June 24, 2019

Real Life K.O.’s Zorba and His EU Friends

In Nikos Kazanzakis’ Zorba the Greek we see both Kazanzakis’ disdain for capitalists and a description of the Greek ethos which is proving that country’s economic downfall:

“You think too much. That is your trouble. Clever people and grocers, they weigh everything.”

By the European Union’s own reckoning, the euro, its single currency, was the high point of the union:

“Launched in 1999, Europe’s single currency is now shared by 17 EU countries and around 331 million citizens, making it one of the world’s most important currencies and one of the EU’s greatest achievements.”

I cannot think of another achievement, except for mindless regulatory nonsense like dictating the bend permitted in bananas for sale in Europe or ruling that water could not be sold as a means of hydration and the creation of a large overly compensated body of people to promulgate such rules. I view the difficulties now facing the euro as more evidence that the EU itself could have used better organizational rules and restraints from its creation.

Beginning with the obvious insolvency of Greece, the euro as a reliable international currency is now in significant doubt and has been for several months . Still there is no reform proposal on the table. Its future grows increasingly unpredictable as “clever people and grocers” grow ever more skeptical of its continued viability .

Because Zapatero and his socialist government were resoundingly defeated by conservatives at the polls, its prospects might be rosier than they were, but not for a while. The cupboard is bare, having been emptied out on useless “green energy ” projects and social welfare largesse. Its Treasury was forced to cancel a three year auction this week as it was clear that “clever men and grocers” weren’t buying.


Italy is hardly in better shape even though, it too, has gone through a change of government. Valentina Za of Reuters:

Italy paid a record 6.5 percent to borrow money over six months on Friday and its longer-term funding costs soared far above levels seen as sustainable for public finances, raising the pressure on Rome’s new emergency government.

The auction yield on the six-month paper almost doubled compared to a month earlier, capping a week in which a German bond auction came close to failing and the leaders of Germany, France and Italy failed to make progress on crisis resolution measures.

Though Italy managed to raise the full planned amount of 10 billion euros, weakening demand and the highest borrowing costs since it joined the euro frightened investors, pushing Italian stocks lower and bond yields to record highs on the secondary market.

Yields on two-year BTP bonds soared to more than 8 percent in response, a euro lifetime high, despite reported purchases by the European Central Bank.

In a sign of intense market stress, it now costs more to borrow for two years than 10 on the secondary market and borrowing costs for whatever term are above the 7 percent threshold, over which Italy is likely to need outside help if they do not subside.

Germany and France

Germany and France are considered in better shape than the rest of the EU but increasingly investors are worried that Angela Merkel’s indication that she will not succumb to further imprecations to bail out failing states is not firm enough and Germany is no longer considered a risk free investment option especially with no EU reform options even on the table. Jeff Carter of Points and Figures

The only countries in Europe that aren’t junk are probably France and Germany. However, without knowing the true exposure of their government finances to the rest of the EU, it’s hard to know if they can maintain their status or not. As rates continue to steepen in weekly European Union debt auctions, the entire continent speeds it’s collision course with stagflation.

The only way out of their financial mess is print money or grow. They aren’t going to grow given their current economic policies. Watch the near term months in the Eurodollar ($ GE_F) contract. If they start to break hard, EU banks and governments are having funding problems.

As we mark time to the eventual day of reckoning, December 1 seems like the next big data point to me. It’s the date of the next French OAT auction. Spreads between French and German debt are at all time highs. As the PIIGS careen upwards to 8%, I don’t see how the French can keep their debt costs from spiraling higher as well.

It’s just too risky to hold these securities. Investors have to demand a huge premium. No doubt the resolution will be haircuts if you hold the security, and devaluation of the currency they are denominated in.

I don’t see any white knight coming in and changing things. The Europeans have made their bed, now they have to lie in it.

Will the euro break up? Will Europe mend its ways? What can we expect? I certainly cannot say, but Bank of America which does not think there will be a break up offers that as one possibility. Matt Egan of Fox Business writes:

Bank of America Merrill Lynch (BAC: 5.24, +0.10, +1.85%) became the latest investment bank to open the door to the once unthinkable collapse of the euro, underscoring the deepening investor fear about Europe’s debt debacle.

The brokerage said it now sees just three outcomes for the euro zone: fiscal integration, a limited liability partnership and a breakup, which is not its baseline scenario.

“Any break-up or withdrawal from the [euro zone] would unlikely be orderly. There would be large shocks to all currencies involved,” BofA Merrill Lynch foreign exchange strategists Richard Cochinos and David Gray wrote in the note. 

If the euro broke apart, it would likely entail a full dissolution with all countries returning to their original currency or a partial union with only some nations exiting — the more likely outcome, BofA said.

Under the partial breakup outcome, the analysts projected an “initial shock” that would cause a “violent swing in the euro,” followed by the currency settling about 2% lower on Germany’s departure and 2% to 3% higher in the case of Spain, France and Italy leaving.

In the less likely scenario of a total breakup, BofA said the currencies of Germany, Ireland and the Netherlands are undervalued against the U.S. dollar, while that of Spain, France, Italy and Portugal are overvalued.

In any event, just like those places in the US on the shoals, the problems seem as much about governance as anything else and that poses an interesting dilemma. Kenneth Anderson writes on the Volokh Conspiracy:

One is tempted to conclude, at this point, that the political theory of the EU today is being written by financiers and financial analysts in their credit reports.  They are anxious, after all, only secondarily about markets.  They are primarily anxious about governance and structures of governance – because the markets are trying to figure out whether the institutions of the EU and its members are serious about their legal and political commitments, and in what ways and to what extent. The state of the markets depends upon the state of these several institutions. And the state of the institutions – given that the legal rules and their application is apparently deeply in flux, unless one simply assumes that the rule of law is whatever discretionary action European leaders decide upon this week – is a matter of conjuring forward the political theory of these institutions.

So they, the financiers, are conjecturing the possible governance futures of the eurozone and the EU.  They are market analysts reluctantly turned political theorists because it is political theory that suggests one path or another for the application of legal regimes that appear to be much less determinate than once thought.  For George Soros, the move from one to the other is natural and logical; for most credit analysts and hedge fund managers, this is a strange turn indeed. 

It may be “a strange turn indeed”, but if the credit analysts and hedge fund managers conclude that the eurozone needs more free market and less top down regulation from Belgium to pull out of the slump, Europe and the world will be in far better shape.






American Thinker