Wednesday, January 17, 2018

Leverage In Haste, Collapse At Leisure

"Sin in haste, repent at leisure" goes the well known sobriquet.  In the case of Greek businesses and households, they leveraged themselves so fast that the implosion was all but inevitable, particularly since state debt was also rising fast at the same time.  But, unlike other bubbles, the aftermath was not only painful but unnecessarily drawn out, too.

Going back to the beginning, we can see that private debt rose much faster than GDP between 1998-2008, going from 34% to 103% of GDP in just ten years. It was not so much a case of "too much" as "too fast", which created the real problem in Greek private sector debt and which left banks with a mass of non-performing loans. Unlike other western economies, Greeks were previously very under-leveraged and had no credit culture.  When the bubble economy collapsed many Greeks simply refused to pay their debts; their populist politicians played along, essentially prohibiting real estate and other property to be auctioned to satisfy debts.

Hobbled from enforcing loan agreements, banks were swamped with bad loans and had to be recapitalized several times. Naturally, they quit making new loans.

So, after the initial shock that saw GDP collapse 25% in just 3-4 years, the economy sat at the bottom for five long years, unable to capitalize on lower asset and labor costs. And how could it, since there was no fresh capital, no fuel to energize the positive part of the creative destruction process?

The Greek economy has been repenting its debt bubble sins for too long now and it is high time to start growing rapidly again.  Healthy, well capitalized banks are crucial in this process.

I strongly believe that Greece is now very close to achieving this necessary condition: its banks have consolidated massively, slashed operating costs and driven core profitability (pre-provisions) to near record levels.

What is the next step? The complete abolition of capital controls is an absolute must, if deposits are to come back in size.


  1. Hell, now let me get this straight. The officers and staff of domestic Greek banks KNEW that there was a problematic culture amongst their customers with respect to credit and debt, yet these same officers and executives persisted with offering and authorizing loans to these same dodgy customers? That looks awfully like a severe attack of Moral Hazard!

    "...creative destruction process?" The only sort of 'creative destruction' I recognise is the aftermath of a fast-moving bush fire. It destroys the overgrowth, giving the undergrowth a chance to blossom. The term has no meaningful meaning in finance. The paying-down of (or the write-down or the write-off) of debt, is the actual and real destruction of money. There is absolutely nothing 'creative' about it. In Physics the collision of Matter and Anti-Matter is an anhilation process, but so also is the cancellation of debt (by whatever means) - real money is anhilated. Mind you, the initial form of Money does seem to violate the First Thermodynamic Law - it can be created, ex niliho! And it only attains the characteristic of a real substance when minted or it undergoes an metamorposis from Credit to Debt. Magical! Except its very unfunny when you have to find the real money to extinguish your debt.

    And another thing. There is no such entity on this planet as a 'healthy bank'. Its like saying that a neoplastic growth is a 'healthy disease'.

    At bottom, some financial entities have superior powers of Creation than Zeus. Now I fancy that He might not be best pleased about that. Dr Frankenstein and his 'creation' are a severe warning. If you intend to 'create' a creature you shall be obligated to ensure you have in place the appropriate means to control your creation. Except your a financial institution, that is.

    Cheers, Brian.

    1. With the term "creative destruction" I was referring mostly to productive businesses, not finance. For example, the creation of the automobile industry "destroyed" the horse and buggy business. Yet, the smart and able buggy companies transformed into car manufacturers, the saddle makers started making car seats, etc.

      As for Greek bankers... what started as a good business, lending to very under-leveraged households, turned ugly in a few years. It wasn't so much that they "knew" that borrowers would turn sour, as they didn't stop lending soon enough - they didn't take the punch bowl away before all the teens became drunk. Obviously, not solely a Greek banker characteristic. In fact, the US, Ireland, Iceland, Spain, UK bankers fared much MUCH worse. Need I remind you of NINJA loans? Loans to Icelandic fishermen who turned into hedge fund managers overnight? Construction loans to Spanish developers who built massive vacation complexes with no hope whatsoever of selling them? (eg right NEXT TO a massive oil refinery?

      No, Greek bankers weren't really corrupt or totally unwise - they just couldn't gauge where to stop lending. And the funny part is, the Greek private sector is STILL waaaaaaaay under-leveraged by comparison to the rest of the world.