Europe's Expensive Education

05/27/2010 11:46 am EST


Igor Greenwald

Chief Investment Strategist, MLP Profits

Stock markets around the world have shed more than $7 trillion in the last month, according to Bloomberg.

In the 30 days ending with Tuesday's European meltdown, the equivalent of two-thirds of the market capitalization of the Standard & Poor’s 500 had been wiped off the face of the Earth.

That's the unfortunate reality whether we scapegoat the Germans or the Greeks, the Dear Leader or Cordoban credit unions.

On the bright side, we're now in possession of some very pricey incremental knowledge. We know, for example, that the real nightmare for stock and bond investors is not the break up of the Euro zone or sovereign default, but the risk of a lost decade if growth is snuffed out by a regime of permanent austerity in an attempt to prop up political vanities and unsustainable debt loads.

We also know that Europe has, instead, taken a halting step onto the more pragmatic path blazed by the US, which leads from bailouts to negligible interest rates and bank-debt guarantees and, ultimately, to the return of growth. Treasury Secretary Tim Geithner is telling. Europeans this week that further steps along this road are their only way out. Taking his advice promptly ought to prove less humiliating than doing so later this summer under the threat of an imminent banking collapse.

Because why would anyone trust European banks until they've reckoned with the cost of their Mediterranean follies? Spain is the next Greece, except much bigger and perched on a scarier property bubble that has only just started to deflate.

The notion that Europeans will permanently lower living standards so that banks can continue to dodge loan write-offs remains deeply entrenched at the European Central Bank, national governments that still haven't come to grips with the looming deflation, and pretty much nowhere else.

The sooner the ECB junks its German playbook, lowers rates, and gets busy buying bonds in earnest, the better. Ditto for the job of shoring up the banks. Otherwise, Europe is the next Japan—a giant enfeebled by a failure of political will to confront inconvenient facts and lending losses.

Big public spending deficits in the developed world are a by-product of the deepest recession in several generations and of the efforts to keep the financial system afloat. So, deficits matter less than growth potential—ask the investors fleeing European debt for the presumed safe haven of US Treasury bonds.

If the ECB hasn't quite grasped the gravity of the situation, perhaps Beijing will. At least that was the hope of investors who let Shanghai stocks up for air this week after a 20% dive since mid-April. The government's not so interested in taming inflation as to crush its stock market with further tightening measures while Europe smolders, optimists suppose. But that was before Wednesday's late wilt on Wall Street, which followed a story that China might be looking to lighten up on European bonds.

The Chinese trend is no one's friend, writes Paul Goodwin. But once the correction runs its course and shifts stocks into stronger hands, there ought to be plenty of bargain-hunting opportunities, he notes.

Rich-country club the Organization for Economic Cooperation and Development has just hiked its global growth forecast to 4.6% this year and 4.5% next, Europe be damned. It's assuming Asia and the Americas will not only maintain but build on their momentum before the euro hit the fan.

Should this pan out, crude will almost certainly trade up from recent lows, strengthening John Snowden's case for a North Sea driller. Less adventurously, Gavin Graham recommends a Canadian cable TV purveyor. It's got a balance sheet that governments can only dream of. But then it's not the one paying all those jobless claims.

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