Italy has passed the “point of no return” with 10-year bond yields surpassing 7%. This is an empirical line in the sand based on the recent European experience with Greece and Portugal, though it is more a psychological market phenomenon than a law of nature.
Regardless of the disturbing new data, the most unsettling news of all is political. That makes sense; after all, “Europe” and the “Euro” have always been primarily political, rather than economic, institutions. (If someone wants to dispute this claim, I’m happy to have a go at it as a separate topic in Common Sense). Both institutions will last as long as the political conditions and, most importantly, the political will to sustain them exist. We appear to be reaching that limit.
What is more, I’m going to go ahead and state for the record that we are now in the wind-down phase of the “Euro” experiment and that it will not last out 2012.
In support of this contention:
- Greece and Italy are in political chaos; in both countries, the Prime Ministers have resigned in favor of a government of “national unity” (in the former) or of “technocrats” (in the latter). What either hopes to achieve in the next six months, that the previous government was unable to achieve in the preceding 18 months remains unanswered. In Europe, it seems that making comforting statements of intent are an end to themselves.
- The atrocious economic situation in the European periphery (Portugal, Spain, Italy, Greece – and we might throw in France and Belgium if they’re not careful) arise not from the stupidity of a single government (e.g. the Irish case, where the government threw itself on a grenade when it unilaterally extended public protection to all Irish banking assets….unheard of folly, next only to starting a land war in Asia). These countries all suffer from structural and institutional deficiencies that have existed for decades and which would require the most profound reforms and years to take effect – none of these are even being seriously discussed at this point.
- Prices for CDS insurance on sovereign debt of Spain, Italy, Greece and Portugal have all reached historic highs, and are 4x or more above the peak rates in 2008. In fact, the 2008 crisis looks positively tame compared to the monster disaster approaching with all the implacability of a runaway train. Portugal and Greece are both above the price to insure Argentina’s public debt, while Italy is rapidly approaching that level (I mention Argentina because it was, until recently, the largest sovereign default in history). For readers who don’t know what a credit default swap is, post me a comment and I’ll explain it.
- Angela Merkel and Nicolas Sarkozy, the only two “Euro”-pean leaders who matter at this point – and I’m being generous regarding Sarkozy – are already floating the idea of a two-tiered Europe. When the German Chancellor starts talking about “inflection points”, “new direction and new solutions” for Europe, this is what you should understand she is referring to. What it also means is that German political will to bail-out the rest of Europe has been exhausted with Greece, Portugal and Ireland – there will be no massive support for Italy if markets continue to bear down on Rome. A two-tier Europe means a “hard” core of fiscally sound and productive economies – Germany, the Netherlands, Austria, with France and Belgium thrown in for charity’s sake – while the periphery is left to their own devices. That means re-introducting national currencies. Anyone who thinks that the Europeans could successfully defend two currencies, when they don’t seem capable of defending the one they have now, is smoking some pretty good stuff.
Get ready. If you live in “Euro”-pe, stay as liquid as possible. More to come (all too soon, I’m afraid).