DENIAL IN GERMANY & FRANCE ONLY INCREASES THE RISKS IN EUROPE

The FT is out with a piece today saying the core (primarily France and Germany) will continue to push towards greater fiscal union in Europe, but ruled out the potential for Eurobonds.  This is more of the same from Europe where they impose austerity on the periphery and do just enough to keep the Euro from completely collapsing.  They are trying to kick this can right to the edge of the cliff, but I don’t think they have any idea how close they are to kicking it over.  The article says:

“Wolfgang Schäuble, German finance minister, made clear in an interview with Der Spiegel, that Berlin remains opposed to such a policy.

I rule out eurobonds for as long as member states conduct their own financial policies and we need different rates of interest in order that there are possible incentives and sanctions to enforce fiscal solidity,” he said.

Senior French officials also played down speculation that any firm announcement on jointly issued bonds would be issued after meetings when Ms Merkel comes to Paris on Tuesday. “Eurobonds would require a much more determined integration of budgetary policy,” one said. “We do not have that today. It could be a long-term project, but you cannot have eurobonds and at the same time national economic and budgetary policies.”

I keep saying Europe needs a bazooka.  QE of the sort that the ECB is attempting now is not enough.  If Italy’s budget woes remain this bad or worsen (high probability given their balanced budget amendment) the ECB won’t be able to keep the markets from pushing rates higher without altering their approach and targeting rates (which would also serve as a good bazooka).   But rate targeting would be the fiscal equivalent of a eurobond so I don’t see why they’re not moving in this direction now.

As I’ve said before, Europe has only two choices here.  They either move towards fiscal union or start breaking the union apart.  The only true fix to the monetary union is to create a fully autonomous state or states.  That means several autonomous states (as we had before the EMU, ie, dissolution of the Euro) or full speed ahead into a fiscal union.  There is simply no other sustainable fix.

So, while Europe continues to kick the can, the problems will continue to boil underneath the surface.  The economy in Italy will not improve, the budget woes will worsen, the bondholders will get antsy and the core will be forced to act.  This means we all sit and pray that the economic situation in Europe improves while leaders twiddle their thumbs and hope this bomb doesn’t explode in their faces.  But if and when it does explode, there is a very real chance that the markets will undergo a Lehman 2.0 type experience that will force Euro leaders to take out that bazooka.  They’ve said they won’t bailout Italy or implement Eurobonds.   But I don’t know if they’ll have much of a choice.  It’s just a matter of whether they’ll take it out before they actually need to or after they allow the bond vigilantes to leave a mangled global economy in their path….

 

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Cullen Roche

Cullen Roche

Mr. Roche is the Founder of Orcam Financial Group, LLC. Orcam is a financial services firm offering research, private advisory, institutional consulting and educational services.

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