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Will the next government have to fight Greek flu?

Robert Peston | 21:48 UK time, Thursday, 6 May 2010

It really is one of those "you-couldn't-make-it-up" moments: with just hours before the polls close in Britain's general election, US stock prices plummeted 9%.

So will the new government inherit responsibility for the second global financial crisis in less than two years?

Well that can't be ruled out.

But share prices in the US have now recovered a bit and - on most of the indices - are now down "only" 3.3% or so.

Which is a significant drop - coming as it does on a day of falling stock markets across the world - if not a catastrophic one.

So what's going on?

Well part of that 9% plunge looks like some fairly major technical hiccup, possibly a "fat finger" erroneous trade of some magnitude.

But even so, there's been a growing trend over the past few days of investors becoming much more nervous about the risk of a second global financial crisis and a return to recession.

That increasing aversion to risk has been visible in the rising price for insuring bank debt, in heightened market volatility, and in a renewed reluctance of banks to lend to each longer than overnight.

Also today we've seen strengthening gold, which is almost always correlated with investor wobbles.

As for the euro, well it remains the currency investors prefer to avoid - and after several days of relative strength, sterling fell a couple of cents against the dollar today, which is a very sharp drop.

What's behind it all?

Well it's the fear of Greek financial flu - or the anxiety that Greece will ultimately be forced to renege on its debts, that investors will then be reluctant to lend to other overstretched eurozone nations, that they too will then have to reschedule what they owe, and that this will generate tens of billions of euros of new losses for big continental banks on their holdings of eurozone bonds.

Achoooo! If eurozone economies were then to take drastic action to cut their deficits, that could lead to an economic slowdown, which could cause an escalation in losses on other bank loans, especially property loans.

For what it's worth, most investors would say the order of tumbling eurozone dominoes - or to extend the viral metaphor, the chain of contagion - runs Greece, then Portugal, then Spain, then Italy.

Were these dominoes to tumble, the world's banks would once again find themselves suffering from shortages of capital and liquidity, they'd again be constrained in their ability to lend, and we'd be back to the misery of contracting economic activity.

Now, for the avoidance of doubt, what I'm talking about is investors' fears - and it would be premature to argue that they'll become self-fulfilling.

But what is palpably clear is that €110bn bailout of Greece has been a flop, if it was supposed to persuade investors that Greece would be able to honour its obligations.

That's hardly surprising when pictures are being beamed around the world of Greek people rioting against austerity measures that - even if implemented - can't guarantee that Greece will be able to pay back all it owes.

And many will be deeply concerned that instead of listening to what markets are saying, the German chancellor Angela Merkel today said investors were simply wrong - and that she and her fellow European government heads were determined to win in what she sees as a battle with markets.

As for the UK, well it's vulnerable because of its combination of an enormous and overstretched banking sector and its record-busting public sector deficit.

That was the unsurprising message of a report today by Moodys, the credit rating agency - which incrementally added to the gloom.

Which means that the next chancellor of the exchequer will be walking a tightrope.

Should the chancellor reduce the public sector deficit too fast, well that would tip the economy back into recession - thus generating new losses for the banks and limiting their ability to provide the finance required for any exit from recession.

But reducing the deficit too slowly would unsettle investors, who might stop providing cheap loans to the public sector, thereby also increasing funding costs for the banks and - again - weakening them.

You can see why the Governor of the Bank of England said - allegedly - that the winner in this general election may soon regret its victory.

Comments

  • Comment number 1.

    The only question left is ........yes you got it, when?

  • Comment number 2.

    So you're saying that whether we're in or out of the euro we'll still suffer from the Greek bankruptcy. Perhaps Brown is right that our present mess has nothing to do with him.
    If so, it doesn't matter who tries to rule.

  • Comment number 3.

    If the UK exit polls are right and we have a hung parliament and given the collapse of the Dow by 1000 points (9 per cent) at one time today (closing nearly 4 per cent down) and the fact that the Far East indices are down too it is reasonable to suspect that London will open sharply lower. It is going to be a dark red coloured Friday, or at least that is that risk.

  • Comment number 4.

    Robert wrote :

    "You can see why the Governor of the Bank of England said - allegedly - that the winner in this general election may soon regret its victory."

    Much as I despise the Governor for his failures to see the obvious express train of CDOs coming his comments do once again show that he did know what is, and indeed was, going on - so why did he fail to manage the money supply so badly?

  • Comment number 5.

    This comment was removed because the moderators found it broke the house rules. Explain.

  • Comment number 6.

    Surely people don't think the markets react rationally?

  • Comment number 7.

    As so many people were DENIED the right to vote, how can the result stand? Surely theremust be a scond ballot with the polling stations
    staying open later?
    Most people vote after finishing work.

  • Comment number 8.

    As any political leader would know that winning this election was a poisoned chalice, and their party would be remembered by the electorate for years to come for being in power during deep spending cuts and tax rises, sitting on the sidelines during the next parliament would give them the long term advantages of being able claim that it didn't happen on their watch.
    I suspect that ambitious Westminster players with an eye on their long term progression might be glad of a hung parliament, as it means the blame for what must surely follow has to be shared across the several parties that eventually get cobbled together into some form of working government.

  • Comment number 9.

    Could you explain what a 'Fat Finger' moment is please. It sound chaotic. Thank you

  • Comment number 10.

    Yeah, the Greeks are worried about British flu too.

    They're worried about getting another 5 years of useless guvt.

    GC

  • Comment number 11.

    @ 9

    I believe a "fat finger moment" is supposed to mean someone pressed one too many zeros on the numeric keypad - for example, £579,500 is the average household debt in the UK. Cripes.

  • Comment number 12.

    Headless Chickens


    The elections over
    Labour went bust
    MP’s ranting
    “We have lost their trust”

    Flapping around
    Chickens without heads
    Our seats are lost
    The party is dead

    Blaming Tory Tony
    Or Wee Goody Brown
    As the whole of Labour
    Came crashing down

    “What went wrong?”
    The numbskulls shout
    Forgetting the DEAD
    From a distant wars

    Forgetting the underclass
    The wretched poor
    Forgetting the old folk
    And forgetting what Labour
    Really stood for

    Radicalpeter



  • Comment number 13.

    Things are normally predictable. We vote Labour in to do the nice things (build more hospitals, save the dolphins etc) and then we hate them because they ruin the country's finances. The we vote the Tories in to do the nasty things (close the hospitals, kill the dolphins etc) and then we hate them because we don't understand how the country's finances work.

    This time round? Disaster. We'd better pray that a Lib/Lab alliance doesn't last long and the Tories get in quick enough - and with enough of a mandate - to do what's necessary before we turn into Greece.

  • Comment number 14.

    Fat finger? A Fat finger does not wipe out $1 trillion of market value in various markets, including oil, especially with such low volume (relative to the drop)

    https://www.nasdaq.com/aspx/stock-market-news-story.aspx?storyid=201005061712dowjonesdjonline000873&title=market-snapshotu.sstocks-end-sharply-off-after-jaw-dropping-day

    The panic in the middle of the day was market makers that just disappeared, and every machine on Wall Street was trying to sell into a market that didn't exist. That was a bizarre electronic quant panic of people selling into a black hole," said Bookvar.


    It's the most logical explanation, and matches up with the data. The buy side of the order book completely dried up and people were hitting the sell button. Without the big boys (Funds & banks) and their huge orders in the market it only takes a few sales to send a stock downwards. Look at Apple stock, even that was down 20%! You'd expect an order book with millions of orders waiting to be filled on a stock like that.

  • Comment number 15.

    The chancellor Merkel may be a good administrator, but is not very good as a manager. The reason for me to say this is that I know neither what reforms she implemented since her coming to power, nor what is her plan or her strategy to overcome the consequences of the financial crisis. Rousevelt and Churchill gave good examples of how the difficulties should be dealt with in times of trouble. Merkel cannot be compared with them. Every responsible leader tries to make its nation richer, but she does quite the opposite by making Germans to bailout Greece from insolvency. And for what sake? Simply in order for Germans to have a right to say to Greeks, "We are more than friends, we are brothers and always will be". I doubt that Merkel perseives the situation adequately.

  • Comment number 16.

    "And many will be deeply concerned that instead of listening to what markets are saying, the German chancellor Angela Merkel today said investors were simply wrong - and that she and her fellow European government heads were determined to win in what she sees as a battle with markets."

    This is the only good news I've heard for a long time. Wish this determination is more than show.

  • Comment number 17.

    Pavel #15

    What exactly do you know about the policies that Merkel's government have implemented? Have you bothered to check? Do you know how the financial crisis has affected Germany?

    The markets are all worried about financial contagion? Perhaps Merkel believes that she is working in Germany's best interests by helping to bail out Greece, and thereby preserving the strength and credibility of the euro?

    She is walking a tightrope between the German elections who quite rightly ask why their country is helping Greece to sort out Greece's economy when she should look closer to home, and looking after Germany's interests in the wider political arena. Do you not see that she is there to make tough decisions on behalf of, and for the long run benefit of, her citizens (and perhaps is better informed than many of them)?

    Further, why do you think that Churchill was good at how to deal with difficulties in times of trouble? He was Chancellor of the Exchequer in 1925 who led the UK back into the Gold Standard after WWI. This sent the UK back into deflationary spiral.

    Roosevelt's policies were Keynesian in character, exactly the same type of policies that Brown's Labour party are getting so much criticism for.

    If you disagree with the IMF, Trichet, and most of the Eurozone governments, then what would you have done differently? I personally believe that Merkel they all have a better perception of the situation than you or I.

    Harrins

 

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