Europe the opera

What if the fat lady does sing?

Right now the news out of Europe is bleak. The occasional static about rescue packages and glimmers of hope are ephemeral. But wait, there’s more! Just as it seems like it couldn’t get worse, S&P puts 15 European nations on credit watch! (Yes, that S&P, the company that rated the subprime mortgages AAA+ and we all know how that turned out…)

As outlined in last week’s missive, the problem is that Ireland, Greece, Spain, Portugal and Italy – and probably a few others yet to be revealed – have borrowed too much. If, for example, Greece were to default, the fear would be contagion, domino effect, tumbling house of cards, etc.

Italy is the current poster child of woe. It is $AUD 2.5 trillion in the hole with an $AUD 540 billion payment looming next year. The chances of it meeting that under current market conditions are, well … your guess is as good as mine.

Right now we face two possible outcomes. The first has the fairy tale ending. The European Central Bank (ECB) takes bold action to reduce borrowing costs for Italy, Spain and other heavily indebted countries. We avoid kicking the can down the road again, and, after a year or two, things settle and the EU moves forward, albeit with some tighter regulations.

The second option has more of a Brothers Grimm feel. The liquidity crisis turns into a solvency crisis and then into a meltdown followed by a European depression. The “Club Med” nations, amongst others, get their marching orders and another union, centred around Germany and France, pops up with centralized budget oversight and tight legal constraints on how much debt national parliaments can issue.

If we go down that yellow brick road, may I suggest dumping the name “euro”? That brand is somewhat tarnished. I’m thinking the Frerman?

The countries not invited to the party will either group together to form a sub-union of also-rans, or just go back to using their old currencies.

Meanwhile we’ll continue tankering out our backyard to satisfy the countless Asian nation building projects set to shape the 21st century. We really are the lucky country eh?

Posted by Andrew Pegler