September 13, 2013
Following Barroso’s State of the EU speech, we thought it useful to reflect on the true state of the EU. Nigel Farage’s recent tirade slamming “Communist” Barroso’s pro-bureaucrat policies are poignant as he exclaims the “disaster” that the EU has become for the poor and unemployed. To further color this rant we note Charles Gavekal’s recent note on why Europe’s still broken as worthless IOUs are ‘transferred’ around the union and “no one really knows who is going to take the final loss.” Perhaps it is The Hamiltonian’s summary of the structural problem (an interlocking set of European political, bureaucratic, media, academic and financial elites) and the sad fact that history suggests a crisis deferred is a crisis magnified.
The first few minutes of Farage’s speech focus on the real-world problems that his peers “are in denial” over… (the rest is global warming related)
But to provide more specific reasons for why Europe’s still broken, here is Charles Gave (of Gavekal Research),
The interesting thing is that the median cost of capital across the eurozone has not changed significantly during the crisis period; what has shifted is the dispersion around that median. And the countries which are on the wrong side of the spread have seen interest rates remain above their economies’ structural growth rates. The result is a massive deleveraging of the private sector, offset by a huge increase in state spending in the likes of France, Italy, and Spain, etc. The logic of the system is inherently at odds with the budgetary stipulations set within the Maastricht criteria. Hence, so long as interest rates are set way above the growth rate, “austerity” must fail miserably.
This system is inexorably causing the destruction of the industrial bases in Italy, France, Spain and the others. The lost revenues from productive activity is for the moment offset by Germany (together with the likes of Japan, Qatar and Saudi Arabia) accumulating financial assets issued by the governments of those nations that face slow strangulation. It can’t last.
A while ago, I argued that Germans might as well load much of their auto exports headed to eurozone countries on to a boat and sink it outside of Hamburg. It would do as much good as selling Audis in exchange for IOUs issued by bankrupt countries. But no problem—now those IOUs are held by the European Central Bank as shown by the still high Target 2 balances. Of course, what this really means is that no one really knows who is going to take the final loss and so the game continues (and this is the difference with a gold standard where cycles end with a simple depletion of the gold inventory).
The end game will come when sovereign nations inside and outside Europe stop accepting this rotten paper. This denouement will ultimately be a political decision which is hardly my area of confidence.
What I would say to those tempted by Europe’s “attractively valued” markets, is look elsewhere…
and From The Hamiltonian, Europe – Crisis Deferred Is Crisis Magnified,
In the current period of surface calm in [Europe] it is more necessary than ever to point out the structural phenomena which mean that a crisis is bound to re-emerge.
The structural problem… is an interlocking set of European political, bureaucratic, media, academic and financial elites. King said there are four possible resolutions to the crisis.
- One is continued mass unemployment in the cads in order to produce deflation;
- the second is inflation in Germany;
- the third is giving up on adjustment and instituting a perpetual transfer union (and, implicitly, German rule);
- the fourth is a change in euro area membership.
King, although he was not explicit, seemed to have grave doubts about the feasibility of the first three possible solutions (he would no doubt also rightly have major worries about the possible financial implications of the fourth possibility; but if nothing else is feasible, the authorities should be planning to mitigate the financial consequences of that possibility – but that would mean admitting that entering into monetary union pre-programmed some sort of financial crisis, something the progenitors of monetary union, and even some of their successors, will never admit).
Ponzi games are sometimes excused, or even lauded, on the grounds that a crisis deferred is a crisis resolved. Sadly, history suggests that crisis deferred is a crisis magnified. Can one justify the creditstimulation ambition on the slightly more respectable argue that time is being bought? Well, one might – if it were clear what exactly the time being bought was expected to produce and if the price at which time is bought were specified. The second condition has never as far as we are, been fulfilled. What about the first condition? Two main possibilities are mooted by the proponents of buying time. One is that underlying structural improvement in the cads will allow structural adjustment without a need for deflation. The second is that the passage of time will allow the third of the possible resolutions outlined by King – a perpetual transfer union – to become more feasible politically. And of course the two arguments are linked: the greater an improvement in the structural performance of the cads, it is claimed (though often sotto voce), the more likely it will be that Germany will accept a transfer union and the more likely it is that cad societies, having already by hypothesis become more “Germanic”, will be able to accept the imposition of German rules (and, in effect, German rule) in return.
Barroso’s comments last night, in which he claimed that any “rowing back” from “Europe” would re-create conditions like those which led to the First World War, are not just ludicrously wrong – wrong by 180 degrees – but frankly obscene.
But apart from that, PMIs tell us all is well, right? (well, no!)
This article was posted: Friday, September 13, 2013 at 4:32 am