This month’s Wall Street Journal’s Forecasting Survey, representing some 50 plus panelists, showed expectations for U.S. GDP growth in the 2.3% - 2.6% growth range for 2012. Little change is expected in either inflation or interest rates, and the unemployment rate is expected to stay around its current 8.1% range then dip slightly to 7.9% by year’s end. These results are more or less consistent with those of last week’s Bloomberg Monthly Survey which I participated in last week. The biggest concern seems to be Europe, so that’ll be today’s focus.
Greece is again backpedaling on its austerity pledges, and the ECB (European Central Bank) is making statements that, “technically, a Greek exit can be managed. Not fateful but not attractive” (Financial Times). That comment comes from Luc Coene, the central bank governor of Belgium, not Mario Draghi, president of the European central bank. Draghi refused to even discuss the possibility of a country exiting the Euro (Financial Times). Other EU officials have stated that, while a year or two ago a Greek exit would have been a “Lehman” event (i.e. threatening the stability of the global financial system), it wouldn’t be one now. This is all in response to the rising popularity of (and possibly Greece’s next prime minister) Alexis Tsipras of the far left (anti-austerity) Syriza party. The concern is that a new Greek government, one that denied the austerity-inducing loan agreements negotiated with the EU and the IMF, could force Greece to exit the Euro. EU officials have stated that the firewalls put in place over the past year would thwart any kind of financial contagion effect. I doubt that, and it would certainly be tested with a Greek exit.
Among the more stark prognostications for Europe are those from Hong Kong-based Gavekal, which argues that the European options are simple and stark: Either, (1) we get a significantly more federalist Europe in fairly short order, or (2) the Euro is no more. Among the more positive strategists are Jefferies’ David Zervos, who argues that global GDP growth is hitting 3%+ without Europe (who needs em?), and that fiscal integration (which means more European Socialism and hence the most likely outcome) reduces downside risk there, which also limits their upside but increases ours. Wells Capital strategist James Paulson says, “Here we are again, this time it was European election results which sent the Euro-Wolf howling about the end of the euro zone, the end of global economic recovery and the end of the stock market. How many times will U.S. investor[s] [become] convinced to ’sell’ because of breaking euro-zone news?” (Wells).
Here’s what I think is going on. I’m somewhat suspicious of frameworks that draw from the 1990s, a time when the U.S. could post great GDP and stock market growth, even while Europe was stuck in low growth "Eurosclerosis" along with Japan (the second largest economy in the world at the time). That’s because the world is more globally integrated now than it was then, so country GDP growth rates appear to be more correlated. The problem is that no one can really quantify how big this difference is. They can (and do) try, but I wouldn’t hang my hat on these educated guesses. I think Gavekal (above) is closest to the mark, but here’s how I see it: Exiting the Euro would be a disaster for Greece, particularly the Greek people (no lines of credit, no ability to attract investment capital, etc). They know this, which is why polls show that 80%+ prefer to stay in the European Union. But the threat of a Greek exit and ensuing financial contagion in Europe kind of puts the healthier European economies at Greece’s mercy. They know this, which is why there are so many “we can manage a Greek exit if it comes to that-but it’s not our preference” statements lately. I think they’ll work it out in an agonizingly drawn-out way, because that’s what they both want.
Posted on Thu, May 17, 2012
by Josie Coiner