Another Own Goal for Europe

07/05/2012 10:32 am EST


Igor Greenwald

Chief Investment Strategist, MLP Profits

Spain and Italy emerged from last week’s summit ‘victory’ over Germany with an unshaken commitment to economy-killing austerity, writes senior editor Igor Greenwald.

We’re less than a week removed from a dazzling display of Europe’s favorite sport: the kicking of the leaking financial can into the next fiscal quarter.

This one had Spain, Italy and, most crucially, France wringing concessions from outnumbered German Chancellor Angela Merkel at a high-stakes and contentious summit. The Romance League had finally got one past tightfisted Germans.

Who was to say it couldn’t now score at will? Certainly not the buyers who lifted the Dow 277 points Friday.

But now the adoring throngs have gone, and while Europe’s financial supporters at least finished a lousy quarter with a flourish, its futbol fans turned from their TV screens to news that Eurozone unemployment is up to 11.1%, a euro-era record.

Meanwhile, having extracted face-saving concessions from Germany, the Amigos Latinos may resume scoring...on their own nets. It’s nice and all that Spanish banks will be able to tap “up to” €100 billion of public capital (on terms still unknown) without further sullying their sovereign’s spotty credit. But that money is going to sit like ballast in a virtual vault to make the banks’ capital ratios look acceptable.

And as for the more immediately useful funds tallied as income and profits, there will be that much less of them to go around once the Spanish government fulfills its plan to squeeze a contracting economy yet again via spending cuts and tax hikes. This anti-stimulus could total 3% of GDP over several years, for as much as that counts coming from a deeply unpopular government with an unbroken record of target-shooting futility.

This won’t help Spain’s deflating economy, and it won’t encourage the supposedly rescued banks to lend. But the government is in a hurry to prove a thing or two to those almost-persuaded Germans.

Italy is paving a similar road to hell with its good intentions. The Italian economy was recently shrinking at the annual rate of perhaps 1%, escaping a deeper slump only because the austerity-touting government ran up a budget deficit equivalent to 8% of GDP in the first quarter.

But the government’s annual deficit target is just 1.7% of GDP thanks to recent tax hikes and continuing spending cuts. So Italy’s forecast is the same as Spain’s: less spending, less income, and ever-fewer jobs.

Set against these epic burdens is the pledge to prop up Spanish banks without adding to Spain’s debt load, an entirely symbolic rate cut expected out of the European Central Bank today, and a vague commitment to buy the bonds of the countries willing to shoot themselves in both feet with austerity.

Such purchases would come from the pan-European rescue funds—provided all 17 of the contributors approve, including a couple already saying they won’t. It’s hard to see how any of this will keep the market bears at bay for long as the European economies weaken.

European stocks fell Thursday after purchasing manager surveys showed a continuing slump in sentiment, notably in Germany and the UK. Yet German voters still overwhelmingly oppose additional financial commitments to needy allies. And Italy’s inflation is still running more than a percentage point above Germany’s, more than offsetting all the recent cuts and reforms to make Italian exports even less competitive.

At a meeting with Italian prime minister Mario Monti on Wednesday, Merkel urged patience, suggesting Italy’s reforms will eventually bear fruit. That seems unlikely given the half-hearted effort.

Long before Italy sees those results, Monti will be collecting his pension, hopefully in liras. His working-age countrymen might prefer a currency that lets them work. For Italy as well as Spain, the euro has become a serial job killer.

At some point, the Spanish and Italian governments will stop firing people or get fired. At some point an exit from the Eurozone will, as Michael Pettis predicts, appeal as the lesser evil.

But those points are a little further off after last week’s theatrics. And any gains from this delay will ultimately be dwarfed by its cost.
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