The year of the great budgetary leap... into the void

Călin Rechea (translated by Cosmin Ghidoveanu)
English Section / 22 ianuarie 2018

The year of the great budgetary leap... into the void
Călin Rechea (translated by Cosmin Ghidoveanu)

The issue of the funding of the budget deficit will become acute in 2018, as the government authorities show us that they haven't learned anything from last year's experience.

Aside from a series of unrealistic hypotheses used in the construction of the budget, such as the ones concerning the exchange rate or the rate of inflation, the country's financial position will be heavily affected by the increase in interest rates, especially since a similar trend is taking place internationally.

The first warning signs have appeared since back in the last quarter of 2017, when 13 auctions for the sale of government bonds failed, amid the refusal of the government to accept the coupons the banks were asking for. 2017 saw 16 failed auctions, a new record, significantly higher than the previous record, of 10 failed auctions, which was seen in 2010, amid an economic recession.

According to prospectuses from Q4 2017, the government has tried to borrow from the domestic market 7.4 billion through government bonds in lei, but has only succeeded in raising 2.28 billion, amid the constant failures of short term issues (author's note: securities with a 6 and 12 month maturity).

The last success was seen in August 2017, when the government raised 800 million lei for a period of 12 months for a return of 0.79%, while the ROBOR interest rate with a similar maturity was 1.23%. The quote on the last trading day was 2.32% for the 12-month ROBOR.

The massive hike of the borrowing costs in 2017, both on the government market as well on the interbank market reflected the brutal drop of confidence in the country's outlook under the current government.

Is a new doubling of the interest rate in 2018 possible again, according to some forecasts? Of course, especially amid a new accelerated increase in the second half of the year, once it becomes increasingly obvious that the current economic "performance" is not sustainable. When investors estimate that the credit and inflation risk will increase, then they are going to ask for higher yields to compensate for them.

During the first term of president Bill Clinton, the return of 10-year government bonds increased from approximately 5.2% to 8%, between October 1993 and November 1994, amid concern among investors concerning the increase in federal spending. In the next 4 years, the returns dropped to about 4% following the measures taken by the Clinton administration and Congress to reduce the budget deficit.

This was the context in which James Carville, political advisor to the president, said that "I was thinking once that if reincarnation existed, I would like to return as president, pope or a famous baseball player. I've changed my mind: I'd like to return as a bond market, because that way you can intimidate everybody". Soon our authorities will feel this intimidation.

Unfortunately, the rise in the interest rates will have a significantly negative impact on the private sector as well, amid the major discrepancy between the economic growth and the rise of debts in the last decade.

In this context, the government published the Indicative program for government bonds issues pertaining to 2018 with amounts close to those of the previous year, even though its chances of being carried out are almost nil.

Why? Because in 2017 only 39.83 billion lei were raised out of an announced amount of bonds of 47.245 billion lei, as only 30.2% of the amounts proposed in Q4 2017 were raised (author's note: 2.509 billion lei out of 8.285 billion planned).

In 2018 the government plans to borrow approximately 74 billion lei, amid a needed amount for refinancing the public debt of approximately 47 billion.

The novelty in the issue program for 2018 is represented by "the introduction of a new savings instrument for the population" as part of the TEZAUR program. Citizens will have the opportunity to lend to the state by buying bonds with a par value of 1 leu and maturities ranging between 1 and 10 years directly from the operative units of the Treasury of the State.

The interest rates which will be paid, which will probably be fixed, have not yet been announced, but any rate of the coupon below 5% for bonds with a maturity below 5 years and below 10% for those with a maturity of less than 10 years show that the bonds offered to the population are in fact "certificates of guaranteed confiscation".

Why? Because the bonds bought out as part pf the TEZAUR program may not be transferred, may not be traded and may not be bought in advance. If the government had wanted to provide citizens with a true savings alternative instead of a concealed theft, then the nominal value of the shares would have been adjusted with the inflation rate. An "investor" in these bonds will be captive and will watch helplessly how their buying power is "melting".

Even if the issues of the TEZAUR program are "successful", amid the low level of financial education among the population, the amounts raised will be too small to compensate for the banks' "reluctance".

Not even the hike of the indebtedness platform for bonds issued on foreign markets, as part of the MTN (Medium Term Notes), will not help much.

According to data from the Luxemburg stock exchange, as part of the current ceiling of 20 billion Euros funding was raised through 21 bonds issues, and the new ceiling will be approximately 27 billion Euros, as the government intends to borrow 8 billion Euros in the coming 2 years.

Unfortunately, the extremely favorable terms for financing that have been around over the last few years will soon become history. Moreover, the amounts raised will be placed with the NBR, which will "offer" lei in exchange for them, usually through money issuing.

Thus the circumstances will be created for new pressures for the depreciation of the leu, accompanied by new interest rate hikes. If the amounts raised in Euros will be converted in lei raised from the market, the effect will be the reintroduction of liquidity, which will also be accompanied by the hike of the interest rates.

We have come here to this point because we have not learned the lessons of the crisis from the end of the last decade and we have continued with the debt consumption, amid aberrant policies of the state and amid an extremely weak private sector.

Austrian economist Fritz Machlup wrote, in 1935, about the consequences of capital consumption in Austria: "Austria was successful in passing policies which are popular all over the world. Austria has the most impressive accomplishments in five areas: it has raised public spending, it has raised salaries, it has raised welfare, it has increased bank credit and has increased consumption. After all these achievements, Austria is on the brink of ruin" (author's note: "The Consumption of Capital in Austria", Review of Economic Statistics, 1935).

But how could we learn a lesson that is 80 years old, when we couldn't even learn the lesson of the crisis that happened ten years ago?

In 1927, Felix Somary, Austrian economist and banker with a particular influence on the economic and financial policies of the first half of the past century, was asked by John Maynard Keynes what advice he had for his clients. "To protect themselves as much as possible against the future crisis and to avoid the markets", Somary answered, he reminisces in his autobiography, translated in English with the title "the Raven in Zurich".

"There won't be any more crashes in our time", Keynes contradicted him, but he nevertheless asked him what he thought might cause such a development. "The collapse will come as a result of the gap between appearance and reality", came the reply of the Austrian economist, who also reminds that the famous English economist, "has expressed his contempt for the economy as a science and for economists and for economists, without excluding himself, but he was very proud of his talents as a speculator".

Almost one century after the forecast of Felix Somary, the gaps between appearance and reality, on a global level, seem to be greater than ever, and in Romania they are just as high as they were in the period that preceded the economic collapse of 2009.

"If there is nothing that prevents the leap into the abyss of our contemporaries, it needs to be at least emphasized who is responsible for the coming catastrophe", Somary further writes in his autobiography.

It would seem we are sentenced to repeat the lesson of the crisis until we learn at least its fundamental points.

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