The European financial system is financially unsustainable, for reasons I have explained before, and reasons which were enunciated at the very start of the Euro project. Without deep, palpable reforms, all “victories” (or partial victories) are just another kick of the can down the road. The route to bedlam is interesting (and contrary to this chart, pock-marked with black swans) but the destination is the key: Europe must choose between meltdown and full fiscal integration. Neither choice is particularly appetising.
As I’ve covered in pretty excruciating depth these past few weeks, the Euro in its current form is sliding unrelentingly into the grave.
Some traders seem pretty excited about that eventuality.
Why? There’s plenty of money to be made killing the Euro, (just like there was plenty of money to be made in naked-shorting Lehman brothers to death):
Markets are ruled right now by fear. Investors: the big money, the smart money, the big funds, the hedge funds, the institutions, they don’t buy this rescue plan. They know the market is toast. They know the stock market is finished, the euro, as far as the Euro is concerned they don’t really care. They’re moving their money away to safer assets like Treasury bonds, 30-year bonds and the US dollar.
I would say this to everybody who’s watching this. This economic crisis is like a cancer. If you just wait and wait thinking this is going to go away, just like a cancer it’s going to grow and it’s going to be too late.
This is not a time to wishfully think the governments are going to sort this out. The governments don’t rule the world. Goldman Sachs rules the world. Goldman Sachs does not care about this rescue package, neither do the big funds.
A few points:
“They’re moving their money to safer assets like Treasury bonds, 30-year bonds and the US dollar.”
Safer assets like the US dollar? Sure, that’s what the textbooks tell you has been the safest asset in the post-war era. But are they really safe assets? On dollars, interest rates are next to zero. This means that any inflation results in negative real rates, killing purchasing power. Let’s have a look at the yields on those “super-safe” 30-year bonds:
At 2.87%, and with inflation sitting above 3.5% these are experiencing a net loss in purchasing power, too. Yes, it’s better than losing (at least) half your purchasing power on Greek sovereign debt, or watching as equities tank. But with the virtual guarantee that stagnant stock markets will usher in a new tsunami of QE cash (or better still, excess reserves) expect inflation, further crushing purchasing power.”
“The governments don’t rule the world. Goldman Sachs rules the world. Goldman Sachs does not care about this rescue package, neither do the big funds.”
Well Goldman Sachs are the ones who convinced half the market to price in QE3. And they’re also making big noise demanding action in the Eurozone. I’m not denying Goldman don’t have massive power — or that they are ready and willing to book massive profits on Eurozone collapse. But — like everything in this crooked and corrupt system — they are vulnerable to liquidity crises triggered by the cascade of defaults that both myself and Tim Geithner (of all people) have talked about over the past week.
Of course, we all know that as soon as that tidal wave of defaults start, global “financial stabilisation” packages will flood the market to save Goldman and J.P. Morgan, and anything else deemed to be “infrastructurally important”, and survivors will take their pick of M&A from the collateral damage.
And kicking the can down the road using the same policy tools that Bernanke has been using for the past three years (i.e., forcing rates lower and-or forcing inflation higher) will result in harsher negative real rates — making treasuries into an even worse investment. Eventually (i.e., soon) the institutional investors — and more importantly (because their holdings are larger) the sovereign investors — will realise that their capital is rotting and panic. In fact, there is a great deal of evidence that China in particular is quietly panicking now. The only weapon Bernanke has is devaluation (in its many forms) — which is why he has been so vocal in asking for stimulus from the fiscal side.
I am sure the Euro will oblige us to introduce a new set of economic policy instruments. It is politically impossible to propose that now. But some day there will be a crisis and new instruments will be created.
— Romano Prodi, EU Commission President, December 2001
So the intent for Europe was always that a future crisis would bring about the justification for a resolution to European financial disharmony — namely, that while countries in the Euro control their own budgets, they don’t control their own currency. This mismatch means that with countries pulling in different directions, the European Central Bank is posed with an unmanageable task — create one policy to fit a group of very different economies. At the time of the Euro’s creation, Europe adopted a cross-that-bridge-when-we-come-to-it approach: a crisis would produce the circumstances required to justify unifying fiscal policy, a policy that at the time of the Euro’s introduction seemed unnecessary (and now is deeply unpopular).
But what if disharmony — both in terms of the forces producing the crisis, and disagreement over how to handle the problems — has created such a huge turmoil that instead of crossing the bridge, Europe falls into the water beneath?
KARLSRUHE, Germany (Dow Jones)–Germany’s Federal Constitutional Court Wednesday ruled that the euro-zone’s 2010 bailout for Greece and subsequent aid granted through the currency bloc’s rescue fund is legal, eliminating a major hurdle to the sovereign debt crisis response that’s been closely watched by financial markets.
The constitutional court in Karlsruhe also ruled that Germany’s Parliament should have more say in major future euro-zone bailouts, but these would only need approval from the parliament’s budget committee. This requirement is less strict than some proposals circulated by key government lawmakers that call for the plenary’s approval, a move that could stall the pace of future bailout efforts by giving more lawmakers influence to sway the decision process.
The euro is dying a slow death. Political leaders are unlikely to take the steps necessary to address the underlying factors creating the current euro crisis, and the eurozone will eventually break up as a result.
To highlight the severity of the euro crisis, one only needs to glance at credit default swap (CDS) spreads for the peripheral euro area countries. CDS is a form of insurance against default or restructuring. The higher the CDS spread, the more likely investors think a sovereign default is.
In the first week of June, five-year CDS spreads for Greece were a whopping 1495 basis points, for Portugal 708, for Ireland 650 and for Spain 255. This compares with only around 200 for Iceland, a country that underwent a private default only two and a half years ago. Continue reading →
German Chancellor Angela Merkel attempted to shut the door on common euro-area bonds as a means to solve the debt crisis, saying that she won’t let financial markets dictate policy.
Joint euro bonds would require European Union treaty changes that would “take years” and might run afoul of Germany’s constitution, Merkel said. While common borrowing might arrive at some point in the “distant future,” bringing in euro bonds at this time would further undermine economic stability and so they “are not the answer right now.”
“At this time — we’re in a dramatic crisis — euro bonds are precisely the wrong answer,” Merkel said in an interview with ZDF television in Berlin yesterday. “They lead us into a debt union, not a stability union. Each country has to take its own steps to reduce its debt.”
azizonomics 