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Monday, October 20, 2014 4:23 PM

M&A Deals Fail At Highest Rate Since 2008

In yet another potential market topping sign, M&A Deals Fail At Highest Rate Since 2008

The value of deals that fail to complete has reached its highest level since 2008, in the latest sign that the best year for mergers and acquisitions since the financial crisis will also feature a number of high-profile failures.

Three large deals collapsed last week, adding to the list of wrecked deals and coinciding with a sharp jump in equity market volatility that sapped confidence in stocks and put a chill on the market for initial public offerings.

The biggest blow to dealmaking prospects came as US pharmaceutical group AbbVie unexpectedly dropped its support for a $55bn takeover of UK rival Shire. The sudden U-turn has undermined the prevailing belief among bankers that a US Treasury crackdown on deals that allow US companies to lower their tax obligations by moving abroad would have little impact.

So-called tax inversions have featured prominently in this year’s resurgent M&A market accounting for at least a dozen deals. But the chances of Pfizer, the US pharma company, reviving its $120bn pursuit of the UK’s AstraZeneca have been greatly diminished as a result of AbbVie’s decision, several people close to the situation recently told the Financial Times, casting doubt on the year’s biggest withdrawn deal returning.

A total of $573bn worth of deals have been withdrawn, setting this year up to surpass the $640bn in deals that went uncompleted in 2008, according to Dealogic.

Bruce Embley, partner at Freshfields, said: “It’s slightly unusual to have an M&A cliff coming without also seeing an adverse impact on equity capital markets. So I wonder if we look back on this moment as an anomaly or whether it is the start of something more volatile.”
Deals Withdrawn or Doubtful

Mike "Mish" Shedlock

1:26 PM

Eurozone Rotting to the Core; Four Possibilities; Beyond the Math

On October 6, I noted German Factory Orders Slump 5.7%, Most Since January 2009.

The previous month was up 4.9%, so I averaged the two months noting "The average result is a decline of 0.4% per month, for the last two months. That process also means four consecutive months of decline."

German numbers were particularly volatile allegedly due to timing of school holidays, but there is no way to smooth out four consecutive months of decline as anything other than overall weakness.

Germany Slashes Forecasts

On October 14, and as expected in this corner, Germany Slashes its Economic Forecasts.

In stark contrast with the rosy forecasts made just six months ago of 1.8 per cent growth this year and 2 per cent in 2015, the government forecasts gross domestic product to expand 1.2 per cent in 2014 and 1.3 per cent next year.

The data follows last week’s release of dire German factory figures, which stoked fears among top financial officials gathered in Washington for the International Monetary Fund’s annual meeting that economic weaknesses at the heart of the eurozone could undermine the global recovery.

In spite of the growing pessimism, however, Berlin still expects Germany to avoid a recession, defined as two successive quarters of contraction. After a 0.2 per cent decline in the three months to June, Berlin forecasts some growth in the third quarter, contrary to the forecasts made by some bank economists.
German Manufacturers Cut Jobs

A recession in Germany is a given, but when? Its export model has held up better than I expected given a clear slowdown in the global economy.

Today, we have another sign a German recession will come sooner rather than later: German Companies Tread Unfamiliar Territory with Job Cuts.
When the flow of containers began to slow at the docks in Duisburg a few months ago, workers at the world’s largest inland port got an early indication that Germany’s export machine had begun to falter.

Container volume at Duisburg, which sits at the confluence of the Rhine and Ruhr rivers, is still expected to grow strongly this year. But the outlook for the docks – as with the rest of German business – is suddenly looking less certain.

German exports tumbled 5.8 per cent in August compared with July – the biggest drop since the peak of the global financial crisis in January 2009. The economy now risks slipping into recession in the third quarter, and the government has already lowered its growth forecasts for 2014 and 2015.

Indeed, with Chinese demand slowing, Russian orders slumping and the eurozone still in the doldrums, some companies have been left with a surfeit of production capacity and workers.

In the meantime, German companies are tightening their belts. Siemens, the engineering conglomerate, is poised to cut jobs at its German energy division due to a slump in European demand for its large gas turbines. The company would not confirm a German radio report that 1,200 jobs are at risk, out of a total of 118,000 in Germany.

Volkswagen, Europe’s biggest carmaker by sales, announced a €5bn annual cost-savings drive in July which may include a reduction in the use of temporary staff, its chief executive Martin Winterkorn, has said.

Rainer Hundsdörfer, chief executive of EBM Papst, a family-owned manufacturer of industrial fans, said it was “important not to be too pessimistic” because he believed Germany was experiencing a temporary lull and not “on the cusp of another crisis”.
Over-Reliance On Exports

Wolfgang Münchau writes Germany’s Weak Point is Reliance on Exports.
One of the biggest misconceptions about the eurozone has been a belief in the innate strength of Germany – the idea that competitiveness reforms have transformed a laggard into a leader. This is nonsense. The German model relies on the presence of an unsustainable investment boom in other parts of the world. That boom is now over in China, in most of the emerging markets, in Russia certainly. What we saw last week is what happens once the world returns to economic balance: Germany reverts to lower economic growth.

Previously, the main characteristic of the eurozone had been strong growth in the core that partially offset contraction in the periphery. Now both the core and the periphery are weak. And policy is not responding sufficiently. Add the two together and it is not hard to conclude that secular stagnation is not so much a danger as the most probable scenario.
Beyond the Math

I agree with Münchau on stagnation (actually, I think recession is a given and another eurozone crisis will follow). However, and is typically the case, I strongly disagree with Münchau regarding what to do about it.

It's a mathematical certainty that every country cannot have a trade surplus. Yet every country want's to export its way out of the mess. Germany in particular wants every country to be more like Germany.

It's mathematically impossible for other countries in the eurozone to become more like Germany unless Germany becomes less like Germany.

Math Not the Problem

It's safe to assume Münchau would agree on trade surplus math. But math isn't the problem.

France is an economic basket case because of inane socialistic policies, work rules, farm rules, and business restrictions in general. Italy is in a similar situation, but with an even more tangled government bureaucracy coupled with a monstrous debt-to-GDP ratio.

Both France and Italy want more exemptions from budget rules and more time to meet deficit targets. But more government spending can hardly be the answer. Government spending already accounts for about 57% of French GDP. France is in desperate need of less, not more government spending.

Reform alone is insufficient. The euro is fundamentally and fatally flawed.

Four Eurozone Possibilities

  1. Somewhere along the line, Greece, Italy, or France, is going to have enough of recession and stagnation and leave the euro in a disorderly eurozone breakup.
  2. Germany and the Northern European states need to bail out the rest of Europe.
  3. Germany can leave the eurozone in an orderly eurozone breakup.
  4. Decades of stagnation if the nannycrats succeed in keeping the eurozone intact.

Option two sounds nice but is fatally flawed. Germany would never agree to bailouts of that nature, and constitutionally couldn't if it wanted to. Besides, Italy and France are too big. Regardless of how unpalatable, there are no other options.

Widening Budget Rules Won't Help

Germany won't agree to modifying budget deficit rules, and even if it did, what good would it do?

The problem with Europe is not budget rules or too little government spending. Rather, the problem is too much government  and inane work rules on top of a structurally flawed euro.

Structural problems led to massive trade distortions and other imbalances within the eurozone, compounding the already serious productivity issues.

The eurozone experiment failed. The best option now is an orderly breakup. I believe Münchau knows that, but refuses to admit it publicly.

Mike "Mish" Shedlock

Sunday, October 19, 2014 10:33 PM

Challenge to Keynesians "Prove Rising Prices Provide an Overall Economic Benefit"

The ECB has been concerned about falling consumer prices. I propose that's 100% stupid, yet that's the concern.

When the euro declined vs. the US dollar, the ECB was happy that inflation would inch back up. The fear now is that falling oil prices will take away the alleged gain of a falling euro.

With that backdrop, credit the Financial Times for the absurd headline of the week: Eurozone Fails to Benefit from Weak Currency as Oil Price Slides.

Pity the policy makers given the job of rescuing the eurozone from deflation.

The unorthodox steps the European Central Bank has taken since June – including a programme of private-sector asset purchases – have caused a steep fall in the euro. The single currency is down 8.4 per cent against the dollar and 4.75 per cent on a trade-weighted basis from its peaks this year.

The weaker exchange rate will ease pressure on the ECB in its fight to raise inflation back to its target of just below 2 per cent. Mario Draghi, the central bank’s president, has said the currency’s earlier strength explains 0.4 percentage points of the fall in inflation since 2012. In that year, prices were growing 2.7 per cent a year.

But just as this depreciation is starting to fuel inflation, the ECB must contend with a fall in oil prices that all but wipes out the effect of a sliding currency. A weaker euro should swiftly raise the cost of imported energy. Instead, Brent crude has fallen 9 per cent in euro terms this month alone. This is the main reason why eurozone inflation fell again in September to 0.3 per cent, a five-year low – a figure confirmed by data on Thursday.

“The drop in oil prices is a problem for the ECB,” says Marco Valli, an economist at UniCredit, adding, however, that the situation would have been far worse without the single currency’s fall.

“The impact on inflation is already visible and significant – if you still had the euro at 1.40 to the dollar, eurozone inflation would probably be zero.”
Pity the Keynesian Fools

Financial Times writers Delphine Strauss and Claire Jones say "pity the policy makers." I say pity the fools who believe the thesis of their article.

There is absolutely no benefit to rising consumer prices. Things are even worse if prices rise but wages don't.

The very essence of rising standard of living is more goods at lower prices thanks to innovation and rising productivity. And there is no reason to believe wages will rise (or keep up with prices) if prices do rise.

Challenge to Keynesians
I challenge Strauss and Jones (or anyone else but especially Keynesians and Monetarists) to prove rising prices provide an overall economic benefit.

Sure, those with first access to money benefit (the banks, the already wealthy, and government bodies via taxation). But that is at the expense of everyone else.

The absurd underlying notion behind the battle cry for inflation is that if prices fall people will stop buying things and the economy will collapse.

Reality Check Questions

  1. If price of food drops will people stop eating?
  2. If the price of gasoline drops will people stop driving?
  3. If price of airline tickets drop will people stop flying?
  4. If the handle on your frying pan falls off or your blow-dryer breaks, will you delay making another purchase because you can get it cheaper next month?
  5. If computers, printers, TVs, and other electronic devices will be cheaper next year, then cheaper again the following year, will people delay purchasing electronic devices as long as prices decline?
  6. If your coat is worn out, are you inclined to wait another year if there are discounts now, but you expect even bigger discounts a year from now?
  7. Will people delay medical procedures in expectation of falling prices?
  8. If deflation theory is accurate, why are there huge lines at stores when prices drop the most?

Bonus Question

If falling prices stop people from buying things, how are any computers, flat screen TVs, monitors, etc., ever sold, in light of the fact that quality improves and prices decline every year?

Deflationary Spiral Nonsense

I have discussed this many times before, most recently in Deflationary Spiral Nonsense; Keynesian Theory vs. Practice; Eurozone Policymakers Concerned About Falling Prices
The idea that falling prices are bad for the economy is ridiculous. Taking out insurance against falling prices is even more absurd.

Ask any consumer if he wants lower gas prices, lower food prices, lower hotel prices, lower computer prices, or lower prices on any consumer items and the answer will be yes.

Keynesian Theory vs. Practice

Keynesian theory says consumers will delay purchases if prices are falling. In practice, all things being equal, it's precisely the opposite.

If consumers think prices are too high, they will wait for bargains. It happens every year at Christmas and all year long on discretionary items not in immediate need.
Asset Deflation vs. Consumer Price Deflation

What central bankers should fear is falling asset prices, more specifically, loans made on assets in an asset bubble.

The irony is central banks create asset inflation by fighting something everyone on the planet should welcome.

Mike "Mish" Shedlock

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