Author: Niraj Chokshi

Tax dodging in Greece is so rampant that the Bank of Greece estimates the country could be losing as much as five billion euros a year. While that’s a far cry from the €54 billion needed for 2010, it could result in much harsher cuts as the country tries to get out from under its crushing debts.

That lost tax money would have nullified the need for Greece’s planned 10-year bond issue, which is expected to raise up to €5 billion, or a set of new austerity measures to cut €2.5 billion, which the government will discuss this week with European Union and International Monetary Fund officials.

Despite decent annual economic growth, Greece was receiving less in tax revenue than its EU peers. As Bloomberg
reported last week:

Greece’s revenue from income tax was 4.7 percent of GDP in 2007,
compared with an EU average of 8 percent, EU statistics show. Tax
revenue fell by 2.5 percentage points of GDP between 2000 and 2007 to a
euro region-low of 32 percent even as economic growth averaged 4.1
percent a year.

Greece’s tax collectors seem unperturbed by their underperformance: They went on strike last week to protest the government’s austerity measures.

Anecdotes suggest that the evasion may be even worse. An anonymous Greek banker wrote in a blogged-about note:

On the official statistics alone, we are comfortably in the world’s top
40 for per capita GDP. But that’s peanuts. Lest we forget, that’s our
declared income. Don’t quote me on this apocryphal statistic, but I’m
reliably informed that exactly six Greeks declared more than a million
EUR in income last time anybody counted. And exactly 85 declared more
than half a million. So we’re probably a bit better than top 40.

Either that, or this trading floor alone has more rich people than
Greece. Hell, our new recruits for this season alone could probably do
it. If you have any doubts about Greek wealth, check out on Bloomberg
the balance sheet of the National Bank of Greece, Eurobank, Alphabank
and Piraeus bank, the top four. The four of them alone command EUR 164
billion in deposits! Slightly misleading, since they all have operations
in the Balkans, but that’s almost one GDP, lying in deposits!!! More to
the point, how many Greeks do you know who keep their money in Greece?
That’s merely our spending money, it’s a small fraction of our savings
and assets.

The anonymous banker also notes that since much of Greece’s debt is in foreign hands, a default could be more painful for the world at large — especially EU counterparts like Italy who are also facing massive deficits — than for Greeks who have untaxed funds stashed away in foreign denominations.

More immediately, the government’s longstanding failure to collect taxes may make it harder for Prime Minister George Papandreou to meet the key EU demand of significant spending cuts. Budget cuts are a hard pill to swallow, while another remedy exists. Again, Bloomberg:

“What distinguishes Greece from the rest of the pack is the extent of tax evasion,” said Michael Massourakis, chief economist at Athens-based Alpha Bank, the country’s third biggest-lender, in a Feb. 5 telephone interview. “If you don’t attack tax evasion you don’t have the moral authority to cut spending.”

Would stronger collection efforts in the past have prevented the current widespread strikes over new budget cuts? Probably not. But, it would make the argument for austerity more palatable. Of course, increased tax enforcement in the past would have constituted a political hit.

The tax issue won’t just impact the political will of the Greek public, it could also make an outside bailout difficult. Whoever saves Greece from its debt crisis will be rescuing a government, not necessarily its people or businesses. As the anonymous banker put it: “Greek companies will be just fine, basically. It’s the government that is the joke here, not the country!”

Several items this week highlighted Apple’s obsessive focus on secrecy, from hiding iPad-related shipping data to refusing to release the racial and gender makeup of its workforce. While the strategy has obviously paid off so far, is Apple’s secrecy savvy, or pathological?

We saw reports this week on Apple’s success at concealing iPad shipping data, and the extent to which a supplier goes to keep trade secrets and employees within its Chinese supplier’s “walled city.” Apple, along with four other tech giants, also convinced regulators to deny The Mercury News‘ request for diversity data because it could cause “commercial harm.”

The company’s desire to hide its shipping data supposedly stems from the media reports that accurately predicted the arrival of the iPhone 3G thanks to customs data and a lot of educated reasoning. But the available customs data was hardly revealing — it described the cargo as “electric computers.” That might be useful in conjunction with other reports of Apple’s plans, but on its own it reveals little. The customs data does include manufacturer sources for the shipments, but it’s no secret that one of its major suppliers is Foxconn, which is the preeminent global supplier of electronics and computer components.

Secrecy certainly can have some ugly real-world consequences. Last July, a Foxconn employee killed himself shortly after losing an iPhone
prototype and recently a Reuters reporter was assaulted while
photographing Foxconn’s Chinese plant from the street. A guard kicked
him in the leg, the police were called, and the reporter was allowed to
leave, but such incidents can easily turn into public relations nightmares.

On Thursday, TechCrunch’s Michael Arrington suggested that it might be time for a boycott of Foxconn and its customers.

Maybe it’s time we started to hold those companies that do business
with Foxconn – Apple, Sony, HP, Amazon, Nokia, Motorola, Nintendo,
Microsoft, Dell, Cisco and other, responsible. By not buying products
produced by Foxconn. Because next time someone (else) may end up dead
after an interaction with Foxconn.

In the case of the San Jose Mercury News‘ attempt to flush out diversity data, Apple’s knee-jerk instinct for secrecy seems particularly pointless, and this time it was joined by Silicon Valley peers Google, Yahoo, Oracle and Applied
Materials. Concealing the racial and gender breakdown of employees is doesn’t increase demand for the next must-have iPad. It’s just an unusually clumsy blunder in the public relations battle that Apple is intent on fighting on its own terms.

Goldman Sachs may have helped Greece use a loophole to hide some of its debt from the European Union. But who is really at fault for the country’s financial crisis?

According to Der Spiegel and the The New York Times, Goldman acted as the middle man in a currency swap — where debt in one currency is exchanged for an equal amount in another. This swap was different, though. Goldman used a fabricated exchange rate so Greece would get extra money upfront, but pay the difference later, basically making the swap a loan.

Felix Salmon, referring to a 2003 article in the trade publication Risk by Nick Dunbar, sums it up well:

Goldman is sending Greece a steady stream of payments over the course of the deal, and then being repaid with a big balloon payment at the end. Essentially, Goldman is continually lending Greece money, and getting no interest payments in return, until maturity a long way out.

Salmon convincingly argues why Goldman isn’t at fault, but he could have gone even further and defended Greece as well. There are three questions essential to figuring out whether anyone beyond the regulators is to blame: (1) what was the law when Greece engaged in the currency swaps? (2) did Greece violate the letter of the law? and (3) did Greece violate the spirit of the law?

Eurostat spokesman Johan Wullt told Bloomberg that “Eurostat was not until recently aware of this alleged currency swap transaction made by Greece,” but the question is should they have been notified? The Risk provides an answer, though it is a complicated one: Regulators wanted to count currency swaps as financial transactions worth their current market value. But countries lobbied against that so they could use such transactions to adjust their deficits. Ultimately, the member states won out.

The bottom line is this: Thanks to some successful lobbying, Eurostat specifically let countries use currency swaps to adjust their deficits. Dunbar cites the relevant portion of ESA95 — the European System of National and Regional Accounts, drafted in 1995 — showing that the law specifically excluded swaps from being counted towards a country’s deficit. So, it seems, Greece did nothing illegal. Greek Finance Minister George Papaconstantinou made that argument yesterday, according to Bloomberg, saying that the swaps were “at the time legal.”

If Greece didn’t violate the letter of the law, did they at least violate its spirit? The spirit of the law was, broadly, to outline what constitutes debt and how that should be reported. If Dunbar’s 2003 reporting was accurate, then the law explicitly allowed for such swaps. If the EU ok’d currency swaps (and Greek Finance Minister George Papaconstantinou is telling the truth that his country only engaged in their use while they were allowed), then it becomes very difficult to argue that Greece even violated the spirit of the law.

Of course, forthcoming investigations may reveal some or all of these facts to be false, but as long as the law allowed for the swaps and Greece used swaps while they were legal, the only ones to blame are the regulators.

This afternoon Google unveiled a new social feature called Buzz. Some predicted it would be a Twitter-killer, but Facebook seems to be the company Google is gunning for.

Buzz should be familiar to users of either social media service: Paste a link in a box
and the link’s content — photos, videos, headlines, etc. — pop up and
can be shared publicly or privately. It integrates with Picasa, Flickr,
Twitter and YouTube, but not Facebook. Other users can read, comment and mark content as something they “like.” It also offers location-awareness, which could make it a Foursquare-killer, too. (For more about Buzz, see the demo video below or visit Google’s Buzz site.)

What role does Google hope to occupy in the social media ecosystem? Does the search giant want to coexist with or
obliterate existing services? The mixed answer is apparent in how Buzz functions: it plays nice with
Twitter, but doesn’t interact with
Facebook at all.

Facebook stands to lose users to Buzz, because of Google’s traditional strengths and massive scale.

Buzz offers what Google does best: search.

Even as Facebook has become one of the largest drivers of traffic to Web sites, users have no way to search the stream of
content their friends are sharing, which has helped make the
Facebook “News Feed” experience somewhat overwhelming. Throughout the Buzz press conference, Google employees
repeatedly stressed how the feature will increase the signal-to-noise ratio,
exposing users to more relevant, interesting content. Buzz will
recommend posts from like-minded people you may not be exposed to otherwise —
someone you don’t know, but who shares multiple friends or interests
with you. If you don’t like it, click a button and Buzz will try to
learn.

Google also benefits from is its large existing user base. Many people already use Gmail and Google Reader, which has a
sharing feature of its own that will no doubt be integrated into Buzz.
As Buzz grows, users already ensnared in Google’s Web may find less need to use Facebook. That user trend
towards centralization also explains why Facebook is allegedly
developing its own e-mail service.

Google, of course, has struggled to grab a big share of the social Web in the past, so there’s no guarantee that Buzz will succeed. But, unlike Google’s past efforts, this foray into social comes not as a standalone product, but as part of one already widely used: Gmail. That, coupled with Buzz’s similarities to Facebook, might help Google quickly pick up a big chunk of the market.

Here’s Google’s official introduction to Buzz:

Only two things stand in the way of President Obama’s new bank tax: Warren Buffett and the Constitution. But even if it’s enacted, BernsteinResearch has come up with four ways for banks to avoid about a third of the tax, saving billions over the next decade. Here they are:

Using Goldman Sachs and Morgan Stanley as examples, BernsteinResearch calculated the firms would each pay somewhere
between $10 to $14.4 billion over the lifespan of the tax ($1 billion
to $1.2 billion annually for 10 to 12 years). Analysts Brad Hintz, Luke Montgomery and Vincent Curotto predict that the banks will take four steps to save about 30 percent of the total:

1) Raise Short-term Funds Differently. The new 0.15 percent tax
applies only to certain liabilities. Right now, banks raise short-term funds via loans and floating-rate notes in the commercial paper market, which are subject to the new tax. But banks may be able to shift instead to wholesale brokered deposits
(deposits which are then sold to third parties) sold by their money market desks, paying a fee to the FDIC equal to roughly half of the fee imposed by the new tax. By making this switch, banks would avoid 3 to 4 percent of the new tax.

2) Reduce Repos. A repurchase agreement is a short-term cash loan in which the collateral is a financial
security. A dealer sells an investor a government security for cash, and agrees to buy it back the following day. The difference between the buying and selling price is the interest cost — but this spread probably isn’t worth it when you factor in a 0.15 percent tax. The analysts argue that banks will be motivated to cut back on these repos, avoiding 10 to
11 percent of the new tax.

3) Pass It Onto The Hedge Funds. This one’s simple. Banks lend money to hedge funds. Pass some of the cost of the tax onto hedge funds by charging higher rates on domestic margin loans. Save 3 to 4 percent.

4) Reduce Rainy-Day Reserves. Banks keep some of their money tied up in liquidity cushions — rainy-day reserves that they can quickly cash. If they reduce the size of these, the reports authors say 8 percent of the tax could be offset.

With the possible exception of the “stick it to the hedge funds” plan, all of these bank tax strategies could cause problems elsewhere in the economy. Numbers one and two could have negative consequences for the commercial paper market (which companies rely on to finance their daily activities) and the trading of government securities. Number four raises the scary proposition that a bank tax intended to discourage risk could actually spur banks to draw down their reserves.

“It’s going [to] encourage people to reduce liquidity to reduce the
fee. And that’s not a very good thing to do in early phases of a
fragile economic recovery,” Bank of New York Mellon Corp.’s Chairman and Chief Executive Officer Robert P. Kelly said in an earnings call Wednesday morning. “If our competitors in Europe don’t have to pay the fee and we’re trying to raise deposits in Europe, it’s very expensive and we are uncompetitive. Global playing field is extremely important in our industry.”

Will the solution to the last financial crisis cause the next in a wave of sovereign debt defaults? Economist Nouriel Roubini and the World Economic Forum are the latest to sound the alarm.

Over the last two years developed countries kept their economies afloat with a flood of borrowed money. Now investors are getting nervous about sovereign debt levels, forcing some nations to make a painful choice: stop borrowing, cut spending or raise taxes — or craft some combination of the three.

Roubini and co-author Arpitha Bykere write in Forbes:

In 2009, downgrades and debt auction failures in countries like the UK, Greece, Ireland and Spain were a stark reminder that unless advanced economies begin to put their fiscal houses in order, investors and rating agencies will likely turn from friends to foes.

And in its Global Risks 2010 report, ahead of the annual meeting in Davos later this month, the WEF also notes:

In response to the financial crisis, many countries are at risk of overextending unsustainable levels of debt, which, in turn, will exert strong upwards pressures on real interest rates.

Greece may be the biggest trouble spot in the near term, if credit default swaps are any indicator. The Financial Times notes that Greek CDS now indicate a higher probability of a default in the short-term than in the longer term — a reversal from a week ago — following comments by the European Central Bank President that the country won’t be getting any special treatment.

To fight a recession, you have to spend and loosen monetary policy. To fight investor fears, you have to save and tighten monetary policy. What happens if you try to accomplish both? BusinessWeek reports:

Strikes are planned in Greece, laborers in Spain have balked at lower jobless benefits, and Irish workers have taken to the streets to protest the cutbacks.

One solution is gradual tax hikes as soon as 2011, Roubini argues. Another is painful spending cuts, as George Magnus, a Senior Economic Adviser at UBS Investment Bank, wrote yesterday in The Financial Times. Governments, he argued:

should raise the pensionable age, tackle public sector pension arrangements, and blaze a trail towards higher labour force participation and phased retirement patterns.