Insights & Advice


Greece II

My column last week “Why Greece Matters to You” should be hitting home about now. Since then, the subject of Europe, the Club Med nations and Greece, in particular, has taken over the front pages of just about every media publication in the world. While I believe the Club Med crisis in Europe is a serious issue, I do not believe it has the capacity to pull down the world economies, the European Union or their currency; and certainly not the growing recovery here at home.

Whenever there is a crisis like this, there is a group of analysts, economists, market pundits and media types who take the facts and begin the game of ‘What If.’ What if the Greek sovereign debt crisis spreads to Portugal, Ireland, Spain and Italy? What if there is a contagion effect that infects the world economies and causes a second global financial crisis? Before you know it, the ‘what if’ scenarios become the facts and the facts are conveniently buried under one outrageous statement after another.

Don’t get sucked into their spin. The facts are that the Club Med nations are in trouble. Their economies are not recovering and they are having a tough time making their debt payments. As a result, some credit agencies have downgraded their debt ratings, making it more expensive to borrow. In response, after some delay, the European Union and the IMF have offered a bailout package that is considerably larger than first thought ($143 billion) in exchange for some new austerity measures that the Greek government must implement. By the way, the U.S. is a big contributor to the IMF so as a nation, we are involved in this crisis as well.

In my column last week I warned that the bailout number was too low and that turned out to be correct. I also said that imposing austerity measures on a country that was already suffering from a weak economy was a prescription for social disorder. Witness this week’s riots in Athens, as Greek citizens responded to these foreign imposed measures on their country.

The reaction to the European crisis in our own stock market this week is overdone, in my opinion, but understandable, given the perspective of American investors. We tend to look at other nations and people as if they were cut from the same bolt of cloth as our own. If one of our states, California, for example, was on the verge of bankruptcy, we would expect the government to step in immediately, assume responsibility for that debt and work out a restructuring plan that would ensure California’s return to prosperity. We might expect a week or two of delay until the details were ironed out, but probably no more than that—or else.

The threat of a huge sell-off in bonds and/or stocks is the investor’s ultimate weapon. We expect our government to react to big movements in the stock market, especially after the last two years. There is nothing like a couple of big down days in the market to get the blood pressure of lawmakers in Washington climbing. However, Europeans, although not immune to such pressure, rarely respond quickly in the best of times.

Consensus building is a process that takes time, especially among 27 disparate nations who do not even have a common language in order to negotiate. I believe a certain amount of pain and discomfort will be necessary before compromise can be reached. I suspect the EU’s tolerance for pain is a lot higher than our own (possibly due to their experiences during WWII). They can and will continue to delay as they work toward a uniquely European solution to this problem and in the meantime no amount of selling the Euro or bidding up the interest rates on various European debt instruments will interfere with that process.

After spending over half my career investing in foreign countries, I think I know the European mentality well enough to form two possible outcome to this crisis. The first would be to throw money at the problem like the Fed and Treasury did back in 2008-2009. The problem there is that could take upwards of another trillion or two Euros to bailout Greece, Portugal, Ireland Spain and possibly Italy. I may be low on my estimates as well.That may simply be too much money to contemplate on top of all the money Europe has already spent along with the U.S. over the last two years to dig out of the financial crisis.

The second solution (and the one I’m betting will happen) will be a temporary exit of several weaker nations out of the EU. As I wrote last week, that would allow these countries to de-value their currencies, restructure their debt and get their economic house in order before being considered for a return to the EU. That could include all of the above nations or just some of them. Although the Euro would be damaged by such an event and weaken further, possibly down to parity with the dollar, it would be better than the dissolution of the EU, the end of the Euro and all the other dire predictions of the doomsday crowd.

Bottom line: Europe will do what needs to be done and in the meantime U.S. investors would be better served by focusing on the increasing positive events which are unfolding within our own economy and profiting from these developments.

Posted in Macroeconomics, The Retired Advisor