The ECB's governing council and the Bank of England's monetary policy committee meet this week amid a clamour for rate cuts which are unprecedented in their brief histories.
Surveys suggest that economists expect cuts of at least half a percentage point, which would take the ECB rate down to 3.25 per cent and the Bank of England's rate down to 4 per cent.
Both the Bank of England and the ECB cut rates on October 8th by a half-point as part of a globally co-ordinated move to spark economic activity.
However, dire economic news in recent data releases mean that they will probably be forced to move again.
That rate cut, which brought the ECB base rate down to 3.75 per cent, was the first decrease in euro-zone interest rates in more than five years.
It meant that Irish homeowners with typical-sized variable-rate mortgages saw their monthly repayments fall by €50-€150, as the main lending institutions passed on the rate cut.
Homeowners with a mortgage of €200,000 being repaid over 20 years saw their repayments fall from €1,381 to €1,325, assuming they were charged interest at a typical margin of 1.3 points above the ECB rate.
Some lenders waited until this month to pass the rate cut on, while others gave borrowers the benefit of the rate cut for a portion of October.
A further half-point cut would see repayments on such a mortgage shrink to €1,271, meaning the household would be better off by an extra €100 a month as a result of the two rate cuts. For homeowners repaying a mortgage of €500,000 over 30 years, the fall in their loan repayments would be more than three times that amount.
On Saturday, the Reserve Bank of India took emergency action to cut interest rates and pump liquidity into the country's banking system amid concerns that the global financial crisis would significantly cut India's growth. The measures followed rate cuts by the central banks of Japan and China last week. Meanwhile, French president Nicolas Sarkozy and British prime minister Gordon Brown have struck up an unlikely partnership ahead of next week's summit in Washington aimed at overhauling the global financial system.
But Paris fears Mr Brown is committed to preserving a light-touch regulatory regime for the City of London. French officials say the strongest message that should come out of the Washington meeting on November 15th would be a broad commitment from the US, the UK and other European countries to abandon competition between regulatory systems in favour of convergence. However, they acknowledge this is unlikely.
Mr Brown and Mr Sarkozy want agreement from the leaders of the G20 group of advanced and emerging economies in the US capital for a "new Bretton Woods", a redesign of the post-war global financial architecture.
The Irish Times also reports that motorists are being charged up to 20 per cent more for diesel and petrol compared to consumers in other EU member states, according to official European Commission figures.
Prices for oil products before tax show that petrol in Ireland is 11 per cent more expensive than the EU average, diesel is 20 per cent dearer and home heating oil is 13 per cent more expensive.
The figures show that over the last six months Irish prices have changed from being much cheaper than EU prices to being much dearer. In the case of diesel, for example, prices have moved from being 13 per cent cheaper in May to be being 20 per cent dearer in October.
The figures are contained in a weekly oil price bulletin for October 20th, produced by the European Commission's directorate general for energy and transport.
Fine Gael's deputy leader and finance spokesman Richard Bruton said motorists in Ireland were the victims of a "rip-off" at the petrol pump and that the Government had failed to protect consumers.
He called on the National Consumer Agency to immediately conduct a petrol and diesel price survey to expose service stations which were not passing on the fall in the price of oil.
"Irish motorists cannot afford to be victims of slower market responses within the Irish economy. Higher transport costs will have a negative effect on Irish industry,"he said. "During the current recession, it is especially important to remain competitive, so that Irish industry can compete effectively with its European rivals in a global market place."
Responding to Mr Bruton's criticisms, Maxol chief executive Tom Noonan said: "Ireland being the farthest island off the centre of Europe, most of the oil comes from refineries in the UK. The stuff has to be brought into Ireland by ship, so the distribution system is quite a costly one. We in Maxol made just over €10 million on a turnover of €700 million in 2007, which is hardly excessive by any standards. I can assure you that, no more than any other business in this country, we are not in a position to profiteer.
"Our margins are particularly low. This incessant and ill-informed talk about oil prices does no one any good," Mr Noonan added.
However, Mr Bruton said Irish motorists could rightly feel aggravated by this rip-off which, he said, the Government had done nothing to stop. "The problem is that changes to the price of Irish oil products are lagging behind European prices. In July, when EU oil prices began to fall, the Irish markets did not follow suit.
"Savings which were already being passed onto European consumers did not reach Irish consumers 'til October,"he said.
"The industry may argue that Irish motorists were sheltered from price rises when EU oil prices initially began to rise, but this is of little consolation when Irish motorists, businesses and households are paying higher prices for oil products than their European counterparts,"said Mr Bruton.
The Irish Examiner reports that new houses to the value of more than €9 billion are lying idle across the country.
Construction chiefs have confirmed that there are 35,000 new homes unoccupied at present.
However, this figure has been disputed by economists, who say the number of idle properties is likely to be in the region of 50,000-plus, meaning the value of these properties would be a staggering €13bn, given that the average price of a new home is close to €270,000.
Revelations about the amount of idle property come as repossession applications by mortgage providers look set to almost double this year, with some lenders adopting tougher stances towards late customers in difficulty.
The Construction Industry Federation said 20,000 new homes will be built next year but many are primarily for local authority social housing and one-off housing in the countryside.
It also said the average price of new homes has dropped 30% in the past 12 months.
Goodbody Stockbrokers estimate that 62,500 houses that were completed between April 2006 and April 2008 were not purchased.
“However, we must account for the fact that some portion of these completed units were purchased without a mortgage, although it is impossible to estimate this figure with certainty,” said Goodbody chief economist, Dermot O’Leary.
According to census figures annual completions totalled 90,000 in 2006 and 78,000 last year, with a further contraction towards 50,000 units under way for the current year.
Goodbody sees just 23,000 units being completed next year.
“Our forecasts imply that the overall housing stock will increase by just 1.2% next year. That would be the lowest addition, in percentage terms, to the stock since 1988, while such a level of completions would be the lowest since 1993,” said Mr O’Leary.
Meanwhile, Courts Service figures reveal that lending institutions have lodged 608 possession applications for mortgaged properties already this year. High Court cases account for 465 of those, compared to 278 in the same period last year.
One lender, ACC Bank, has already seized three housing developments in Cavan, Leitrim and Longford after appointing a receiver over builders Leatime Construction. The company owes the bank €20m in respect of the development of 100 houses.
The downturn in the construction sector is also illustrated by news that up to 40,000 building jobs could be lost next year.
The Financial Times reports that British and EU monetary policymakers are facing mounting pressure to slash interest rates to historic lows.
The Bank of England’s monetary policy committee and the European Central Bank’s governing council meet this week amid a clamour for rate cuts unprecedented in their brief histories.
Surveys suggest economists expect cuts of at least half a point in the Bank of England rate to 4 per cent and the ECB rate to 3.25 per cent.
On Saturday, the Reserve Bank of India took emergency action to pump liquidity into the country’s banking system amid concerns that the global financial crisis would cut significantly India’s economic growth.
The RBI cut the repo rate by 50 basis points to 7.5 per cent, lowering the main short-term interest rate for the second time in two weeks.
It also reduced the cash reserve ratio, the amount of money banks have to hold with the central bank, by 100bp to 5.5 per cent, releasing about Rs400bn ($8bn) into the banking system.
The measures followed rate cuts by the central banks of Japan and China last week. “The global financial turmoil has had knock-on effects on our financial markets; this has reinforced the importance of focusing on preserving financial stability,” India’s central bank said.
In a quarterly review for consultancy Deloitte, economist Roger Bootle said he foresaw UK unemployment reaching 3m by 2010 – a rise of 1.3m – while UK interest rates “could easily fall beneath their previous all-time low of 2 per cent”.
Both the Bank of England and the ECB cut rates last month by a half-point. But dire economic news in recent data releases mean they will probably be forced to move again.
The FT also reports that in her three years as German chancellor, Angela Merkel, has forged a reputation as a decisive leader and forger of international consensus on issues ranging from climate change to the institutions of the European Union.
Yet while Nicolas Sarkozy, the French president, and Gordon Brown, British prime minister, are seen to have tackled the financial crisis in their countries with determination, analysts and opponents think Ms Merkel’s comparatively mixed performance has cast doubt on her ability to lead under pressure and might have undermined her re-election prospects next year.
Fritz Kuhn, opposition Green party parliamentary leader, says that after the collapse of Lehman Brothers in the US “the government took days before it understood this was a German crisis too. When it did, it acted half-heartedly”.
Berlin initially insisted on tackling the crisis case by case. There would be “no blank cheques” for the banks, Ms Merkel told an interviewer.
And while France was calling for a co-ordinated rescue, the chancellor cast aside her multilateralism and said “Nein!” – German taxpayers would not pay for the mistakes of foreign banks.
It took two weeks for Ms Merkel to make a U-turn, first embracing a systematic approach to the crisis modelled on the UK’s, then agreeing to embed it in a European framework and finally launching a €500bn ($635bn, £395bn) rescue package for banks.
Her earlier decision to guarantee all bank deposits – taken at the margins of a four-country crisis meeting in Paris but without informing her counterparts – caused anger in London, Paris and elsewhere.
The French government is privately scathing about what it sees as Gemany’s dilatory response to the whole crisis. For Jean-Pierre Jouyet, France’s Europe minister, such hesitation might have been a consequence of Germany’s coalition government and approaching elections. “They take fewer risks on the German side,” he said.
Ms Merkel’s “grand coalition” of rival Christian and Social Democrats does not lend itself to swift decision-making in emergencies.
Likewise, the low-key, reassuring style Ms Merkel has developed since her election has appeared less tailored to tackling sudden emergencies than Mr Sarkozy’s hyperactivity.
The chancellor’s reluctance to give up her goal of balancing the federal budget by 2011 until she no longer had any choice also gave the impression that she had underestimated the extent of the crisis. Supporters of Ms Merkel say she made the right choice by initially deferring to Peer Steinbrück, her finance minister, only getting involved once the crisis became serious enough. Earlier, more energetic involvement, they argue, could have misfired by triggering panic in the population.
Hermann Otto Solms, finance expert for the Free Democratic Party, disagrees: “This muddling along from crisis to crisis was a picture of dilettantism.” The damage to Ms Merkel’s reputation could have longer-term consequences.
The looming economic slump – a recession next year has become likely – has torn apart her re-election script. Her campaign was to focus on education, while pointing to Germany’s recovery under her government as evidence of her competence.
Ideologically, too, the crisis presents a challenge to the CDU, which Ms Merkel had steered towards being a more liberal, market-friendly political force. A Forsa opinion poll last week showed the vast majority of Germans now favour nationalising key industries.
“I see the left camp as a winner in an economic slump because of rising demands for a sturdier social safety net,”says Jürgen Falter, political scientist at Mainz University.
CDU officials claim Ms Merkel, who has gravitated to the centre as chancellor, is in touch with the public’s concerns about the market’s flaws. They also point out that the CDU does well in rough economic times because voters credit it with good economic expertise.
A recent TNS poll showed 41 per cent of respondents believed the CDU was better positioned to tackle economic challenges, while only 17 per cent said so of the SPD. Nonetheless, Ms Merkel will now have to demonstrate more talent at improvising under pressure. Next year’s election has just become more interesting.
The New York Times reports that private equity firms embarked on one of the biggest spending sprees in corporate history for nearly three years, using borrowed money to gobble up huge swaths of industries and some of the biggest names — Neiman Marcus, Metro-Goldwyn-Mayer and Toys “R” Us.
The new owners then saddled the companies with the billions of dollars of debt used to buy them. But now many of the loans and bonds sold to finance the deals are about to come due at the worst possible time.
So, like homeowners with an adjustable rate mortgage that just went up, some of private equity’s titans are facing a huge squeeze. And that is coming at the same time consumers are staying home with their wallets closed.
Already this year, big retailers backed by private equity, like Linens ’n Things, Mervyn’s and Steve & Barry’s, have filed for bankruptcy.
Analysts expect an even broader array of companies backed by private equity — including resorts like Harrah’s Entertainment and lenders like GMAC, the financing arm of General Motors — to face even more pressure as profits shrivel and creditors come knocking.
“There’s absolutely going to be a lot of pain to go around,”said Josh Lerner, a professor of investment banking at Harvard Business School.“The big question is how apocalyptic it will be.”
Private equity firms, which are lightly regulated, use investors’ money to buy undervalued public companies and take them private. The difficulty of companies that have been acquired by private equity firms to get new credit could have enormous implications for the economy.
People who work for companies owned by private equity firms could lose their jobs as firms cut costs to meet their debt obligations. And private equity firms like Apollo Management, which owns Harrah’s and Linens ’n Things, face deep markdowns on the value of their holdings.
Pension funds and college endowments that invested their money into in these funds in recent years hoping for big returns are likely to suffer as well, and many of those investors could face a cash squeeze, as they are forced to hold onto their investments for years until the economy recovers.
“The dangling other shoe is now about to drop,”said Jeffrey A. Sonnenfeld, senior associate dean of the Yale School of Management.
When the economy was booming, the firms made huge profits by cutting costs at their new acquisitions, improving operations and then turning around and selling them. In 2007, at the height of the bubble, such deals totaled $796 billion, or more than 16 percent of the $4.83 trillion in all the deals made globally that year, according to data from Dealogic.
Firms like the Blackstone Group and Kohlberg Kravis Roberts & Company, faced an image problem at the height of the bubble for excessive compensation and beneficial tax treatment, but their returns were so high that even investors like pension funds were drawn in. Now these firms, built on enormous amounts of debt, are being forced to go back to the financial markets just as those markets have nearly frozen up.
If history is any guide, the worst may be yet to come. Steven N. Kaplan, a professor at University of Chicago Graduate School of Business, found that nearly 30 percent of all big public-to-private deals made from 1986 to 1989 defaulted. Afterward, private equity players were called to testify before Congress, and movies like “Wall Street” and “Other People’s Money” depicted financiers as greedy criminals.
To be sure, many companies that were not purchased by private equity firms are also struggling. Circuit City, the longtime seller of consumer electronics, is trying to avoid filing for bankruptcy. And publicly traded automakers like General Motors are troubled, too. (G.M. wants to merge with Chrysler, which is owned by a private equity firm.)
Many industry insiders and analysts contend that companies backed by private equity will not suffer nearly as much as those in the late 1980s because the firms pushed for better financing conditions that allow them to keep operating even if they cannot make their debt payments.
For example, in an effort to save cash, six of Apollo’s portfolio companies, including Claire’s Stores, Harrah’s and Realogy, have announced this year that they will pay some of their bonds’ interest by issuing more debt.
Mr. Kaplan said he believed that while “it isn’t going to be pretty,” today’s deals “are much less fragile and used less leverage.” He contended that “on a relative basis to investment banks and hedge funds, private equity may be in a better place” because of its long-term focus.
Stephen A. Schwarzman, chairman of Blackstone Group, remains committed to the future of private equity. “The people rooting for the collapse of private equity are going to be disappointed,” he said. While some companies may find themselves in trouble, he said, many more will be able to ride out a downturn in the economy because of the less restrictive financing conditions that banks agreed to earlier.
He added that he believed that now may be the best time for private equity because of the investment opportunities amid the crisis. “Historically, downturns are when the most money gets made,” he said. Shares of Blackstone are hovering at around $10, down from the $31 they were at when Blackstone went public in June 2007. (Fortress Investment Group, another big firm, is trading at $4.90 a share, down from its initial price of $35 in February 2007.)
Mr. Lerner, of the Harvard Business School, said that trouble among private equity firms would probably “precipitate hard questions about the compensation and fee structure” in the industry. The firms generally take fees of 2 percent of all money managed and 20 percent of profits. “I would not be surprised if they try to head off the criticism by returning capital,” he said.
The problem for the past deals is that many firms waded into economically sensitive sectors like retailing and restaurants. Firms like Apollo, Cerberus Capital Management and Sun Capital Partners purchased several troubled companies to turn around from 2004 through the first half of 2007.
In the case of Linens ’n Things, a longtime also-ran to Bed, Bath & Beyond, Apollo knew that it had a tough job ahead of it, yet it still added heavy debt. Two months before Linens ’n Things was acquired, it reported $2.1 million in long-term debt; by Dec. 31, 2007, that amount had exploded to $855 million.
At the time, private equity firms assumed that they could refinance their portfolio companies’ debt cheaply. But many appear to have been blindsided by the size and severity of the credit market meltdown, which has left lenders unable or unwilling to provide more money.
In what seems a worrisome trend, many bonds of private equity-backed companies have recently plummeted in value, signaling worries about their solvency. These include Michaels, the crafts store co-owned by Bain Capital and the Blackstone Group; Dollar General, a low-price retailer taken private by Kohlberg Kravis Roberts; and Realogy, the parent company of the real estate brokerage firms Coldwell Banker and Century 21 that is owned by Apollo Management.
The bonds issued by Harrah’s Entertainment, for example, were trading at 16.5 cents on the dollar, indicating investors’ belief that the company was drawing closer to a potential default. Harrah’s, too, was saddled with a lot of debt when it was taken private. A month before the completion of the Harrah’s takeover, the company reported $12.4 billion in long-term debt. By June 30, that figure had swollen to $23.9 billion. Harrah’s has already begun making selective staff cuts and has begun scaling back costs, even cutting back hours in its V.I.P. lounge and the complimentary rooms and meals for its best customers.
“Unfortunately, the worst-case scenario is now looking like the best case scenario,” analysts from CreditSights, a research firm, wrote in a research note on Oct. 17 about Harrah’s. “While the company could be able to pull through unscathed, the market is giving little credit to do so.”
The NYT also reports that the Treasury Department has turned down a request by General Motorsfor up to $10 billion to help finance the automaker’s possible merger with Chrysler,according to people close to the discussions.
Instead of providing new assistance, the Treasury Department told G.M. on Friday, the Bush administration will now shift its focus to speeding up the $25 billion loan program for fuel-efficient vehicles approved by Congress in September and administered by the Energy Department.
Treasury officials were said to be reluctant to broaden the $700 billion financial rescue program to include industrial companies or to play a part in a G.M.-Chrysler merger that could cost tens of thousands of jobs.
But it remained unclear whether the officials were also seeking to avoid making any decision that would conflict with the goals of a new presidential administration. The Democratic candidate, Senator Barack Obama, has said in recent days that he supports increasing aid to the troubled auto companies, while Senator John McCain has not said whether he would support aid beyond the $25 billion.
While G.M. and Chrysler continue to talk, no deal is expected until the government clarifies its role, if any. Potential investors in the deal have been hesitant to back the merger without federal assistance.
G.M.’s chairman, Rick Wagoner, had lobbied Treasury Secretary Henry M. Paulson Jr. to provide emergency aid to the auto companies under the bailout program to stabilize the financial markets.
The Bush administration is still considering a range of options to aid the Detroit automakers, which are losing billions of dollars and rapidly depleting their cash reserves, said auto industry and administration officials, who did not want to be identified because of the sensitive nature of the discussions.
The first step is to get the Energy Department to expedite the release of the $25 billion in low-interest loans for G.M., Chrysler and the Ford Motor Company.
Beyond that, the administration is also bringing the Commerce Department into discussions about channeling additional aid to the automakers.
With auto sales deteriorating to their lowest level in 15 years, Detroit’s traditional Big Three are struggling to stay solvent and avoid bankruptcy.
The deepening troubles led G.M. into merger talks in September with Chrysler’s majority owner, the private equity firm Cerberus Capital Management, and the request to the Treasury Department for assistance.
Auto industry executives and analysts said over the weekend that the loan program is essential to retooling plants and developing vehicles that meet more stringent government fuel-economy mandates.
Getting the loans will allow G.M., Ford and Chrysler to redirect money already budgeted for cleaner cars to other capital needs.
“The auto companies are clearly running out of cash, and badly in need of more liquidity,”said David Cole, chairman of the Center for Automotive Research in Ann Arbor, Mich.“Releasing the $25 billion in loans is a necessary first step.”
The Detroit companies employ more than 200,000 workers in the United States and provide health care and pensions to more than one million Americans. The companies are also a lifeline to thousands of dealers and countless suppliers.
Support for aiding the industry is growing among political leaders in states with heavy automotive employment. Last week, the governors of Michigan, Ohio, New York, Kentucky, Delaware and South Dakota wrote a letter to Mr. Paulson and the Federal Reserve chairman, Ben S. Bernanke, urging “immediate action” to assist the industry.
“While all sectors of the economy are experiencing difficult times, the automotive industry is particularly challenged,”the letter said.“As a result, the financial well-being of other major industries and millions of American citizens are at risk.”
Cerberus, which bought Chrysler last year for $7.4 billion, has been unable to reverse a steady decline in the fortunes at the company, the smallest of Detroit’s Big Three. While overall auto sales in the United States are down 12.8 percent this year, Chrysler’s sales have fallen 25 percent, mainly because of its focus on gas-guzzling sport utility vehicles and pick-up trucks.
Cerberus has had discussions with the Japanese automaker Nissan Motor and its French partner, Renault, about bringing Chrysler into their international automotive alliance. But people familiar with the discussions said Cerberus is now focused solely on a potential G.M. deal.
The depth of the Big Three’s problems will become even more evident this week with the release of October sales figures and third-quarter earnings announcements by G.M. and Ford.
Industry sales fell 26.6 percent in September, but October’s totals could be even worse. The auto research Web site Edmunds.com forecasts that sales of new vehicles during the month will drop nearly 30 percent from the same period last year.
