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John Taylor On A Schizophrenic Europe – A Must Read

John Taylor’s most brilliant letter to date.

MARKET INSIGHT REPORT
Schizophrenic Europe
June 10, 2010
By John R. Taylor, Jr.
Chief Investment Officer

Managing an investment portfolio in Europe can put you on the fast track to a mental asylum. Only a playwright like Luigi Pirandello, who lived with a schizophrenic wife and wrote plays like Henry IV with its multiple levels of reality, could cope with the financial landscape in today’s Europe. Unfortunately, with the powerful political elite so committed to the EMU process, which they see as critical to the survival of the European Union, these economic distortions will only become more severe. Eventually it will either end badly, as in Henry IV with violence and death, or well, as in a crucible-like reordering and re-characterization of the European nation states. I expect to be writing about this fascinating process for the rest of my life – and I hope to live a long time.

Differences within the Eurozone are extreme. Ireland saw its nominal GDP drop by 10.2% last year, a decline similar to those experienced in the Great Depression, while the German economy recently grew at a nominal rate above 3%. An independent economist calculated that the value of the euro would have to be $0.31 to balance Greece’s international position, and the number for Spain was $0.34, while Germany could effectively compete in the international marketplace with a euro over $1.80. Despite the ECB pegging the refinancing rate at 1.00%, two-year benchmark government rates for Germany are way below that at 0.48%, but way above it at 7.91% for Greece, Ireland 3.37%, and 3.20% for Spain. Ireland has been living with annual deflation for the last 16 months, while German lawmakers are worried about inflation. These differences have become more dramatic in the past few months and most independent observers forecast that trend to continue. By any economist’s measure this is not an optimal currency zone. But the economists are not in charge, the politicians are, and these politicians have spent their entire careers following their conception of the European currency. Their reputations and the European myth depend on the survival of the euro, and those who doubt its viability are enemies who deserve to be ground into dust. There is one overarching problem that the defenders of the euro cannot overcome: in its current form, the euro’s survival is economically impossible. Prior to the Greek crisis, the market did not understand this, but now it does. And you cannot put the genie back in the bottle.

If part of the euro is worth $1.80 and another part is worth $0.31, how do you value this currency today, while it’s still in one piece? That is the crux of the matter. The uncertainty around this issue is what has caused billions of euros to flee into the security of the Swiss franc. The Swiss authorities have intervened, buying so many euros that their reserves expanded by 45% of their GDP since the start of this year. Despite that massive intervention, the Swiss franc has climbed by 10% against the euro since mid-December. There is no sign of change. As the politicians are completely in control, the schizophrenic euro could go on for years with the economic dislocations becoming more and more intense. Little explosions are likely. Certainly, the Swiss are in a terrible position (see Switzerland Surrounded Again, April 29, 2010) as the euros will keep flowing in. The Swiss franc might gain another 10%, destroying its export base, but the Swiss could change the rules to protect themselves. Although the European political elites are totally committed to the euro, the man on the street is different. The European political peace is a compromise between entrenched elites and the highly entitled masses first formulated by Bismarck over 120 years ago. The withdrawal of those entitlements in order to save the euro could easily upset this historic deal. If those in power continue to ignore the needs of the people, neither the euro nor the current political structure will survive in its current form.

Europe: A Continent Of Lies And Broken Promises

Openeurope.org.uk has put together a paper of the most blatant half-truths, propaganda, and outright lies, abused by Europe not only over the past month, but also over the past 10 years, for the entire duration of the now rapidly collapsing eurozone experiment. As the paper notes: “More than ten years since the euro was launched, and with the single currency facing its greatest ever crisis, the parameters have radically changed. Amid all the uncertainty, one thing has become painfully clear: the EU elite simply got it wrong on the euro.” The authors demand for “a call for greater honesty about the future of European cooperation and a reminder of the urgent need to find a new model that is both politically and economically sustainable” is just as valid in Europe as it is in the US: any system based on lies and opacity is doomed to failure. Europe found this out the hard way. We will too unless somehow we restore the basic truths like transparency, honesty and integrity, instead of merely campaign promises and teleprompter soundbites.

A sampling of the best quotes:

THE DOZEN WORST BROKEN PROMISES AND RECKLESS PREDICTIONS

“The Community shall not be liable for or assume the commitments of central governments, regional, local or other public authorities, other bodies governed by public law, or public undertakings of any Member State, without prejudice to mutual financial guarantees for the joint execution of a specific project”.
– Article 104b, Maastricht Treaty, 1992.

“We have a Treaty under which there is no possibility of paying to bailout states in difficulty”.
– German Chancellor, Angela Merkel, 1 March 20101.

“[Greek Prime Minister] Papandreou has said that he didn’t want one cent. The German government will not give one cent, anyway“.
– German Economy Minister, Rainer Brüderle, 5 March 2010.

“The single currency, far from being an agent of continental style corporatism, is probably the greatest export vehicle of Anglo-Saxon economics. The euro has done more to enforce budgetary discipline, to promote privatisation and force through labour and product market liberalisation in the rest of Europe than any number of exhortations from the IMF, the OECD, or the editors of The Economist”.
– Lib Dem leader, Nick Clegg, 2002.

“The reality of the euro has exposed the absurdity of many anti-European scares while increasing the public thirst for information. Public opinion is already changing […] as people can see the success of the new currency on the mainland and the alarming fall in inward investment into Britain as international companies show an increasing reluctance to locate here”.
– Kenneth Clarke MP, 2002.

“The euro has been a rock of stability, as illustrated by the contrasting fortunes of Iceland and Ireland. Joining the single currency would be a major step”.
– Former Labour MEP Richard Corbett, 2009.

“We must enter the euro with a clean sheet on all the criteria”.
– Then Greek Finance Minister, Yannis Papantoniou, 1999.

“The thrust of the spirit and of the letter of the Treaty is that everything is done to construct the euro area as an optimum currency area. First by ensuring that it incorporates economies that have already proved being convergent in the fiscal field as well as in the monetary and financial fields”.
– Then Governor of the Bank of France, Jean-Claude Trichet, 1997.

“It is sometimes said that while the single monetary policy may be ‘right’ for the euro area as a whole, it is ‘wrong’ for many individual countries within the area. I disagree with this view. First, it overlooks the fact that within a single currency area adjustment can occur via prices and wages”.
– Then President of the European Central Bank, Wim Duisenberg, 1999.

“Solidarity is possible, [and] will exist. A bailout is not possible and will not exist”.
– Then EU Commissioner for Economic and Monetary Affairs, Joaquín Almunia, 29 January 2010.

“I will defend European Central Bank’s independence under any circumstance and with all my strength”.
– ECB President, Jean-Claude Trichet, 2007.

“The euro is a protection shield against the crisis”.
– European Commission President, José Manuel Barroso, 5 February 2010.

 

“THE EURO WILL REMAIN STABLE AND EUROZONE COUNTRIES WILL BE PROTECTED FROM CRISES”

What they said then (more…)