Saturday, July 14, 2012

The Atlas Question

The fate of the European economy matters because it will affect us.  Europe is teetering on the edge of a cliff over which it is likely to fall, the only question being how deep is the chasm.  To decide how to defend yourself you need to understand what is going on.

For those with a thirst for detail, the following provides a summary of current events and asks the telling questions, including the rhetorical question, "Is Atlas about to shrug and topple the entire oh so heavy house of cards?"  For the rest of you, read on.

Realists have already written much about the many trial balloons floated by European "leaders" but their proposals for the most part are ways to avoid the real problems they face, which are more government than they can afford and unsustainable debt.  If there were a solution acceptable to the insolvent countries, they would have implemented it already. But they continue to maintain that they should borrow more money and not restructure their economies to be self-sustaining. It just doesn't compute without massive money-printing.

As a solution (and a way to preserve the Eurozone as is), the "leaders" of Europe propose to have a European superstate which will control absolutely the finances of its member countries and which will be able to force any country to tighten its belt, even severely (envision some outside entity summarily raising the retirement age by 15 years).  They also propose as part of the same package to launch another bailout fund (The European Stability fund -- "ESM") with a blank checkbook/unlimited call for more funding from the member states, the practical effect of which will be to place Germany on the hook for forking over 32 to 56% of its GDP to bail out profligate spenders whenever bureaucrats in Brussels require it.  The same "leaders" propose to effect this scheme without securing approval from their countries' voters, which, fearing rejection, the "leaders" have studiously avoided.

The truth is that the proposed scheme is probably the only economic solution that could work if all of the countries make nice and the German people are all altruistic.  But they are not. Only 4 of 17 countries needed have approved the treaty required for the ESM. Putting it to the voters, especially in Germany, where the people have realized that they are being victimized, is problematic (they might vote it down) and not putting it to the voters is problematic (as in defiance and/or civil unrest).  Moreover, as the past two years demonstrate, as long as the insolvent countries can borrow money, they will postpone the day of reckoning.

This will not end well.  The markets are (slowly) beginning to realize that the frenetic posturing of Europe's "leaders" is just whistling in the dark.  No solution is forthcoming soon.

I have always recommended that you remain alert, nimble and quick but have avoided giving investment advice.  Since 2008 when I began writing this blog, the Dow-Jones index dropped 4,000 points to below 8,000 and rebounded back to over 12,000.  I warned that the drop was coming but I expected a slow recovery as businesses worked through a recession, which is only now beginning to end.  Little did I imagine that the Fed would take the unprecedented step of pumping up the the stock market, which it now freely admits as Fed policy, to influence investor perceptions and restore confidence.  The unintended consequence of implementing its policy was to destroy the market as a useful predictor of stock values and business and economic health.  Consequently, many investment professionals have become Fed watchers, relying less on balance sheets and business prospects of private enterprises and more on the public pronouncements of government bureaucrats and politicians.

And the professionals have become short time traders, gambling on government policy, rather than long term investors who hope to share in the real wealth created by productive businesses. There will come a time when the less sophisticated investing public finally realizes that they have been playing in a casino and that the cards have been stacked against them by the house.  How big a market drop will that realization trigger -- when and how fast?  I do not know but it could be soon -- or not, if they can find another can to kick.