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Europe has a sense of paralysis: Courtis -

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Europe has a sense of paralysis: Courtis

Broadcast: 07/10/2011

Reporter: Ali Moore

Global economist Ken Courtis says Europe has serious structural problems and it is difficult to see
what America can do but Asia is being pre-emptive.


ALI MOORE, PRESENTER: Well now to discuss the world financial situation we're joined by global
economist Ken Courtis.

He's a founding partner of Themes Investment Management and a former managing director and
vice-chairman of Goldman Sachs Asia and tonight he's in Singapore.

Ken Courtis, welcome back to Lateline.

KEN COURTIS, GLOBAL ECONOMIST: Thank you very much Ali.

ALI MOORE: You've just spent a week in the US, a week in Europe, now, as I said, you're in
Singapore, does it feel a little like returned to the region of promise from the realms of the
damned, if you like, at least in economic terms?

KEN COURTIS: Ali I think you've sort of summed it up. In Europe there's a sense of almost
paralysis. That there's nothing that can be done, that we're just going towards a huge crisis and
there's somehow no way to stop it, is how people in the street feel.

We've seen yesterday a Belgian bank had to be rescued, effectively nationalised. And as this crisis
progresses I think the negativism, the fear, the depression in Europe is deepening and this of
course then is impacting how people are spending their money, how companies are investing.

And so you just have a pretty sombre environment. Indeed, yesterday the governor of the Bank of
England said that this may be the worst crisis, even worse than the crisis of the 1930s. So that's,
when someone at that level makes a statement of that importance, you know that we are in trouble.

In contrast, in Asia, well the regions still growing quite well. Probably on average at the moment
we're growing around 7.5, 7.8 per cent, from Australia at the lower end to China at the higher end
across the region.

What I feel is not a sort of a giddy optimism but more a sense of realism. And people are starting
to recalibrate, because they know if this crisis goes critical in Europe and impacts America and
Japan, which are already in difficulties, that inevitably that's going to hit this region. So I
think people are preparing for the worst and hoping for the best.

ALI MOORE: Before we look at Asia in more detail, let's go back to Europe.

Because I guess against the backdrop of what Mervyn King said, and we've also had the announcement
the Bank of England is going to start printing tens of billions of pounds, and we've had these
downgrades of British banks. But at the same time we've had a really very good week on global stock
markets, and there did seem to be certainly a real spike in optimism. What do you put that down to
and was it really false hope?

KEN COURTIS: Ali, I put that down to the following: number one, we've had several weeks of the
market going only one way, so probably the selling was sold out in a sense and there is a vacuum
there, a sort of relief rally has happened.

Number two, with the nationalisation effectively of the Belgian banks, I think there is a sense
among investors now that, as other banks get into trouble, as I believe eventually they will in
Europe, that governments will step up and take them over. Which is different from the Lehman
situation we had in the United States where the US government just abdicated and let the thing
collapse and that destabilised the whole world economy.

And I think, number three, there is more optimism today and in the last few days than there has
been in the last few weeks that Europe will begin to recapitalise its banks. And its banks are
heavily undercapitalised so they can't really absorb really big losses here without getting into
extraordinary trouble.

So I think these three or four forces have come together to give us a little lift the markets, may
go a little further. But I don't think anyone should get the view that the trouble is behind us.

ALI MOORE: Indeed with those efforts to recapitalise the European banks, and particularly that
commitment to continue the unlimited liquidity, does that help? I mean, is that a step on the road
to actually resolving this crisis?

KEN COURTIS: Well, it helps because it helps buy time. But buying time does not solve the
underlying problem. And the underlying problem is that the European banks have on their balance
sheets assets that are not worth the price that they're valued at on those balance sheets. And so
as they take losses on those assets, they have to ... they deplete their capital, but they just
don't have enough capital to absorb all of those losses.

So what has to happen is that the banks have to be recapitalised and then they have to get rid of
this bad debt, get it off their balance sheets and clean house.

You know there's a strange view afoot in Europe that bad debt is like good wine, it gets better
with age. Actually it's like garbage, it poisons everything around it the longer you leave it on
your balance sheet.

So the quicker that Europe can move on this, the smaller the crisis will be. And Europe is not
moving very quickly, and so as a result the crisis seems to be getting bigger rather than smaller
over the midterm.

ALI MOORE: Interestingly you're talking about clean house and you're talking about bad debts but
you're talking about banks, you're not actually talking about government debt. This really is a
bank problem, isn't it?

KEN COURTIS: It's a triple problem really Ali. It's the banks have a problem that they are just far
too undercapitalised. German banks are probably, have assets on their balance sheets 30 times their
capital, French banks 25 times their capital. So they're just way over-levered.

The second problem is you have a major fiscal problem. In a number of European governments they
just can't get their finances balanced.

And thirdly you have a structural problem in Europe. Parts of Europe are just not competitive,
haven't been competitive for years.

Take Portugal. Portugal hasn't had a trade account surplus since 1962. So these structural issues
are going to take a long time to turn around. And it is the convergence of these three problems
that is really at the heart of the European crisis, plus the inability of the political class to
come together and to make the right decisions.

ALI MOORE: Inability of the political class. You've just, you've been in Europe. We've seen huge
demonstrations in Greece. How big a risk do you think there is, a real social turmoil, turmoil that
could change the political landscape in Europe?

KEN COURTIS: Well, in Europe, like America, incidentally, is only inches above a stalled economy.
If these economies slow any further, just a tiny bit further, they could very easily slip into
recession. And given the weak fiscal position of most European governments, that would mean they
really don't have much strength to offset the downturn and so unemployment would rise further and
fiscal problems would get more difficult.

And I think in those conditions, these movements we've seen in Spain and Greece and a little in
Italy, they could become much more generalised. Unlike three or four decades ago, however, there is
no really organised left in Europe, like there used to be during the Cold War, so it's unclear how
these popular movements would go, what direction they would go, how they would channel their
frustration politically and what that would lead to in terms of elections.

But it's quite clear that this is going to be an extremely unstable period for governments.

ALI MOORE: Of course, we've also, as we just saw in that earlier report, had demonstrations, this
Occupy Wall Street group in the US that is now spreading across the country.

In about half an hour's time we get the latest official job numbers in the US. What's your reading
of America right now and whether or not it can avoid slipping back into recession?

KEN COURTIS: I think Ali that it's almost inevitable that America slip into recession over the next
12 months. What's interesting about this new movement of Occupy Wall Street and other ripplings now
that are occurring across the country, is that up until now the anger has largely been expressed by
the populist right wing through the Tea Party, and this is the beginning of an expression of that
frustration more on the progressive on the left side of America. And it will be interesting to see
how this plays out.

I think the Left has been, on the whole, quite dissatisfied with the Obama Government, thinking
that it hasn't really delivered as much as they thought it would, that it had been pandering too
much to vested interests in the financial sector and elsewhere in the economy.

And so this is going to be a real moment of truth which will partly calibrate how Obama, I think,
plays the election. Is he going to play a sort of a progressive populist approach to the election?

Or is he going to try to sail towards the centre and capture as many independents as he can that

So I think we've entered into a great period of flux in America, like we have in Europe, and crises
of these nature always throw up new politics and new ideas and new people and new challenges and I
think now we've entered into that crucible where the economics, the finance, the politics all come
together and start to melt to throw up something new.

ALI MOORE: And as you say, you believe that recession is really unavoidable over the next 12 months
in the US. Is that even if Obama manages to push through even a part of his jobs package, if he
manages to get it through Congress, is there any lever government can pull, any lever the Central
Bank can pull?

KEN COURTIS: The jobs bill will help certainly. But the downdraft in that economy is very big at
the moment. You've got housing prices continuing to fall, unemployment is stuck, at best, at these
levels, we may get a little bit better numbers when they come out in 30 minutes, but on the whole,
companies are not hiring, companies are trying to cut costs, companies are being very careful about

Consumers are fearful, so they aren't spending, consumers have too much debt so they're trying to
save to pay off their debt. The government's fiscal capacity is very limited. So it's really
difficult to see what the US could do that is strong enough to offset these down pressures in the
short term.

ALI MOORE: You began the interview by talking about the different regions, and of course in the
region you're currently in, in Asia, this sort of caution about the extent to which it can remain
immune to what's going on in Europe and the US. What is your view about the ability, particularly
of China, to maintain, well maintain its growth?

KEN COURTIS: I think you've got your finger on it. I think China is the key to what happens in the
rest of Asia. It's also key to what is going to happen in the world because if China were to crack
here, and I know that there are many out there who think that China is going to have a very hard
landing and if that happened, then we would really be in the soup.

My sense is somewhat different. My sense is that across this region and in China in particular that
there is a lot of capacity in these economies to absorb the coming shocks. The levels of debt,
household debt and government debt are much lower, governments have a capacity to spend as a result
to offset the recession.

Because we've had higher inflation throughout the region, central banks have taken interest rates
up quite a bit, so they now have the ability to cut interest rates to relax those pressures quite
substantially through the months ahead as pressures build.

Also Asia has been very pre-emptive in a sense in many countries, although there are exceptions,
with trying now to squeeze out the excesses in the residential real estate sector, some excess
leverage in some of the corporate sector, some of the banking leverage problems. They're working on
those now so that if we have a real downturn in the world economy, they're in a stronger position,
six, nine, 12 months from now than they are now to absorb that.

I think the big strategy in China, the focus is to be the last man standing and to try to manoeuvre
through this. And Ali, if we look at China's record, although it's a complex society, a complex
culture, complex politics, the Chinese have a pretty good record over the last 30, 35 years of
managing this economy through good times and bad times. And I think they have a lot of levers they
can pull, in a sense more levers they have to pull because the state is more in control of that
economy than elsewhere, and also they sort of can use political measures in a way that we can't
always use them in the west.

So I'm fairly confident. I'm not one of those who thinks China is going to crash. I think China's
going to come down here, have a soft landing.

I think by next summer, unless something goes dramatically wrong in the world economy, China will
have largely released the squeeze that it's got on its economy now to try to make it stronger and
better prepared for the future, and it will start to turn up again by next summer.

So I'm fairly positive on my outlook for China. And as a result that makes me quite positive for
the region, although cautious.

ALI MOORE: Positive also, I guess, for Australia because of course we depend so much on China.

We're almost out of time but I do have to ask you a very specific Australian question and that is I
understand 10 years ago you were asked to forecast the Australian dollar over the decade ahead.

Now back then the Aussie dollar was sitting at around 52 US cents and you forecast parity within 10
years. Of course it's come to pass. We're no longer at parity, a bit below, but where do you see
the Aussie currency, which is so important for our manufacturing industry, where do you see it

KEN COURTIS: Short term, I could, like over the next months I could see it coming down lower than
it is now. It's 96, 7, 8 against the US dollar at the moment. I could see it coming back to 90, 88
against the US dollar.

But midterm, Ali, if I'm right about China, if I'm right about the rest of Asia, I think the demand
for things that Australia produces will remain strong, that exports from Australia will remain
strong and there will be up pressure on the Australian dollar over the midterm.

So over this decade I wouldn't be surprised to see the Australian dollar eventually peak out at
US$1.20, US$1.25. And then I think we enter into a period that is beyond the range of forecast so
we will look at that in another 10 years.

ALI MOORE: Well, you got it right last time.

Ken Courtis, thank you so much for all your time and your thoughts this evening.

KEN COURTIS: Thank you.