Massenbach-Letter: NEWS 15.07.16

Massenbach-Letter. News

· Chilcot Report of the Iraq Inquiry * Joseph S. Nye: Lying and Leadership

· Italy and Systemic Failure – The Italian banking crisis is not only Italy’s problem * UniCredit Economic Policy Position Paper (PM Renzi’s policies, reforms and measures to foster sustainable growth).

· DEBKAfile: Russian anti-ISIS war from Syria to Caucasus * Andrey Kortunov -Sieben Phantome der russischen EU-Politik * Interview with Stefanie Babst


· International North-South Transport Corridor (INSTC)

· Programme for Pope Francis‘ visit to Georgia, Azerbaijan

Massenbach*Italy and Systemic Failure. The Italian banking crisis is not only Italy’s problem.

Geopolitical Futures logoBy George Friedman

We are now at the point where the mainstream media has recognized that there is an Italian banking crisis.

As we have been arguing since December, when we published our 2016 forecast, Italy’s crisis will be a dominant feature of the year. Italy has actually been in a crisis for at least six months.

This crisis has absolutely nothing to do with Brexit, although opponents of Brexit will claim it does. Even if Britain had unanimously voted to stay in the EU, the Italian crisis would still have been gathering speed.

The extraordinarily high level of non-performing loans (NPLs) has been a problem since before Brexit, and it is clear that there is nothing in the Italian economy that will allow it to be reduced. A non-performing loan is simply a loan that isn’t being repaid according to terms, and the reason this happens is normally the inability to repay it. Only a dramatic improvement in the economy would make it possible to repay these loans, and Europe’s economy cannot improve drastically enough to help. We have been in crisis for quite a while.

The crisis was hidden, in a way, because banks were simply carrying loans as non-performing that were actually in default and discounting the NPLs rather than writing them off. But that simply hid the obvious. As much as 17 percent of Italy’s loans will not be repaid. As a result, the balance sheets of Italian banks will be crushed. And this will not only be in Italy. Italian loans are packaged and resold as others, and Italian banks take loans from other European banks. These banks in turn have borrowed against Italian debt. Since Italy is the fourth largest economy in Europe, this is the mother of all systemic threats.

Since the problem is insoluble, the only way to help is a government bailout. The problem is that Italy is not only part of the EU, but part of the eurozone. As such, its ability to print its way out of the crisis is limited. In addition, EU regulations make it difficult for governments to bail out banks. The EU has a concept called a bail-in, which is a cute way of saying that the depositors and creditors to the bank will lose their money. This is what the EU imposed on Cyprus. In Cyprus, deposits greater than 100,000 euros ($111,000) were seized to cover Cypriot bank debts. While some was returned, most was not. The depositors discovered that the banks, rather than being a safe haven for money, were actually fairly risky investments.

The bail-in is, of course, a formula for bank runs. The money seized in Cyprus came from retirement funds and bank payrolls. The Italian government is trying to make certain that depositors don’t lose their deposits because a run on the banks would guarantee a meltdown. A meltdown would topple the government and allow the Five Star Movement, an anti-European party, a good shot at governing.

The reason for the bail-in rule is Berlin’s aversion to bailing out banking systems using German money. Germany is already seeing a rise in anti-European political feeling with the rising popularity of the nationalist Alternative for Germany party. Unlike Italian anti-European sentiment, the German sense of victimization is their perception that they are disciplined and responsible, and they resent paying for the irresponsibility of others. Therefore, the German government’s hands are tied. It cannot accept a Europe-wide deposit insurance system as it would put German money at risk, nor can it permit the euro to be printed promiscuously, as that would come out of the German hide as well. The Italians can only try and manage the problem by ignoring EU rules, which is what they are actually doing.

But there is another European economic crisis brewing. As we have pointed out, Germany derives nearly half of its GDP from exports. All the discipline and frugality of the Germans can’t hide the fact that their prosperity depends on their ability to export and that the ability to export depends on the effective demand of their customers. Germany exports heavily to the EU, and the Italian crisis, if it proceeds as it is going, is likely to cause an EU-wide banking crisis, and an even greater weakening of the European economy. That would cut deeply into German exports, slashing GDP and inevitably driving up unemployment. Logic would have it that the Germans are acting desperately to head off an Italian default, but Chancellor Angela Merkel has built her government on Germany’s pride in its economy. She is not eager to announce to the German people that the German economy depends on Italy’s well-being.

But it is clear that German businesses are aware of the danger. German production of capital goods fell nearly 4 percent from last month, and German production of consumer goods rose only 0.5 percent. German consumption can’t possibly make up for half of Germany’s GDP. In addition, the International Monetary Fund has recently pointed to Deutsche Bank as the single largest contributor to systemic risk in the world. A rippling default through Europe is going to hit Deutsche Bank.

However, the real threat to Germany is a U.S. recession. Recessions are normal, cyclical events that are necessary to maintain economic efficiency by culling inefficient businesses. The U.S. has one on average once every six to seven years. Substantial irrationality has crept into the economy, including new bubbles in housing. The yield curve on interest rates is beginning to flatten. Normally, a major market decline precedes a recession by three to six months. That would indicate that there likely won’t be a recession in 2016 but there is a reasonable chance of one in 2017.

Given the stagnation in Europe, Germany has been shifting its exports to other countries, particularly the United States. It is hard to tell how much price cutting the Germans had to do to increase their exports, but it has been useful to maintain the amount of GDP derived from exports. If the United States goes into recession, demand for German goods, among others, will drop.

But in the case of Germany, a 1 percent drop in exports is nearly a half percent drop in GDP. And given Germany’s minimal growth rate, drops of a few percentage points could drive it not only into recession, but into its primordial fear: high unemployment. A U.S. recession would not only hit the Germans, but the rest of Europe, which also exports to the United States, either directly or through producing components for German and British products. When we look at data on U.S. exposure to foreign debt defaults, there is some, but not enough to bring down the American system. The United States, with relatively low export percentages and low exposure, can withstand its cycle. It is not clear that Europe can.

Compounding this problem is an ever-increasing number of non-performing loans in China. Most of these are domestic loans, but they reflect the fact that China has never recovered from the aftermath of the 2008 financial crisis. It has avoided massive social dislocation by encouraging loans to businesses of all sizes and dubious viability in order to maintain employment as far as possible. There is a new wave of non-performing loans coming due. And as with Italy, non-performing is a euphemism. The problem is not that these loans are late. The problem is that they were loaned to businesses and individuals who should have been forced out of business by a lack of credit, and were kept alive on artificial respirators.

The obsession of figures like European Commission President Jean-Claude Juncker, railing against Brexit, was not a smokescreen. He and others really did see Brexit as the major danger to the EU. That is what is most troubling. Far more significant are Italy’s financial crisis and Germany’s extreme vulnerability. Whether the British stay or go, Italy’s and Germany’s problems have to be addressed, and the existence of the EU and its regulations make finding solutions extremely difficult.

This all was put in motion in 2008, but it is not a 2008 crisis. This is most of all a political and administrative crisis caused by a European system that was created to administer peace and prosperity, not to manage the complex gyrations of an economy. Similarly, China introduced the doctrine of enriching yourself to please the Party, but hadn’t considered what to do when the party was over.

The argument from those who are against internationalism is simple. Sometimes the major international systems begin failing. The less you are entangled with these systems the less damage is done to you. And given that such systemic failures historically lead to international political conflict and crisis, the case for nationalism increases – assuming you aren’t already trapped in the systemic crisis. In any event, increasing nationalism follows systemic failure like night follows day.


Attachment: Herzlichen Dank an Unicredit Berlin für: Sonderausgabe das UniCredit Economic Policy Position Paper (PM Renzi’s policies, reforms and measures to foster sustainable growth).

Das Papier gibt Ihnen einen Überblick über den aktuellen Stand bei den Italienischen Reformen. Autor unserer Sonderausgabe ist UniCredit Institutional & Regulatory Affairs.

Achim Oelgarth Michael Neubert

Hauptstadtbüro / Institutional Affairs Germany


Schirach Report.

Italy Overwhelmed by Poor African Immigrants.

WASHINGTON – Italy has two major demographic problems. Both of them carry bad outcomes. Italy is the destination of too many immigrants from poor countries in Africa and the Middle East; while its native population is shrinking due to extremely low fertility rates. In plain language: not enough new babies.

Gloomy picture. Here is the gloomy end game. Italy’s population is progressively becoming more African/Middle Eastern. And this trend brings no economic gains, because most of the new residents are either illiterate or low skilled, while at the same time they are entitled to receiving costly social services.

Crisis point . Add to this social and political tensions caused by the new immigrants. Indeed, according to public officials, Italy has reached a crisis point when it comes to its ability to welcome and integrate immigrants arriving mostly from Africa and the Middle East. Piero Fassino, former Mayor of Turin, a major city in Italy’s North West, recently stated that: “In terms of numbers [of new immigrants] we are at the point of surpassing what can be managed by the public authorities. Unless we deal with it, this immigration problem may overwhelm us”.

Political tensions . Among other issues, Fassino pointed out that immigrants come up on top of the waiting list for low-cost housing, because they usually have large families (unlike the Italians), and large families have a priority among those waiting for these units.

This way immigrants end up getting the housing originally planned for low income Italians. And this unforeseen development clearly breeds strong anti-immigrant resentment.

Lowest fertility rates.

And it gets worse. If we look at the never-ending immigration tidal wave in conjunction with low fertility rates among Italian women, then we have the elements of a demographic/political crisis. Italy now has the lowest number of new births per unit of population in the entire European Union. Simple math: fewer native Italians and more Africans permanently settled in Italy will transform the country’s ethnic composition–rather rapidly.

Indeed, Italy is now at the point in which deaths have surpassed new births. This means a progressively shrinking native population. If we consider that in Italy, (like in most other developed countries), social services and pensions going to current recipients are paid for through contributions by active workers, it is obvious that the entire fabric of the Italian welfare state will soon become unsustainable. There will not be enough revenue to finance benefits. Simply stated: too many retirees, and not enough active workers paying into the system.

Immigrants do not add to the quality labor pool .

From this perspective, the arrival of large numbers of new immigrants should be viewed as good news, no? More young people with jobs paying into the welfare system, should help re-balance it. Right?

Well, not really. Because these new immigrants are unskilled and mostly illiterate. These new arrivals have hard time get real jobs. They often become part of an informal, underground economy. To put it mildly, they do not add to the quality of Italian human capital. They are a net cost to the country.

No way out .

Is there a way of this? Probably not. Italians do not have more children because of a changed culture in which family is no longer thought of as important, and in part because children are deemed to be too expensive for millions of struggling lower income Italians who can barely make ends meet.

Immigrants driven by poverty

At the same time, abject poverty will continue to drive hundreds of thousands of poor Africans out of their Continent. Same thing for Middle Eastern people trying to escape from civil wars, and political chaos in their native lands. Many of them end up in Italy because Italy is close to Africa, Syria, and Iraq. Once the new immigrants get there, hard to move them elsewhere.

So, here are the facts. Soon enough, Italy and others parts of Europe, especially Southern Europe, will look more like Africa and the Middle East.


From our Russian news desk:Russian Foreign Policy- NATO – Syria – Finland – China – N. Korea.

On July 11–12, 2016, Moscow became the venue for the 162nd Bergedorf Roundtable titled “Russia and Europe: What Unites Us, What Divides Us?” held by the Russian International Affairs Council and the Korber Foundation. RIAC website editor Maria Smekalova askedStefanie Babst, Head of Strategic Analysis Capability to the NATO and Chairman of the Military Committee, about the latest NATO summit results, prospects of Russia-NATO cooperation and the bloc’s reaction to Brexit.

Could you comment on NATO Summit outcome?

Well, overall I think the allies are very happy with the conduct of the Warsaw summit. In particular, because everything that was prepared for the Heads of State and Government to sign was signed, everything that was prepared to be discussed was discussed. I think it was important that the allies spoke with one voice, not only on their future actions vis-à-vis the Middle East and the South, but also when it comes to the alliance’s future relations with Russia. The allies agreed that our future strategy towards Russia should be based on a dual track philosophy. One is that of enhanced deterrence, and the other one is that of dialogue. In that respect the allies were very much in line with each other. There was absolutely no diverting voice, and we will now in the next couple of months translate all of these decisions into action.

The NATO-Russia Council has resumed its activity. Can we expect any kind of rapprochement in the near future?

I think that depends very much, in fact, on the Russian side because the NATO allies have made their position very clear. They have said, and they have reiterated this in Warsaw, that practical cooperation remains suspended until we have seen the full implementation of the Minsk agreement. We need to see that Russia continues to adhere to internationally agreed norms. Now, obviously our hope is that progress will be made in the Minsk process, but I think it’s already very important that the allies get together with Russian partners to talk about a number of issues. One of the issues which is really important to us is to find agreement with Russia on reducing military incidents, reducing the risk of misunderstanding each other in military terms, and how we can ultimately modernize the Vienna document that guides military inspections and transparency.

Nowadays there are several conflicts in the world that require international efforts. How can Russia and NATO cooperate to solve some of the existing crises?

You are right, assuming that there would be ample ground for Russia and NATO to work together, and we did so before the illegal annexation of Crimea. Unfortunately, the time is not right yet because we think it is critical to first settle a conflict which is still very hot in Europe and which involves one of our partners, Ukraine. So before we have settled that conflict, it will be very difficult to work jointly on other issues. We have to deal with this one first.

Do you think Brexit will lead to serious consequences for the NATO?

First of all, the United Kingdom is still a member of the European Union, and will remain so until the vote on Article 50 of the European Treaty. Only then the process of divorce will start. I think it is only then and at the end of that process that we can actually make a judgement about how that could affect NATO. So for me this is far too early to say that NATO will be affected. What counts for us now is that we have a truly committed ally amongst our members, that we have an ally, fully dedicated to NATO’s overall agenda, to our operations, and is also an active contributor to our military outpost. That will remain the case for some time to come. However, I do think it all depends on how the process between the European Union and the United Kingdom will develop and what that relationship at the end of the day will be. And we don’t know that yet because first, the UK would have to invoke Article 50 of the Washington Treaty and then we will see the process unfolding. We have to be a bit more patient.

07-12-16 Reforms PM Renzi_ENG_8 7 2016.pdf
07-13-16 Russian Foreign Policy-Syria-Finland-NATO-Interview S. Babst-China-N.Korea.docx