of their disposable income, twice the savings rate of Britons.

With markets pricing in a further cut at the ECB’s policy meeting on September 12th, the opposition in Germany is getting louder. Politicians spy a bandwagon. On August 21st Markus Söder, Bavaria’s premier, said his party would propose legislation to ban negative interest rates on retail deposits of less than €100,000. Olaf Scholz, the federal finance minister, has asked officials to look into the practicalities.

The ECB and its German...

India’s government is scrambling to revive the economy

Thu, 08/29/2019 - 14:45

FOR DECADES Kwality restaurant has served spiced chickpeas and fried flatbreads to traditionalists and tourists amid the colonnades of central Delhi. One prominent fan was Arun Jaitley, a former finance minister and foodie, who would drop in for an impromptu lunch when parliament was disrupted. It is fitting, therefore, that Kwality’s wood-panelled shelves hold bound copies of Excise Law Times, a journal about some of the country’s Byzantine taxes.

When Mr Jaitley died on August 24th after a long period of ill-health, the great and good from across India’s fierce political divides joined in praising his intellect and civility. But the economy he presided over for most of Narendra Modi’s first term as prime minister has shown no such sense of decorum. Figures due on August 30th are expected to show growth of less than 6% year-on-year for the second quarter in a row. India has not had such a poor run since early 2013 (see chart), during a period of policy paralysis that helped destroy the previous government.


How a Canadian firm has taken on Wall Street’s private-equity titans

Thu, 08/29/2019 - 14:45

ON THE 67TH floor of One Manhattan West, a new glass tower in the island’s drab south-west, construction managers survey the skyline. They are about to sign off on a feat of engineering. The 303-metre skyscraper is the tallest part of a $5bn office, retail and residential project covering an area the size of 100 football fields. Resting on a huge concrete slab covering active rail tracks, the weight is carried by a column sitting on the sturdiest parts. The first tenants are due to move in within weeks.

One Manhattan West is the culmination of a decades-long bet by Brookfield Asset Management. The Canadian firm bought the land in 1996 as part of its swoop on Olympia and York, a bankrupt builder. The towers are an apt metaphor for its success in alternative asset management, investing in the likes of property, infrastructure and private equity. With $388bn under management (debt included), it rivals Wall Street giants like Blackstone and Carlyle. Insiders reckon it can grow further.

Most buy-out giants were founded in recent decades by investment bankers. Brookfield, by contrast, started with São Paulo’s tramway and power lines in 1899 and spent most of its history operating infrastructure and property projects in the Americas. By 1990 it was a conglomerate of “somewhat disparate assets”, says Neil Downey of RBC Capital...

Narendra Modi’s government dips into central-bank reserves

Thu, 08/29/2019 - 14:45

MOST CENTRAL banks occupy impressive premises in expensive parts of town. Few begrudge them this perk. Nice digs seem only fitting for the guardians of the nation’s currency, giving them a reassuring air of gravitas and permanence. But is grand architecture necessary for central banks to perform their functions? Is there any economic justification for it? The honest answer is no.

What is true of central-bank architecture is also true of central-bank capital. Most such institutions have reassuring balance-sheets. Their assets, which usually comprise safe government securities, comfortably exceed their liabilities, which are chiefly the banknotes they issue and the deposits held with them by commercial banks. The assets of the Reserve Bank of India (RBI), for example, exceed its liabilities by over 9trn rupees ($125bn), of which about 2.7trn rupees is ready to hand.

This balance-sheet is a source of pride, allowing the institution to feel financially independent. Thus when Narendra Modi’s government began to argue that it was too lavishly capitalised, the RBI was displeased. And when the finance ministry concluded last year that it should give some of its excess capital to the government, which was keen to shore up public-sector commercial banks, the RBI resisted. The tussle was one reason why Urjit Patel, then its...

The World Bank’s pandemic bonds are not paying out for Ebola

Thu, 08/29/2019 - 14:45

THE EBOLA outbreak in west Africa in 2014-16 was the worst in history, with nearly 30,000 cases and a death toll of more than 11,000. It exposed a flaw in funding mechanisms to tackle such health emergencies: by the time money arrives the disease has already spread. So to speed things up the World Bank created “pandemic bonds”, a type of insurance scheme. In 2017 they were sold to private investors, who would lose their money if any of six deadly pandemics hit. In the event of Ebola, up to $150m would be released to affected countries’ governments, and agencies such as the World Health Organisation, to be used to fight the outbreak.

Last year Ebola struck the Democratic Republic of Congo. It has already killed nearly 2,000 people. But the scheme has not paid out. The 386-page bond prospectus contains a clause making payout conditional on the disease spreading to a second country, with at least 20 people dying there. Ebola has indeed spread, to neighbouring Uganda. But it has killed just three people there, with no new cases since June.

Investors, including pension funds and asset managers, had bought $320m of the bonds in a deal that was heavily oversubscribed. The notes covering Ebola give them an annual coupon of 11.5 percentage points above LIBOR, a benchmark interest rate. The World Bank, with contributions from...

China is calm as growth slows. But is it complacent?

Thu, 08/29/2019 - 14:45

HALF A DECADE ago, if you had asked economists which number—five or seven—described China’s GDP and which its currency, most would have answered this way: growth will remain strong at around 7% annually, and the currency will strengthen until it takes just five yuan and change to buy a dollar. One measure of the impact of Donald Trump’s trade war on China is the inversion of these digits. As American tariffs bite, economic forecasters think that Chinese growth next year will slow to five-point-something percent. The yuan, for its part, has slumped to more than seven per dollar.

Mr Trump has crowed about the success of his tactics. “China has taken a very hard hit,” he said on August 26th at a news conference after the G7 summit in France. “They want to make a deal very badly.” But a more accurate reading of China’s policy stance is one of surprising calm in the face of the economic slowdown and, by extension, of stiffer resolve in the trade dispute.

The toll of tariffs on China’s economy is becoming more visible. Although exports to America account for just a small share of overall GDP, the uncertainty has bruised corporate confidence. Investment spending is on track to increase this year at its weakest pace in at least two decades. Factory prices have veered into deflation, a bad sign for industrial profits. Economists...

A meeting of economists and central bankers was overshadowed by President Donald Trump

Tue, 08/27/2019 - 17:37

AS THE ANNUAL meeting of central bankers and economists at Jackson Hole, a mountain resort in Wyoming, began on August 23rd, two participants made a bet. Would President Donald Trump tweet about the opening remarks of Jerome Powell, the chairman of the Federal Reserve, within 45 minutes? In the event, it took the president 57 minutes. That night the victor enjoyed his winnings—a glass of whiskey—in the bar.

Mr Trump’s words made the conference theme, “challenges for monetary policy”, uncomfortably timely. He called Mr Powell an “enemy” and promised to ramp up trade tensions with China. Then he announced increases in tariff rates on over $500bn of Chinese imports. But even as stockmarkets reeled, the conference continued serenely. Indeed, Mr Trump even brought the assembled economists and monetary policymakers closer together.

Most obviously, they were united in grumbling about the impact of his trade policy on the global economy. Philip Lowe, the governor of the Reserve Bank of Australia, said that business uncertainty was turning political shocks into economic ones. Mark Carney, the governor of the Bank of England, said that trade tensions had raised risk premiums, thus tightening financial conditions. The president’s twitter tirade could lead to greater policy convergence, too. Mr Powell said that the Fed’s...

The Japanification of bond markets

Thu, 08/22/2019 - 14:44

IN THE 1920S E.M. Forster, an English novelist, set out the difference between a story and a plot. “The king died and then the queen died” is a story, he wrote. But a sense of causality is needed to make a plot more than just a sequence of events. “The king died and then the queen died of grief” is a plot.

Investors like stories as much as anyone. They like plots even more. A durable narrative, and one that is on everybody’s lips once again, is “Japanification”. A Forsterian summary might read: “The bubble burst, people became cautious and the economy got stuck in too low a gear to stop prices and interest rates from falling.” In its strongest form Japanification is a pure tragedy, in which rich, debt-ridden economies are destined to follow the path set by Japan. In another, softer version only countries with rapidly ageing workforces, such as Germany, are thus fated.

Germany’s bond market is now priced for endless stagnation. Its interest rates are negative on everything from overnight deposits to 30-year bonds. But it is striking how depressed bond yields are in countries with only a passing resemblance to Japan. A 30-year American Treasury yields just 2%, for instance. As currently scripted, Japanification is narrowly defined but broadly applied. It is the fear that policymakers have lost for good their ability to...

Tidjane Thiam’s overhaul of Credit Suisse is paying off

Thu, 08/22/2019 - 14:44

TIDJANE THIAM is not the first non-Swiss chief executive of Credit Suisse. His American predecessor, Brady Dougan, held the job for eight years. But Mr Dougan was an insider, having been at the firm for ages. Mr Thiam was anything but. A citizen of France and Ivory Coast, where he was a government minister in the late 1990s, he had been a consultant at McKinsey and had overseen the European arm of Aviva and the whole of Prudential, two British insurers. Before taking the top job at Credit Suisse in 2015, he had never even worked for a bank. Charming in person and intimidating and forceful by reputation, Mr Thiam walked straight into a tempest.

From the start he knew that Credit Suisse’s defences against disaster were uncomfortably thin. Its common equity tier 1 capital covered just 10.3% of risk-weighted assets (RWAs), less than at any of its peers. To bolster them Mr Thiam quickly raised SFr6bn ($6.3bn) in equity. Unleashing his inner consultant, he set about reorganising the bank’s structure, steering it towards wealth management and away from the riskier whirlpools of investment banking. Mr Thiam promised deep cost cuts from the start, when, he now says, “there is the greatest willingness to change and no ‘restructuring fatigue’”.

But within months a nightmare had unfolded. In the last quarter of 2015 Credit Suisse...

China’s interest-rate revamp highlights the slow march of reform

Thu, 08/22/2019 - 14:44

FOR A CASE study in the complexity of transitions from central planning, consider the knotty mess that is China’s interest-rate system. More than 40 years after Mao Zedong died, the country is an economic superpower, yet it still struggles to manage bank lending using interest rates, rather than through heavy-handed interventions such as credit quotas. To make this shift, the central bank has created a dizzying array of instruments. S&P Global, a rating agency, counts 20 separate monetary-policy tools in China, from newfangled liquidity-injection facilities to old-fashioned instructions to banks; America, by contrast, has just six main instruments.

Now China has modernised its arsenal with a new benchmark interest rate, unveiled on August 16th. The Loan Prime Rate (LPR), as it is known, will become the reference rate for banks pricing corporate loans. Announced monthly, it will be the average of what 18 designated commercial banks charge their best corporate clients, expressed as a spread over the banks’ own cost of borrowing from the central bank.

In theory this should make Chinese lending rates more responsive to financial conditions. Under the previous system, banks priced loans from a one-year lending rate set by the central bank. It has refrained from changing that rate since 2015, concerned, in part, that...

France is giving unilateralism a go

Thu, 08/22/2019 - 14:44

“DON’T TAX you, don’t tax me, tax that fellow behind the tree.” Historically, this rhyme has poked fun at the tax-shy American public. Today it reflects complaints against the French government, which on July 25th introduced a tax on digital services. American companies such as Amazon, Facebook and Google are protesting that they are being treated like the fellow behind the tree. President Donald Trump is itching to hit back. Unilateralism is a language he can understand.

At the heart of the dispute lies a mismatch between where companies make their profits and where those profits are booked for tax purposes. Governments wail that as data and ideas can zip across borders, taxable profits can slip between their tax-collectors’ fingers. The solution requires international co-ordination, to avoid everyone trying to tax the same stuff at once. But negotiations overseen by the OECD, a club of mostly rich countries, are taking too long for the French.

Hence their levy of 3% on the revenues generated from French users of online platforms and digital advertising. The tax is blunt, but that is part of the point. It is meant as an interim measure, to be ditched once an international agreement is reached. It could even make a deal more likely. Affected companies may prefer that to unilateral taxes, and lobby for it.


Who wins from foreign investment?

Thu, 08/22/2019 - 14:44

SHAWNEA ROSSER earned upwards of $29 an hour when she worked for General Motors in Dayton, Ohio. But in 2008 the factory closed. Years later the building was bought by Fuyao Group, a Chinese multinational company that makes glass. The new American managers promised that the “historic” project would “give people jobs, and give a future to your kids and my kids”. Sounds great. But Ms Rosser’s new job paid just $12.84.

The plight of Ms Rosser and her coworkers is captured in “American Factory”, a documentary released on August 21st by Netflix that explores the tensions that arise from the factory’s foreign ownership. There is discontent among American workers, but the source is unclear. Could it simply reflect the post-crisis reality of American manufacturing work? Or are the different Chinese employment practices to blame?

A new study offers part of an answer, by asking who benefits when foreign investors open up shop. On average, foreign companies in fact pay workers around 25% more than American ones. But that could be because they employ relatively skilled workers. Bradley Setzler and Felix Tintelnot of the University of Chicago match anonymised employee and company tax records to estimate the true wage premium.

The economists look to see what happens when American workers move between companies. They find that...

Apple and Goldman Sachs launch their credit card

Thu, 08/22/2019 - 14:44

FINDING THE One is never easy. Plenty of candidates are attractive at first, but their charms are deceptive, or simply fade. Others for whom you pine spurn you. As with love, so it is with credit cards. Bonus offers are tempting, but also fleeting. Reward points pile up, yet linger unused. Unexpected fees sting.

But now there is a sexy new stranger for Americans to eye up. On August 20th Apple launched its long-awaited credit card, in partnership with Goldman Sachs, a Wall Street firm pushing into digital consumer banking. Signing up takes about a minute. Approval (or rejection) is often instant. The card, delivered to the iPhone’s wallet app, may be used at once. (A physical titanium version will arrive in the post.) There are no fees for using the card, or even for missed payments. Instead of making you wait until the end of the month for rewards, Apple pays cash daily.

The allure goes on. What starts off as a blank white oblong in the app is slowly shaded in rainbow colours as you spend: blue for transport; orange for food; pink for entertainment. Bills are paid by sliding a circular dial, which turns a friendly green if you pay in full, an uneasy yellow for less and an alarming red for the bare minimum. Any interest you will owe, shown in the centre of the dial, changes with the payment. When you clear your bill,...

The onset of a downturn is as much a matter of mood as of money

Tue, 08/20/2019 - 20:33

IN RECENT WEEKS the human and silicon brains at Google have registered an alarming rise in searches related to “recession”. It is easily explained. As markets gyrate, talk in the press (including this very column) turns to the risk of a slump. Even so, the stories must leave some Googlers baffled. In July, after all, the American economy added 164,000 jobs and retail sales kept climbing. President Donald Trump, too, is bemused. He has taken to warning darkly that conspirators are attacking his presidency by frightening the economy into an unnecessary downturn. The claim of conspiracy is absurd, but the threat of recession is not. Recessions can indeed appear as if out of the blue.

Today’s confusion owes something to the world’s odd recent economic history. The last global slump occurred amid an epic financial crisis. The one before that began nearly two decades ago, accompanied, again, by a stockmarket crash. (Between August 2000 and September 2001 the S&P 500 index fell by more than 30% and the NASDAQ by more than 60%. Now, by contrast, those indices are pretty much where they were a year ago.) Most people working today cannot remember a recession not linked to financial chaos. But downturns can occur without market meltdowns. Indeed, many economists think recessions need not occur at all.


Countries most exposed to climate change face higher costs of capital

Thu, 08/15/2019 - 15:08

IN EAST AFRICA millions of people are suffering from a prolonged drought. Deadly typhoons are wreaking havoc in Vietnam. Honduran coffee-farmers are seeing their crops wither in the heat. Poor countries have less capacity than rich ones to adapt to changing weather patterns, and tend to be closer to the equator, where weather patterns are becoming most volatile. As the world heats up, they will suffer most.

By 2030 poor countries will need to spend $140bn-300bn each year on adaptive measures, such as coastal defences, if they want to avoid the harm caused by climate change. That estimate, from the UN Environment Programme, assumes that global temperatures will be only 2°C above pre-industrial levels by the end of the century, which seems unlikely. Adding to the costs, research suggests that these countries face higher interest rates than similar countries less exposed to climate risks. This raises the prospect of a vicious cycle, in which the most vulnerable countries pay more to borrow, making adaptation harder and them even more exposed.

The research focuses on the V20, a group founded by 20 vulnerable countries whose membership has since grown to 48. The members are mostly poor, together accounting for less than 5% of global GDP. They include low-lying atolls, such as the Marshall Islands, and economies dominated by...

The trade war is leading some firms to crimp investment

Thu, 08/15/2019 - 15:08

“THERE’S TARIFFS on games and tariffs on toys—try explaining tariffs to your little boy. Santa’s workshop is struggling, you’ll find yourself saying. I think the reindeer are backed up with their sleighing.” Wendy Lazar, who runs a company called I Heart Guts, submitted this peeved poem to the United States Trade Representative (USTR) in June. As an importer of children’s toys from China, she was complaining about how the trade war could squeeze her firm.

She is not alone. In boardrooms across America, business people are scrambling to assess the impact of the latest escalation in the commercial confrontation between the two superpowers. For most firms the easy bit is calculating the immediate financial impact of more tariffs on demand, prices and costs. That can be done in a spreadsheet. Far harder is working out how to rejig your strategy and long-term investment plans to adapt to a new world of enduring trade tensions. Fund managers and Wall Street traders have begun to reach their own conclusion—that investment may slump, possibly triggering a recession. Hence the violent moves in markets since the first week of August, with a rush towards safe bonds and a sell-off in equities (see article).

That sell-off picked up pace on August 1st when...

Microfinance is driving many Sri Lankan borrowers to despair

Thu, 08/15/2019 - 15:08

IN PARTS OF Sri Lanka’s north and east, some women keep track of their microloans by the day of the week the collectors come. Others identify the lenders by the colours of their collectors’ shirts. Monday loan, Tuesday loan, blue shirt, yellow shirt: small, unsecured loans promoted by the government after the decades-long civil war ended in 2009 have enmeshed many women in hopeless debt. A central-bank official says his employees have talked desperate borrowers out of killing themselves. At least 170 committed suicide last year.

Nalani Wickremesinghe, from Baduraliya in the south, has taken loans from 11 companies, only two of which are registered with the central bank. The first was to pay for her husband’s medical treatment. Then he fell at his workplace and is still bedridden. She has borrowed 500,000-600,000 rupees ($2,800-3,400) in total—but has no idea of the interest rate. She has already pawned, and lost, her gold jewellery. Struggling to feed her family, she has little option but to borrow again.

In Nachchikuda, a coastal village, Sri Sundara Gowri sits in her front yard—not far from the satellite dish she bought on hire-purchase—and relates how she had five loans, three of which have been at last paid off. The first, of 25,000 rupees, was taken ten years ago after she returned from prolonged displacement to...

The woes of bond insurers

Thu, 08/15/2019 - 15:08

ON AUGUST 8TH two subsidiaries of MBIA, an American insurer, sued nine Wall Street firms, alleging misconduct in underwriting bonds issued by Puerto Rico and “wrapped”, or guaranteed, by MBIA. Lawsuits accusing banks of peddling iffy securities are not rare these days. However, this one is a reminder that “monoline” bond insurers, which briefly played a starring role in the financial crisis of 2008, are, though hardly full of life, still kicking.

Monoline insurers (so called because they focus solely on providing financial guarantees) charge a premium to cover interest and principal payments should bonds default. The industry sprang up in the 1970s, first focusing on municipal debt and later branching out into structured products like mortgage securities. That expansion backfired spectacularly when American house prices crashed. For a few weeks in 2008 the previously obscure monolines—the biggest of which were MBIA and New York-based Ambac—became front-page news as fears spread that they might be unable to pay claims on hundreds of billions of dollars of securitised debt.

Rating agencies responded by downgrading monolines’ own debt. That did for some of them, given that the business was largely about lending the insurer’s AAA rating to the bonds. Ambac filed for bankruptcy and was placed in rehabilitation. MBIA avoided...