Is Calm on the European Front Merely a Lull Before an Inevitable Storm

During the global financial crisis, after each acute phase, there would be a period of relief in which conditions returned to a semblance of normalcy, and policymakers and investors carried on as if acting as if all was well would make it so. Unfortunately, positive thinking provided only temporary relief from the undertow of rising defaults and continuing deterioration of bank balance sheets.

A similar dynamic may be underway in Europe, but potentially on a more extended timetable. The upheaval of May had a familiar, vertiginous feel of 2008: are these sudden market shifts the beginning of something much worse? Even though key political actors shows a fair bit of disarray, and the responses were deemed to have meaningful shortcomings, it looked as if Mr. Market was very keen to find an excuse, any excuse, to pull back from the brink. So a rescue package that looked circular (stressed states helping bail out themselves) and unduly dependent on an increasingly skittish Germany, plus not very convincing stress tests, nevertheless gave the markets a real boost.

Or have they The euro has slipped from recent highs, and perhaps more important, the bond markets are signaling considerable concern. As Wolfgang Munchau points out in the Financial Times:

While the Europeans are celebrating the end of the financial crisis, something strange is happening in the bond markets. The gap in the yields – the spread – between the 10-year bonds of peripheral eurozone countries and Germany has been growing at an alarming rate. It is now close to the level that prevailed in the days before the European Union decided to set up its bail-out fund in May.

Last Friday, the spreads were 3.4 per cent for Ireland, 9.4 per cent for Greece, 3.4 per cent for Portugal, and 1.7 per cent for Spain. The yield on 10-year German bonds is currently ridiculously low, about 2.3 per cent. The financial markets somehow regard Germany as a paragon of virtue, stability and sound financial management, and are happy to demand virtually no return on 10-year investments. If the bond markets were ever returned to normal, and if the spreads were to persist, peripheral Europe would find itself subject to an intolerable market interest rate burden…..

Spain is probably fine for the time being. Portugal’s combined private and public sector debt adds to well over 200 per cent of gross domestic product. In Ireland, the main problem is the banking sector. The economists Peter Boone and Simon Johnson have done some of the maths and found that the total amount of debt likely to end up with the Irish government amounts to about one-third of GDP. They concluded that with 10-year market rates at current levels – close to 6 per cent – Ireland is effectively insolvent. To correct this Ireland would need to generate spectacular rates of future growth. But do we really believe that the Celtic Tiger trick can be replicated? Was the presence of a global financial bubble not inherent in that model?…

In Greece, the adjustment programme is going well – much better than anyone had hoped. Some of the people directly involved with whom I have spoken are almost euphoric in their praise for the Greek government’s approach to the crisis. I also take the government’s commitments seriously, certainly as regards fiscal adjustment.

I am less optimistic when it comes to structural reforms…

To guarantee the solvency of the eurozone’s periphery would require not a few quarters of solid growth, but an entire decade. I am at a loss to understand how countries still recovering from an enormous asset implosion can generate so much growth.

The self congratulatory posture of the European officialdom after the financial markets responded well to their various fixes did have a Mission Accomplished feel to it. Only time will tell whether Munchau’s sober call is correct.

P. S. Some European readers take affront when this blog suggests that either the eurozone experiment or certain EU nations are due for quite a bit of rough sailing. A frequent assertion is that parties that point out the structural challenges facing the currency union (the very same challenges acknowledged by its creators) are “anti European.” Folks, if you look at the history of this blog, we’ve been vastly rougher on the US and in particular, the Bush-Obama economics policy team than the eurozone.

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  1. a

    “Some European readers take affront when this blog suggests that either the eurozone experiment or certain EU nations are due for quite a bit of rough sailing.”

    No affront at such an innocuous claim. The eurozone is in for quite a bit of rough sailing. But so is Britain. And so is China. And so, particularly, is the US. What Europeans readers take affront at is, in part, claims that (1) the euro is doomed to failure and (2) should fail, e.g. by saying that x European economy would do better if only it withdrew from the euro. (These claims are not usually advanced by Yves but by people she quotes, sometimes too respectfully.)

    1. Jimbo

      Fundamental difference b/w US and Europe. US can print dollars, individual EU countries can’t. For those of you who believe that the EU is sustainable, did you feel the same way about the Argentina dollar peg?

    2. Denis

      Agreeing fully. Those who make such claims completely misunderstand that (a) government trumps economics at the end of the day (since it’s the guarantor of property rights; if it needs emergency cash, it can also just take it), and that (b) since it’s inception, Europe has always moved forward, not backwards, during major crisis.

      I’ve been telling whoever listened that by the time this crisis is over we’ll have a EU treasury or something very close, and sure enough they’re considering it at the EC according to AEP. And the Germans won’t be happy; and they’ll eventually swallow, because they’ll have no better option (the bulk of their trade is with the EU).

      1. John

        Wow, so you think an EU Treasury is a good idea? Wave a final goodbye to the sovereignty of the EU member states if that happens. If I were living in Europe I’d be terrified to be a member of the currency union with my nation’s fiscal authority transferred to some non-republican, non-representative central power.

        Just sayin’…

        1. Denis

          No offense, but I suspect you’ve no idea of what you’re talking about.

          If I should be scared of a treasury that gets *voted* into office by elected representatives (i.e. exactly like your president), and by a central bank whose share holders are EU sovereign states; then how scared should you be, by a treasury who gets *named* into office by someone elected by elected representatives, and a privately owned central bank whose share holders are Wall Street big names?

  2. Joseph

    Dear Yves
    Those of us who live in southern Europe, we do get the point, we live here; but we look less and less to the markets ( who can believe in CDS? ) and more to reality through day to day life, business and trade
    The FT is just another boring voice of the City, trying to save itself from suicidy through greedyness
    We dont believe into a lot of things anymore
    Spreads? lets see where is the first western defaulter state¡
    keep well
    from semitropical Barcelona, sticky hot today

    1. Ignacio

      Yes, and Munchau forgot to say that a big part of the spread widening was due to lowering rates for the 10Y german bond. About 80% of the spread between spanish and german bonds is explained by this phenomenon. German bonds are shelter assets.

  3. Diego Méndez

    “Some European readers take affront when this blog suggests that either the eurozone experiment or certain EU nations are due for quite a bit of rough sailing.”

    Certainly not me. I do take offence when you decide to omit big public debt problems (as in: at 120% US GDP, a spike in the US interest rate would render the US insolvent).

    Let’s get this clear: the US public debt to GDP ratio is as bad as Greece, and twice as bad as Spain.

    You can argue “but this country is different”, which is the fallacy equivalent to “but this time is different”: we are not in the eurozone, nobody defaults with a printing press, etc. All BS. Other differences are more important to me: Greece can be bailed out – unlike the US. Greece is an open, small economy, and could do very well if the rest of Europe recovers – unlike the US. Etc.

    No way are you harsher on the US than on Europe. You’ve never run frequent posts about a potential US insolvency. It’s high time to be honest and put that 120% figure in context on your blog.

    1. Einstein

      These are very god points Diego. Can I defend USA that made screwed up badly these past few years?

      — USA has an industry, Greece does not. USA may not be making steel but think of Intel, GE, medical devices, military, Boeing, iPods and the likes that everyone wants and need them.

      — USA can cut down spending, military alone is at $700 Bill

      — USA has no demographic problem, Greeks are having 1.2 kids /couple and young people started to leave. Who will be paying or pensions?

      — The health expenses are killing USA, changeable if need be

      Now, USA has many options and if push came to shove we can do them. Greece can be bailed out but most EU countries have similar problems.

  4. Richard Smith

    “It’s high time to be honest”

    Diego, cool it. If you think NC is just lying, then reading and commenting here is pointless.

    “You’ve never run frequent posts about a potential US insolvency.”

    One reason for that might be because it hasn’t looked like an imminent prospect. If that changes, I am sure you will start to see posts on the subject.

    1. Diego Méndez


      I am sorry if I couldn’t get my point across. English is not my first language (in fact, I’ve never been to an English-speaking country), so excuse me if my choice of words sometimes sounds offensive.

      I never meant NC is lying, or misrepresenting economic conditions on purpose. I hold NC’s authors, and particularly Yves Smith, on very high esteem.

      However, there is a very well-known failure in human nature: we see the straw in the eyes of others and we do not see the beam in ours.

      The US public debt to GDP ratio is 120%, i.e. higher than small, debt-overriden peripheral Euro countries; one half higher than the Eurozone in agreggate; and twice as high as countries like Spain, which have been portrayed in the Anglo press (including in some NC’s posts and links) as being in the brink of failure.

      Of course a spike in interest rates would send tiny, highly indebted countries, such as Ireland, into bankruptcy. But that’s even truer for the US, and its economy is like over one hundred times bigger: that would really be TBTF, and an economic calamity.

      Are you waiting for US bankrupcy to be an imminent prospect to make an analysis on US public debt’s critical juncture? Don’t you think it’s informative for, and in the interest of, NC’s readers to know US public debt is in a direr condition than those of tiny European countries (which can be easily bailed out) portrayed to be on the brink of imminent collapse?

      1. Richard Smith

        Well, what would provoke a national debt crisis – presumably, inability to borrow , or inability to pay the interest – basically running out of plausible policies, then investors, then cash.

        If the GDP growth rate is fast enough and policies are good enough, enormous peak debt/GDP ratios (think 250%!!)can be managed back down again. Simply having an enormous debt isn’t the point. It takes bad politics and slow growth to provoke a crisis.

        An in fact ,the current big borrowers don’t seem to have a realistic prospect of rapid growth. That leaves policy, which hasn’t been very impressive inside or outside the Eurozone.

        Some non-Eurozone cases to ponder:

        Japan (debt to GDP ratio of 200%)
        US (debt to GDP ratio 120%+)
        UK (debt to GDP ratio 110%+)

        Japan has been pottering along like that for years, getting more and more indebted. Mrs Watanabe seems content to keep buying JGBs. Likewise US TBond investors and even UK gilt purchasers have had a pretty good time lately. In each case there is a P&L cushion which helps psychology. They are simple minded folk, bond investors. Yes, they will all rush for cover at the same time.

        So – where is the credibility problem going to come from?

        In fact the least credible borrower of these seems to me to be the UK. We are about to embark on our austerity programme (October). If it really delivers the promised cuts, I would expect the debt/GDP ratio to get worse at first. If you combine that with a spot of civil unrest or some currency weakness or higher rates, we might start to look a bit Greek. But that is all guesswork. We have to see what is getting cut first.

        In the mean time, I think credibility problems really are acute right now in Ireland and Belgium, so for the moment those would be my flashpoints (might post on this later in the week). I don’t any confidence at all in my understanding of how Spain works so I don’t have strong opinions about how things will pan out there. Not ideally positioned if there is turbulence elsewhere, anyway. All interconnected (also to the UK) via the banking system’s exposures, of course. Kind of hard to guess the detail of what would happen, plus there are the incalculable official interventions.

        1. Diego Méndez

          Well, Richard, I think you are basically agreeing with me: there are huge stacks of explosives waiting for a spark.

          NC is focusing on a couple of tiny barns where, rumour has it, the spark has ignited. It echoes those rumours, but it is ignoring the huge barn (the US) because… well, that barn has never exploded in history. Doesn’t matter it had never been so full. “That barn is different”.

          I wouldn’t take much confidence from Japan’s case. No one understands the Japanese economy. It could blew up any of these days with just a small spike in interest rates; and there is no way they can manage all that debt back down.

          I don’t mean the Keynesian case has no merit, but we’re reading every week about how the eurozone is imploding and euro countries could be insolvent while the post on potential US insolvency remains to be written.

          1. Richard Smith

            To me it does seem rational to concentrate on the bits of the mess that look most likely to get worse first. But yes the underlying problem is hardly a Eurozone-only one.

        2. Joseph

          japanase can, Diego; without all the filth the US damped there; Do not worry about them, they will overcome
          Us spaniards still there is a question mark, how do we get rid of the oligarchs in Madrid?
          keep well

          1. Diego Méndez

            I don’t know the answer to your question, Joseph, but I’d guess: the way you get rid of oligarchs elsewhere (Barcelona, Valencia, Marbella or wherever).

            I’d also guess it probably involves some focusing (not letting your attention be stolen by corrupt officials through language politics and symbolic battles), forgetting about “soccer politics” (i.e. that politician is surely corrupt, but he’s on my team!) and letting time take its course.

            Great riches, great protection for the corrupted. Once the bubble is over, corruption affairs go public and, finally, some go into jail. At least that’s the way it works outside the US.

            It’s no coincidence that we’ve started to hear about decade-long corruption affairs precisely when the bubble was over: e.g. the customary comissions (4%) to get infrastructure projects in Catalonia, or the infamous Gürtel network…

        3. Paul

          There is certainly a different debt dynamic between the Pound, the Yen, the Dollar and the Euro. Certainly having sovereign states with a central government tied to a currency can lead to a different debt dynamic than a currency union made of several sovereigns. It is hard to bet against Japanese debt because the Bank of Japan has proven that it can print to keep rates low and keep debt serviced. Similarly the central banks in Britain and the U.S. are closely tied to the government and the treasuries of these countries.

          In Europe you have a different dynamic where some stronger sovereign member nations are likely to object to the continued bailout of weaker states by their shared central bank. Some economist worry that this may be a key difference between freely floating fiat sovereign currencies (where unlimited electronic printing can prevent default) and currency unions. Unless there is a clear plan of how this will sort itself out in the long run the viability of the Euro will remain a question.

          1. Diego Méndez


            it’s funny that some economists are worried there are weaker countries like Greece (debt: 120% GDP) in the eurozone, but they are not worried that the whole of the US (debt: 120% GDP) is as weak as Greece regarding debt.

            Japan, the US or any other deeply indebted country can use its printing press all it wants: it just produces inflation and trashes their currency, which may be even worse than default.

            In the last inflation crisis (a mere three decades away), the US went so far as issuing the so-called Carter bonds, i.e. bonds denominated in Deutschmarks, because they couldn’t afford any more inflation and dollar trashing.

          2. Paul


            Japan has been printing for over a decade. Where is the inflation? Where is the trashed currency? Instead Japan has had to fight deflation and their currency is currently too strong. If anything Japan should be printing even faster.

          3. Diego Méndez


            you can use QE to fight deflation (a condition the US is not in, as of today); but you cannot use it to solve a debt problem, because that’s inflationary.

            You may be right that Japan would need to monetise its debt in order to produce inflation. But that’s way different from solving the Japanese debt problem through QE.

            Can’t see the difference?

            A. You use QE to fight deflation (which Japan apparently didn’t, to a sufficiently large extent). As soon as there is inflation, you stop: the debt problem remains, even if reduced.

            B. You use QE to solve a debt problem. Inflation shoots up, but you still have a debt problem; so you keep on using QE to solve it. You get to hyperinflation: you’ve trashed your currency.

            As far as I know, there is no deflation in the Eurozone (nor in the USA), and even less so in Greece, which has the highest inflation in Europe.

            So you seem to be proposing route B. Unfortunately, it leads to Zimbabwe.

          4. Paul

            You sound like what Paul Krugman would call an invisible bond vigilante. Japan is far, far, far away from having to worry about becoming Zimbabwe. Equating the two is quite a stretch.

            Whatever you think about the effects of QE on the GDP and inflation, you have to admit that it is a tool to prevent defaults. This is why the CDS market treats the U.S., Britain and Japan differently than Greece. If the central banks of any of the former had to use QE to prevent a default they would, therefore CDS betting against these nations are very unlikely to pay off. Greece doesn’t control the ECB, so QE is less of an option and default is possible.

          5. Diego Méndez


            it’s difficult to believe investors are always behaving rationally these days.

            Do you remember the last bubble? The mortgage bubble? And all the reasons why it was a perfect rational investment?

            I mean: you are right. Investors are probably thinking just like you: there is no risk of default if they have a printing press.

            The problem is: just a year ago, they thought there was no risk of a Greek default.

            So that’s how long investors’ conventional wisdom is right: ’til the bubble goes bust. Or if you prefer, ’til they all change direction at the same time. :)

          6. Bob Goodwin


            I think a lot of people on NC agree with your underlying concern. I think the point of the leaders on this site is that fiscal debt is only one of several explosive items on the horizon, and there are experts who argue (Krugman foolishly) that fiscal debt is the least of our problems.

            From this side of the pond, it does appear as though there is some insecurity on the part of Europeans who want to point fingers elsewhere. Although there is less fiscal debt in Europe, I would argue you have the most damaged banks and the least effective central bank. But you did invent western civilization, for which I am grateful.

            We all know that we have explosions on the horizon, and it would be naive of you to think that Europe is immune.

      2. Denis

        Then again, if you factor in that the US remains the most productive in aggregate, that the USD is the main reserve currency; one in which a huge chunk of the world wide assets are denominated (and the huge, recurring US deficit exacerbates the trend)…

        Seems to me that the US will probably be the last man standing; the fat bride among morbidly obese brides.

  5. jake chase

    I love it when you cite Simon Johnson and Peter Boone. All this IMF rubbish recycled and accompanied by hand wringing about debt to GDP, growth rates, etc. The entire world is insolvent and only capital controls will save world trade from predatory finance.

    Question: what do you get when you prick an IMF economist?

    1. Skippy

      Question: what do you get when you prick an IMF economist?

      Umm…every body else’s blood but their own?

  6. RueTheDay

    The problem never went away. What has happened is that in the EU, much like in the US, government officials have stopped paying attention to the unemployment, industrial production, and other economic fundamentals, and have become stock market watchers (based on the hare-brained idea that the stock market discounts all this other information and provides policy-makers with a single metric to manage). Witness all the worries that started to return in early July as the stock market headed down, but then vanished a couple of weeks later as equities recovered.

    All it would take for the European storm to return would be for a few consecutive sessions of 3-4% losses in the FTSE/DAX/CAC. Combine that with a rumor that one of the big banks may be having some trouble and we’re right back to the panic of May.

  7. charles

    The B.I.S informed today that the sovereign bonds of Greece,
    Italy, Ireland, Portugal and Spain amounted to 57% of the
    European banks’ sovereign bonds portfolio in the first quarter 2010..

  8. Jim Haygood

    Strange — Münchau’s punch line was omitted from the post. Here is the missing money quote:

    ‘We can either dig our head in the sand or prepare for the inevitable – that one day a eurozone state will either default, or, more likely, be forced to restructure its debt.’

    If their public statements are to be believed, pointy-headed EU and IMF mandarins reside firmly in the former camp, with their ample posteriors facing skyward. But the 9.4% spread on Greek bonds says that the costly EU/IMF bailout merely postponed an inevitable Greek restructuring. Like fighting fire with fire, fighting debt with debt is a containment mechanism, not an extinguishment device.

    To paraphrase Maynard Keynes, ‘In the long run, we’re all defaulters.’ Even in the financial press, public debate still takes place in an ambiance of unreality. Governments continue to use cash or modified cash-basis accounting, which radically understates both their current deficits and their accrued negative net worth.

    Considering that most rich-country governments have unfunded obligations amounting to several times GDP, in addition to their explicit debts, there are NO plausible growth mathematics which would permit them to return to solvency.

    Like Bernie Madoff, governments worldwide have been taking our money and living high on the hog, while promising lavish benefits in the future. But there are no reserves to fund these benefits — most governments operate strictly hand to mouth. The global Ponzi scheme is over; Boomers are the bemused bagholders.

    Fertility rates are likely to fall farther as younger adults perceive the full horror of the intergenerational tax servitude being dispensed to them, thus accelerating the slow-motion crack-up of unfunded Ponzi benefits schemes like a glacier calving ragged doomed icebergs.

    Just don’t let the cat out of the bag: Soylent Green is people!

  9. Ignacio

    “In Greece, the adjustment programme is going well – much better than anyone had hoped. Some of the people directly involved with whom I have spoken are almost euphoric in their praise for the Greek government’s approach to the crisis. I also take the government’s commitments seriously, certainly as regards fiscal adjustment.”

    2nd quarter PIB = -3,5% Looks great. Unemployment growing! Excellent Mr. Munchau. Better than anybody hoped!

  10. petros

    N. Papandreou, the brother of the present Prime Minister George A.Papandreou, ‘hits back’
    at the deconstruction in economic
    model applied by the competent
    Minister of National Economy, the main pylon
    to the mass tax collection raid which has already led to
    economic decline of the Greek people without guarantees
    no prospect of development.
    Through his article hosted in the current
    issue of the monthly magazine
    “«Οικονομική Επιθεώρηση” or “Economic Review”
    ( ) states:
    “Now we need the small and surgical interventions”, the
    brother of Prime Minister grasping the pulse of the market, delivered basic lessons in economics,
    Mr Papaconstantinou, in times
    that the climate for both himself,
    society, the internal government and PASOK is extremely
    heavy because of the perceived intention to abolish
    the subsidy on diesel heating and to equalize with automotive diesel.
    “About 45% of zero is zero! With just these six words
    based on clear mathimatical calculation, Mr. N. Papandreou is taking a clear position on the persecution of the tax frenzy unleashed by the Ministry
    National Economy against the Greek enterprises, with thousands of businesses closing down and many considering relocating to other neighbouring countries.
    Here lurks perhaps the greatest risk, followed by policy
    Treasury, as a team moving the large Greek firms in neighboring countries, except direct negative impact it would have on State revenue will be hurled at dangerously high numbers, indicators of unemployment. With
    tempered with a realistic approach and certainly far from the tax collection syndrome pervades political leadership of the material competent ministry, the brother of Prime Minister concluded: “What is the perfect rate,
    nobody can predict, but certainly less than 45%. As for possible objections to the old socialist rhetoric,the pragmatic approach to the factual situation is of primary importance:
    “Neither is ,as business will relocate. ‘The harsh criticism directed to the Minister, Mr Papaconstantinou by Papandreou,is equivalent to finding a bankrupt financial policy that can be summarized in one sentence; “The issue is becoming an attractive country for investments, have a stable tax base to create wealth and jobs and for the state to collect its revenues, with the necessary caveat, “that simple”.

  11. Jim Haygood

    “The issue is becoming an attractive country for investments, have a stable tax base to create wealth and jobs and for the state to collect its revenues, with the necessary caveat, “that simple”.

    And a second caveat — “a manageable level of debt.”

    “Greece is insolvent,” Andrew Bosomworth, Munich-based head of portfolio management at Pimco, which oversees the world’s largest bond fund, said in a telephone interview today. “I see it as being quite a substantial risk that Greece eventually defaults or restructures.”

    Today Greece is paying 11.24% on 10-year debt, while its nominal GDP growth is negative. Three years hence, it will be another 35 to 50% deeper in debt, with about the same size economy as it has now. This is no solution; just an artificially-imposed, costly moratorium on default.

    If the EU won’t restructure Greece, Greece will have to do so unilaterally — and probably will secure better terms by doing so.

  12. Hugh

    If the European central bank were not buying Club Med’s bad debt, the Europeans would already be off the rails. What I wonder is how long can the Europeans engage in their particular version of extend and pretend. How long can Germany engage in a beggar thy neighbor trade policy? How long can the highly geared eurobanks hide their insolvency? I don’t see really anything from our European commenters on how long things can continue this way, in the absence of fundamental structural reform of the euro and the eurozone, or how they see recovery happening there.

    Personally, in terms of failed policies, I see the US hitting the wall first but it certainly does seem a race between us, the Europeans, the British, the Chinese, and the Japanese. Of course, who goes first is largely academic. When one goes the others will follow, and one is almost certainly to go in the next year.

  13. Diego Méndez


    it’s difficult to believe investors are always behaving rationally these days.

    Do you remember the last bubble? The mortgage bubble? And all the reasons why it was a perfect rational investment?

    I mean: you are right. Investors are probably thinking just like you: there is no risk of default if they have a printing press.

    The problem is: just a year ago, they thought there was no risk of a Greek default.

    So that’s how long investors’ conventional wisdom is right: ’til the bubble goes bust. Or if you prefer, ’til they all change direction at the same time. :)

  14. Jimbo

    Diego, or anyone else on this forum, do you know what percentage of newly-issued EU bonds from the five peripheral countries are being bought by institutional investors/hedge funds/retail inestors? What percentage in the secondary market?

  15. Psychoanalystus

    >> In Greece, the adjustment programme is going well – much better than anyone had hoped. <<

    Absolutely! I heard there are 2, possibly 3 people in Chania (Greek city of 60,000 inhabitants) who are now paying income taxes…LOL


  16. Andreas

    Wandering the streets of my hometown Frankfurt, Germany (hardly a city), I just can’t feel the crisis. Restaurants are packed, whether it’s lunch or dinnertime. The parking lots are full of only the fattest Mercedes-Benz, Audi, Porsche models. The free central bank money certainly does the trick for those working in the financial sector… Believe it or not, I changed most of my cash holdings in dollars U.S. recently. The next crash will be for real and I don’t see who’s going to fix it over here.

    1. hibikir

      Of course you don’t see the crisis in Germany! Southern Europe’s debt is not being spent on domestic products, but on German wares. Since the currencies are pegged, the worse Spain, Italy and Greece are, the better of Germans are on their streets, at least for a while.

      The chickens will come to roost when they either default, or manage an internal devaluation: Suddenly German goods will seem very expensive, Germany will face a manufacturing glut, and your Mercantilist policies will not seem like such a good idea.

  17. reslez

    The bond vigilantes eased up once the ECB started arm’s length purchases of Club Med debt, which effectively erased solvency fears. But the ECB also imposed fiscal requirements as part of the deal. The economic news from Ireland has trashed all that. ECB-imposed austerity solves nothing; the economic costs in GDP contraction and unemployment are just too high. It now appears that austerity craters economies that try it, which means governments won’t be able to stick to plan, which puts ECB bond purchases in doubt. That is the reason for the nervousness. “We had to destroy Ireland to save it” does not go over well with any electorate once you swap “Ireland” with the EMU country of your choice.

    The fastest way out is for the ECB to drop its fiscal conditions, but the Germans will fight tooth and nail to prevent it. This means more roller coaster rides in Euroland.

    It appears many EMU readers fail to understand the difference between a sovereign issuer of currency and a currency user in a monetary union. Yves doesn’t print tons of articles about US default because the US has no solvency risk. The US Congress might, by some seizure of insanity, decide to default, but that is a purely political decision better discussed on a science fiction blog than one based on economics.

    1. Diego Méndez


      the problems in Europe are very real. However, I am afraid US readers are in denial-mode regarding the impossibility or zero-risk of a US default, just because you have a printing press.

      Let me ask you a question: why do you insist on working at all over there? Why don’t you just use the printing press and give money to everyone to spend freely? After all, using the printing press has no consequences at all and, even if it had, they would *always* be mild and rationally better than default.

      This all has a feeling of denial-mode we’ve seen many times all too recently…

      1. Einstein

        We are not in denial, but we are the Germany of EU (albeit higher debt, but much lower taxes.) If Germany was alone with its Deutchmark and 120% debt like US, would anyone doubt they’d manage it? Nope, so we need a good scaring from bond vigilantes to start moving.

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