Thursday, November 10, 2011
OK, that's it. Calling on a European policy to appear in front of us as a divine saviour is turning out to be nigh on impossible. We have tried the Ouija board of Greek debt, then the talking in tongues of Greek politics, we have tried sticking needles in the French banks, and finally the market has resorted to sacrificing, on the Altar of Merkozy, the whole population of Italian debt. All of it - old and young, short and long in a conflagration that has resulted in much wailing and gnashing of teeth. The markets now look North for signs of the second coming of the Saviour who was seen to redeem the Irish and Portuguese. But silence... nothing... rien...Tumbleweed. Then a familiar noise... a bickering from Brussels and apology from the guy behind for breaking wind. But no saviour, no redeemer no bloody anything.
And you know whose fault it is? Not the Greeks for lying through their teeth over their off-balance-sheet-off-market-cross-currency-swaps, nor the Spanish for building too many holiday homes, nor the Portuguese for spending too much time playing golf, nor the Italians for being Italian, nor the Irish for dancing little property building jigs in leprechaun hats as the EU gold rained upon them, nor the French for believing that they are not in Club-Med. No... it's not them...
Its the Axis of Evil. And no, wrong again, TMM don't mean Iran, North Korea and the like. We mean the Bundesbank, the ECB and the German & Dutch governments. And it's time for action.
TMM reckon that one of two things is happening:
(a) The Axil of Evil are indeed clueless: staggeringly ignorant and blinded by anachronistic ideology, they are unaware of (or even exceptionally pleased with) the collateral damage they are causing, not just within Europe, but to the global economy and financial system. Yesterday's Italian bond market crash probably shocked them, but it's all these periphery guys' fault anyway, they can clear their own mess up.
b) Realpolitik dictates that Italy is held over a barrel in order for the Axis (led by Germany) to regain the power over the rest of Europe, lost circa 1944. This view follows the mid-1990s ERM crisis and the Bundesbank cutting off Italy up until contagion eventually spread to France, whereupon, Kohl called off the attack dogs.
TMM reckon that if it is the case that the Axis Powers are of view (a), then it should not be long until either they capitulate in the face of external political pressure or the stark fact that the Italian bond market (and soon the French bond market) have ceased to operate. This line of thought would be supported by German Wisemen calls for a joint and severally-guaranteed fund yesterday of around EUR 2.3trn. Of course, this comes with German fiscal control. It seems, as many have pointed out elsewhere, that Germany does not seem to recognise that creditors are just as "in it" as debtors are, and that it has benefited hugely from a weak currency, low bond yields and a captive export audience. It's time to get off the moral high ground.
Under (b), the Axis Powers have de facto taken control of the governments of the periphery, effectively dictating their fiscal policy. The precedent of the mid-1990s is certainly there, though TMM would highlight that this time it is not the Bundesbank that is the monetary anchor, it is the ECB, upon which, the Germans control two votes. It could certainly be out-voted: particularly if the contagion spreads to France in a disorderly manner (seem for the first time this morning). Thus, there are two outcomes from this viewpoint: (i) Italy passes the structural reforms and a technocrat government is in place early next week, followed by ECB buying, (ii) contagion spreads to France and the Axis powers back down, a la 1993/4.
The key question, of course, is what that particular trigger point of pain for France is. And to hazard a guess, TMM would guess is 10yr OAT/Bund at 200bps and/or widening bid-ask spreads and illiquidity in the French bond market. The latter, arguably, was seen this morning. Who will blink first?
German economic policy essentially consists of:
1) Tight fiscal policy to crush any signs of a recovery.
2) Tight monetary policy to crush any signs of recovery.
3) Tie yourself to some profligate countries so that you have a cheap exchange rate and can sell shedloads of exports.
4) When the countries you provided vendor finance to start having trouble paying you back insist that they follow 1) and 2).
5) Wonder why everyone hates you.
TMM's mate AH wryly observed: "It's a pulley system - you throw everyone over the cliff and let the rope take you higher. But eventually you reach the pulley."