Bill Fleckenstein
Hopes were running high for Tuesday's meeting of German Chancellor Angela Merkel and French President Nicolas Sarkozy, and what they might conjure up, although I couldn't possibly see what that might be.
The net of the press conference, halfway through Tuesday's trading session, was a lot of brave talk and many bold statements -- but few details -- relating to further European fiscal integration.
Thus, it is no accident that folks (especially Europeans) have been on edge this week, as the European Monetary Union is facing some major, major obstacles that threaten not only the euro, but the European banking system as well. And those problems should concern everyone.
Along those lines, I would like to spend some time focusing on the euro, and to do a proper job I will rely heavily on input from my oft-quoted pseudonymous friend, "The Lord of the Dark Matter," who has been almost uncanny in his assessments of the financial "plumbing" in Europe since 2006.
Euro's future: Not for the faint of heart
The first point I want to share speaks to some of the trouble we saw during last week's craziness, particularly with regard to French banks. Quoting the LODM:
"I wonder if people realize how bad things now are for EMU? Here is what I think has happened over the past week, and why the guardians of EMU are in a flap. For six months, or more, France has repeatedly called for a larger EFSF (European Financial Stability Facility, but suddenly, they are not."
The reason for that, he thinks, is that the French now realize that an increase in the EFSF would put pressure on their credit rating, which would not be a good thing, given all the derivative exposure of the French banks. (And, by extension, all banks in Europe, which collectively need to roll something on the order of $5 trillion in short-term debt in the next two years, according to financial commentator John Mauldin.)
Thus, the LODM believes that EMU officials are finding the walls closing in and themselves with fewer and fewer options, even as the stakes become higher and higher: "For EMU it is now fiscal union or die, and, barring a miracle, the odds are now on the latter."
That is a pretty potent comment. Yet, while he believes those in charge of the EMU will do "whatever it takes" to keep the status quo going, he does not think they understand what that would actually mean. Why would Germany, for example, vote to bail out other EU countries, perhaps on a permanent, ongoing basis, given the economic head winds its own economy is starting to face?
(As an aside, an extremely knowledgeable and well-placed friend of mine on Wall Street shared his view that the scope of the problem in Europe is probably $1 trillion, which he thinks is just too much for the Germans to afford, or for the PIIGS nations to endure through austerity. Thus, he believes that the flawed experiment called the euro is going to come to an end in the not-too-distant future.)
From IOUs to the ICU
Summing up the past two years, during which the EMU has attempted the fool's errand of implementing austerity in Greece, the LODM finds the results less than satisfying, as policy missteps have made bad situations worse. But here is where the rubber meets the road: "The guardians of EMU won't give up easily though: If it becomes obvious it is a choice between cutting rates hard and embarking on unsterilized buying of peripheral debt, or risking the failure of EMU, they will opt for the former. If it becomes obvious it is a choice between getting the euro down, or risking the failure of EMU, they will get the euro down. If it becomes obvious it is a choice between allowing the markets to function or risking the failure of EMU, they will shut the markets down and my oft-repeated warnings of capital controls, considered ridiculous even today, will become reality."
In short, he believes that "in its current form," the EMU's days are numbered, to the tune of the end of 2011. What that means for investors (particularly European ones) is that, "when it comes to EMU . . . trade as you like, but run like hell . . . . I think there is a growing risk the guardians of EMU do something to our financial system that could be worse than anything we experienced in 2008."
