Well, it is Davos, so it should come as no surprise, but yesterday and Wednesday were days of extreme activity.

Greece is in trouble.   Is this the beginning of the great sovereign debt crisis we have been warned to expect? No wonder gold is riding so high. But not so fast – George Soros reckons the market is portraying all the hallmarks of a bubble.

Then there’s Barack Obama’s plans to change the banks. Bob Diamond, President of Barclays gave a thinly veiled threat at Davos. He reckons that if Obama’s plans move ahead, it will make it impossible for the US government to raise the money it needs to fund its debt. Or to put it another way: You crush us, we will crush you.

Then, writing in the FT, two of the world’s most celebrated economics professors have warned that rising government debt could squeeze growth out of the economy. On the other hand, Soros is worried the government will cut back on spending too soon. In other words, while half the world is panicking over the Greek debt crisis, and fear the rest of us will follow, others think governments should borrow more.  

Meanwhile, a senior Bank of England man has slammed the banks for letting their balance sheets go to ruin while they paid out massive dividends and salaries.

And finally, news from Davos just wouldn’t be complete without nearly headless Nick Sarkozy. He went for the headlines too, with his idea to save the world.

Beware of Greek’s bearing the gift of an expensive currency

Pandora’s Box, in Greek mythology, was supposed to contain all the ills of the world. But at the bottom lurked hope. On Wednesday, the modern day version of that Greek box was opened. But alas, there was no sign of hope.

The week had started with so much promise. The latest auction for Greek government bonds was a resounding success.  Then the FT ran a story saying that Goldman Sachs had been employed to use its contacts with China to persuade the economy from behind the Great Wall to fund Greek debt.  The Greek government denied it, and all of a sudden it was panic. One analyst said there had been “capitulation” to sellers.

Poor old Greece. When she joined the euro, the Greeks felt so much better off. Tourists visiting the country suffered, of course. No more cheap ouzo. But she lost competitiveness. Exports slumped, imports surged, and now Greece is looking like a castrated Cronus – the Father of Zeus – who paid a high price for his opposition to his son.

More to the point, are the problems in Greece just the tip of the iceberg? Will Ireland follow?  Will the UK follow after that?  Will the UK economy go the way of Cronus?  

Barclays chief takes swipe at Obama

Talking of sovereign debt, Bob Diamond, President of Barclays sounded a thunderous warning at Barack Obama yesterday. 

As you know, President Obama wants the banks that look after our money to cease all forms of what’s called proprietary trading.  In other words, they can follow their clients’ instructions and gamble with their money if that’s what their clients want, but the banks can’t speculate with money on their own behalf.

But yesterday, at Davos, Mr Diamond said: “It is very, very difficult to see that we can differentiate between risks banks take for their customers and prop trading.”

Then came the warning. He added: “The US Government has $8 trillion (£4.95 trillion) in bonds and debts on its books, half of which comes due in the next 18 months. Banks like Barclays are sophisticated and experienced in the US and UK at placing and trading those securities. There is a real need for banks like Barclays to be active traders of those securities every day, every hour in the market.”

In other words, if you stop proprietary trading among banks, you weaken their ability to buy your debt.  Ouch.

Soros strikes back at banks

But George Soros isn’t so impressed. He said of the Obama plan: “I am very supportive of it but I don’t think it goes far enough…This development came too soon because the banks are not out of the woods.” He added: “The banking community that is opposing it is tone deaf and is making a big mistake in opposing it.”

Bank of England warns banks to rebuild balance sheets

Meanwhile, Andrew Haldane, Executive Director for Financial Stability at the UK’s central bank said that if banks had paid staff 10 per cent less money between 2000 and 2007, they could have ensured they had another £50 billion in reserves sitting in their balance sheets. If they had cut dividends by a third over the same period, then their reserves would have been boosted by another £20 billion. And as for banks that paid dividends when they made losses, if that practice had been stopped in its tracks, reserves would have been boosted by a further £15 billion.

Mr Haldane also drew attention to a rather nasty bit of data.  Apparently, UK debt, that’s including consumer and government debt, is now no less than 450 per cent of GDP. Now that really does hurt.

Talking of debt, writing in the FT Carmen Reinhart and Kenneth Rogoff warned that as government debt passes 90 per cent of GDP, growth starts to slow.  They said markets will soon “wake up to the fiscal tsunami that is following. Governments who have convinced themselves that they have done things so much better than their predecessors had better wake up first. This time is not different.”

They warned that in previous cycles, international bank crises have often led to sovereign defaults a few years later.

But Soros wants governments to spend more

By contrast, George Soros is worried governments will start making cut-backs too soon. He said: “There is a general concern with sovereign debt. It is coming under suspicion and it has a political momentum because there is increasing political resistance to allowing national debt to rise.”  He added: “Some countries like Greece do have deficits of 12.5 per cent of GDP, which is intolerable and has to be reduced. Other countries like the United States and the main European nations have plenty of room to increase their deficits.  I think that since the adjustment process to the recession is incomplete, there is a need for additional stimulus. The political resistance to it increases the chances of a double dip in the economy in 2011 and after that.”

And that’s why George reckons gold is a bubble. Investors are panicking over sovereign debt, and rushing towards gold.  But if the major economies still have scope to borrow more, as Soros says, then the gold run is more like a rush towards fool’s gold.  Soros also reckons low interest rates are driving up asset prices, creating a bubble. He said: “When interest rates are low we have conditions for asset bubbles to develop, and they are developing at the moment. The ultimate asset bubble is gold.”

New Bretton Woods

Soros also started beating the drum of an international currency. He called for China to appreciate the yuan, and talked about a new Bretton Woods.

You may recall, Bretton Woods was the location for the 1944 summit, where the world Bank, IMF, and the system for international exchange in the post-war years was set up.  You may also recall, Keynes wanted to see a new international currency, and a system in which a global central bank acted as the banker for countries. But the key piece of the Keynes plan was that countries with a trade surplus would store their excess money in this central bank, and be charged for the privilege. In turn, the money would be lent to deficit countries. In this way, there would have been a financial incentive to ensure a global imbalance didn’t emerge. Both surplus and deficit countries were penalised. The US rejected the Keynes plan.

At Davos, The French premier called for a new Bretton Woods. “Countries with trade surpluses must consume more and improve the living standards and social protection of their citizens,” he remarked. “Countries with deficits must make an effort to consume a little less and repay their debts.” The world’s currency regime is central to the issue, Sarkozy argued, saying that exchange rate instability and the under-valuation of certain currencies lead to unfair trade and competition, and adding: “The prosperity of the post-war era owed a great deal to Bretton Woods, to its rules and its institutions. That is exactly what we need today; we need a new Bretton Woods.”

© Investment & Business News 2013