The Divided States of America

06/27/2011 10:34 am EST

Focus: MARKETS

Igor Greenwald

Chief Investment Strategist, MLP Profits

Europe’s not the only continent with ideologically motivated economic conflicts between regions, writes MoneyShow.com senior editor Igor Greenwald.

Poor old Europe. Poor, broken, divided, and self-deluding Europe.

It’s easy to feel smug about the European debt crisis from the relative safety of North America.

From here, it’s obvious that Greece will never cut its way out of its debt trap, so that the latest loan dangled in front of it will only postpone the inevitable default, restructuring, indefinite semi-voluntary rollover, or whatever other euphemism the luckless lenders would care to invent.

The crowds of protesters besieging the Greek parliament can see the same thing, even if they don’t care about all the ramifications. They see new income taxes on Greeks making as little as $12,000 annually, along with a new levy on heating oil and a lots of other new burdens for an economy that was already sinking quickly under the previous batch.

They don’t care that once Greece defaults, a whole passel of regional German banks will need a massive bailout, or that Italy might face a run on its bonds, or that the European Central Bank will probably need to raise—or else print—new capital.

They don’t care that Ireland, Portugal, and Spain might also leave the Eurozone. And they certainly are not concerned about the European commercial paper on the books of US money-market funds.

All these are someone else’s headaches. And headaches they are, which is why the politicians trying to forestall them would happily buy a few more months for a few billion euros, if only Greece will play along.

And so the slow-motion collapse rumbles on, and even the old hedge-fund lion who once ate the Bank of England for lunch can only say that it’s “probably inevitable” that some weak sisters will exit the Eurozone.

“Inevitable” based on the economic math, and “probably” only because the prevailing temptation to postpone the day of reckoning is so strong.

We are, of course, above such dysfunction here in the US. Sure, our deficit is larger than the ones giving Europe nightmares. And sure, we won’t be able to pay our debts past July, unless Republicans who’ve ruled out tax increases can compromise with Democrats who insist on them as part of a deficit-cutting compromise.

But at least our differences are ideological and regional, not national. The freeloader from Mississippi who receives $3.42 in federal funds for every dollar of tax revenue he contributes, and the Kentucky lucky ducks who reap $2.15 for every buck they put in, aren’t even pursuing their parochial interests in insisting on deep cuts without tax increases.

Conversely, New Jersey isn’t looking to secede just because it gets back 78 cents on the dollar contributed. Mississippi’s per-capita income is just 56% of Connecticut’s, but at least Connecticut doesn’t much complain about federal subsidies amounting to 25% of per-capita income for its poorer Southern counterpart.

On the other hand, with the two major parties increasingly reliant on regional power bases, it may only be a matter of time. For a preview of economic contention between the states, look to the new Boeing (BA) assembly plant in South Carolina.

The National Labor Relations Board has sued Boeing, alleging that the South Carolina plant is punishment for the frequent machinist strikes at Boeing’s primary facilities in Washington state. Its evidence comes largely from quotes by Boeing executives, who’ve made no bones about the fact they came to South Carolina for the labor peace promised by this anti-union state.

They also came for the inducements that could cost South Carolina more than $900 million if Boeing ultimately employs 5,000 workers there, up from the immediate plans for 3,800. That would work out to $180,000 in state subsidies for each job created, and $1.25 in incentives for every dollar of Boeing’s investment.

In a sense, South Carolina is only doing to Washington what China has done to South Carolina: luring manufacturers with cheaper wages and a friendlier regulatory climate.

But China’s not reaping tax subsidies from the US the way South Carolina is from the more expensive, bluer states. Moreover, the jobs South Carolina has effectively bought will ultimately bolster its population and Congressional voting power.

There’s little the higher-wage, better educated states can do about this: even Boeing would have been in the clear had its executives kept their mouths shut, or merely claimed to be moving south for the lower wages.

The Constitution’s Commerce Clause is a tough nut to crack. But if the heavily Republican South continues to emulate China’s development strategy, expect more of a pushback from the states affected.

In some ways, this is nothing new: California’s neighbors have long based their development strategies on attracting refugees from that expensive state. Southern New Hampshire developed as an alternative to “Taxachusetts.”

But the recent hard times have only sharpened the interstate rivalries. When Democratic-controlled Illinois hiked its income tax earlier this year to make ends meet, Wisconsin’s Republican governor wasted no time calling on Illinois businesses to “escape to Wisconsin.” An Illinois group eventually retaliated in kind.

All this forms the backdrop for those pesky budget talks, in which the representatives of California and Kentucky will need to compromise across an ideological divide wider than any separating the Germans from the Greeks. To do so, Kentuckians will have to accept higher taxes while Californians swallow cuts in Medicare.

The current consensus on Wall Street is that everyone was posturing this weekend in staking out uncompromising positions. But the consensus last year was that Europe had too much at stake not to find a lasting solution to its problems.

Yet here we are.

Betting on Washington to find the spirit of compromise at the last second may not be the slam dunk everyone expects.

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