Sheriff Merkel fired the blanks into the air and the Markets rattled

There was an uproar in the markets, following Germany's announcement to ban "naked short-selling" of stocks of certain financial institutions, bonds and CDS. The response, however, seems to be overdone.

For equities, "naked short-selling" has been banned in the US for quite sometime now, though its enforcement has not been entirely effective (it is obvious that it's very hard to enforce, if not impossible - even in Germany). One can still short sell the securities in question, or even should be able to short sell them naked if they are reasonably confident that they can borrow the securities (although I am not sure, at this point, how Bafin will implement and enforce the rules). The ban in Germany seems to be far less comprehensive than the restriction in the U.S.

As for the government bonds, the targets are limited to "debt securities that are traded on a regulated market". Derivatives, such as bund futures seem to be excluded from the restriction. Thus, the securities affected should be limited primarily to German and Austrian bonds listed on German exchanges. Big deal? No, not at all.

Also, CDS transaction volume in Germany is quite limited, so the ban should have little impact, if any. Most European CDS trades are taking place in the UK, and it is very unlikely that the UK FSA will follow suit. Even subsidiaries of German banks/funds in the UK should be able to trade "naked" CDS in the UK without restrictions. Given these, the "ban" is obviously a -- deliberately ineffective -- blank shot in the air and has little substance, if any.

So what's the buzz? It seems to me that -

1. Markets are irrationally driven by headlines, without proper assessment of the ban.
2. Merkel has certain credibility: Frau Merkel, unlike the SEC in the US, is not a chicken. It might have been a blank cartridge this time, but she might fire real bullets next time.
3. Markets waged preemptive strike: Financial institutions are trying to make sure the Governments understand that they will make a big noise and cause significant collateral damages if anyone tries to touch the all important "their precious" CDS.

I believe Merkel's move is just a symbolic one and directed toward the angry voters and legislators in Germany, for now. Also, I doubt if the German leaders really expected other EU members to follow (no one actually needs to, if it is a mere warning shot and nothing significant). I cannot think of any other credible explanation for the lack of prior "formal" consultations with other member nations or the Commission. Other version of explanation, given by Mr Wolfgang Münchau is that the German leadership is criminally incompetent, which I disagree. No sane person would expect French or Briton to follow German Blitzkrieg without significant negotiation.

Merkel is cautious and far from rash. She showed that she would play "sovereign" hardball as, for instance, Chinese government would do, if she so chooses. This time, it was just a symbolic move but another one might follow and if so, it might point to more direct conflicts between sovereign nations and the markets. If this is the case, the markets feared, quite rightly.



 

On Freedom

It is sad to see conservative politicians across the Atlantic calling for stricter restrictions on immigration, as I understand the protection of liberty is one of the most important cause of conservative principles. Arendt wrote -

Freedom meant that one could do as one pleased, forced neither by the bidding of a master nor by some physical necessity that demanded laboring for wages in order to sustain the body nor by some somatic handicap such as ill health or the paralysis of the members. According to Greek etymology, that is, according to Greek self-interpretation, the root of word for freedom eleutheria, is eleuthein hopos ero, to go as I wish, and there is no doubt that the basic freedom was understood as freedom of movement. A person was free who could move as he wished. (Arendt. "Willing"  )

She also wrote -

Being able to depart for where we will is the prototypical gesture of being free, as limitation of freedom of movement has from time immemorial been the precondition for enslavement. Freedom of movement is also the indispensable condition for action, and it is in action that men primarily experience freedom in the world. (Arendt. "On Humanity in Dark Times")

Of course, Arendt was not "conservative" per se, but what she wrote about freedom is important. I support liberal immigration policy, not just because it is good for economy (it is) or it helps poorer countries more directly (it does), but also because it concerns the fundamental values upon which our society is built.

 

Japan to Follow Greece?

The debt laden U.S, U.K and Japan have one thing in common - their debts are denominated in their own currencies. Their currencies should depreciate in value, but it is unlikely they default on their debts anytime soon (that is, unless their central banks' printing machines are destroyed).

As their currencies depreciate in value (i.e. inflation), their ability to service their debts actually increases (while the peripheral countries of Europe cannot 'inflate away' their debts). So it is misguided to simply compare, for example, CDS spread of the UK Gilt with that of Italy or Spain (let alone comparing it with CDS spreads of corp. papers).

It makes sense to me when Faber says 'Rather than shorting JGBs, a better way to capitalize on Japan’s dismal future fiscal position could be to simply go long Japanese equities and short the Yen. As in the case of Mexican stocks between 1983 and 1988 the appreciation of Japanese equities should in future exceed the likely weakness in the Yen.'