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Europe: Bloom Already Off The Rose

The half life of European debt fixes keeps dropping.  Back in the good old days earlier this year, European leaders could announce a definitive new settlement for their long running financial crisis and have three, maybe four days of decent market response before markets processed all the reasons why the fix was a fudge rather than a solution.  These days the markets, repeatedly abused and increasingly skeptical, are faster to write off new EU announcements and discount EU claims that this time, the leaders have agreed on something real. Now Europe gets a one day rally on a big summit ‘breakthrough’; if this trend keeps up, by the end of the year the ‘relief rallies’ will not last as long as the press conference announcing the new package.

There were two bad pieces of news this morning that seemed to kill Europe’s momentum.  The first was that the yields on Italian bonds are back up over six percent.  At that interest rate, many believe that Italy cannot continue to support its enormous national debt; if these numbers stick it is an unmistakable sign that the latest fix is a flop.  Italy is the heart of the matter now; Europe is as strong as Silvio Berlusconi’s commitment to serious economic reform.  You be the judge.

The second blow to confidence was the announcement by Fitch, one of the major credit agencies, that a 50 percent cut in the face value of Greek bonds would, indeed, constitute a default. Unfortunately, the debt reduction would not be enough to guarantee that Greece could pay the debt that remained; Fitch suggests that Greek’s credit rating will drop even farther with the new plan.

Already the Europeans are back where they were in July when they announced the last big plan: the markets are saying the new plan can’t work even before they’ve gotten all the details worked out much less gotten everyone to sign up.  We will now watch the Europeans struggle for weeks and quite possibly months to get agreements on a plan that doesn’t solve the problem.

Fortunately, Europe isn’t the only thing going on in the world economy.  The signs that the US economy is beginning to recover continue to proliferate.  That could all change with another huge crisis in Europe, and the news that US savings rates are falling as consumers pull money out of the bank to cover a shortfall in their incomes is not cheery.  But downturns are no more eternal than booms, and at some point the natural tendency of the economy to recover will overcome the bad news.

When that turning point comes, it likely will not be because leaders in Europe or elsewhere have come up with fantastic new policies that solve all our problems.  It will be because the economic cycle is turning, and those famous animal spirits of the entrepreneurs are back in business.  Europe’s leaders at the end of the day don’t have to raise the economy from the dead; they just have to not kill the patient while nature takes its course.

I don’t know when the turning point will come; if I did this would be, deservedly, the world’s most popular site for investment advice and I would be rich, rich, rich.  But as someone who looks at the development of the liberal capitalist order worldwide, I do know that 350 years of financial meltdowns and economic downturns have not stopped the development of that system — or ended the role of the English speaking world at the core of that system.  So far, it looks as if this time is not different; the bad times will end, and the US economy will remain on the cutting edge of innovation and change.

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  • Corlyss

    I listened incredulous to Charles Dallara last night on Kudlow, who copped the first interview with the deal broker. After he talked soothingly about the 50% haircut he’d worked out with the relevant parties, including the CEOs, he then talked about the “tough work” the Europeans had to do revising unions’ contracts, pension guarantees, and job security; loosening labor markets; freeing up capital for growth. I felt like the kid looking at the nekkid emperor. Regrettably, that’s the essence of the problem in Europe. Economists have been urging Europe to de-ossify for decades to promote growth. In good times they weren’t listening. How much more difficult will it be to get them to listen in hard times when the last thing any of them want is violence and unrest from the usually docile herd? What encouragement do people like Dallara see in the violent riots in Greece, Spain, Italy, and England? Just curious.

  • KJ Marks

    I’m surprised that you see evidence that the US Economy is starting to recover. There has been no meaningful change in consumer outlook, nor in the number of people either unemployed, under employed or just not looking for work (which, as I understand, stands at about 20% of the working age population), and the business suffocating regulations continue to pile up; and the regulatory and tax outlook uncertainty shows no sign of abating thanks to Obama’s hatred of business and the “millionairs and billionairs” that produce the wealth.

    What exactly would be the impetus for a recovery, I wonder?

  • Jacksonian Libertarian

    There is a reason why it’s called Capitalism, as Capital is what fuels the economy. When the Government Monopoly is siphoning over a Trillion dollars a year from the fuel tank of job creating investment capital ($1.3 Trillion at just the Federal level, nearly 10% of the $14T GDP), any signs of economic improvement are false, and will be revised at a later date. Welcome to Great Depression 2.0 where the next bear market rally is just around the corner.

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