Wednesday, June 27, 2012

Europe's REAL Problems ... No Time for Schadenfreude

Schadenfreude simply means the pleasure derived from the troubles of others. In the U.S., it's tempting to look with disfavor at our European friends and the position they're in these days. Tempting but wrong, of course.

That said, there is much for us to learn from the European situation, and we need to soak up, and then apply to our own situation, this vicarious knowledge as much and as rapidly as possible, too.

If we don't act quickly, someday in the not distant future we may be facing a similar situation to the Europeans, although it's not likely for at least several reasons.

Accordingly, let's review three good reasons confirming why our American situation is indeed much different than that facing Europe: (1) We have a long history of individualism, entrepreneurialism, free market competition and the rigors of private sector capitalism; (2) we have a very real shot at achieving energy independence; and (3) as a result, we may someday soon have the legitimate opportunity to reduce defense spending as a percentage of total government expenditures.

To the contrary, European sovereigns (1) have well established socialistic governments and cultures, (2) must import most of their energy requirements, and (3) already spend virtually nothing on national defense.

So what will Europe's leaders decide to do this week, and what should we realistically expect from them in the coming weeks and months?
European Disunion Faces Endgame has this to say about the European "keys to the game:"

"One test of whether proposals for European banking, fiscal and political union circulated ahead of Thursday's summit will calm the crisis is to ask a simple question: Do the proposals make it more likely that France raises its retirement age to 67? It was only recently reduced to 60 for some workers.

Put another way, will the proposals make it more likely that struggling Italian companies can lay off underperforming workers without the say-so of a judge? Or, to labor the point, will they make it more likely Spain shuts down the branches of failed banks rather than keeping them afloat?

Sadly, there is little in the flimsy seven-page document put together by the presidents of the European Council, European Commission, European Central Bank and Eurogroup to suggest the answer to any of these questions is "yes."

The road map to a banking union has been well-flagged. The proposals for tighter control of national budgets build on already existing arrangements. But the section on how to ensure national governments pursue policies that lead to strong and sustainable growth and employment is threadbare. It contains nothing more than platitudes about the need for "measures to strengthen the political and administrative capacity of national institutions."

Credible mechanisms to ensure countries tackle unaffordable welfare systems and inflexible labor markets are needed. Without those, talk of pooling debt via a common bank-deposit guarantee program or common euro-zone bonds must be for the birds.

It isn't enough for countries to stabilize debts if structural rigidities and long-term pension and health-care commitments make it impossible for them to expand and cut their overall debt burden. So long as Italy is unable to expand faster than its 20-year average of around 1% per annum, it will remain a sword of Damocles over the euro-zone economy.

What mechanisms could possibly convince governments, citizens and investors that vital economic overhauls will be implemented? That is hard to see.

It would help if national governments started taking steps without external pressure. But politicians are reluctant to dismantle expensive entitlements and voters even less willing to support those who try. . . .

That leaves the euro zone in a dark place. A robust political union with central powers to tackle long-term competitiveness offers the euro zone its best hope of lasting stability.

The alternatives are a breakup of the single currency or turning it into a giant version of Italy—a difficult-to-govern transfer union with political and financial instability hard-wired into its constitution. Both of those ultimately lead to the risk of financial catastrophe."

My Take

Most European countries are in a no growth to recession mode, and many of them are, for all practical purposes, insolvent. As a result, issuing more bank guarantees, more government loans and putting more money in circulation won't solve any of their fundamental problems.

So while I'm definitely not in the "euro is doomed camp," it is certainly difficult to see them making any much needed progress anytime soon. My best guess is they'll find a way to muddle through for now without making much lasting headway to a brighter future.

That said, here in the U.S. we have our own issues with states like Illinois and cities like Stockton.

Simply stated, European and U.S. governments have made promises that go far beyond the willingness and even capabilities of their citizens to fund with higher taxation, especially because of feeble to non-existent economic growth anytime soon.

There is simply too much debt for the size of our economies to be able to service comfortably, if at all.

And in any event, these humongous debt loads of the various European nations and the U.S. will meaningfully restrict solid economic growth for a long time.

Add the deleveraging process well underway in individual households along with their underwater mortgages, and it's not a pretty picture. Something definitely has to give, and soon.

To repeat, unlike in America, Europe doesn't have the prospect of energy independence.

Nor do they spend anywhere near what we currently spend on national defense. Thus, they have no room for cuts.

Add to that their huge debts and welfare state status, and it's going to be a long hard slog for years to come.

Let's hope I'm wrong and that the European leaders demonstrate a little backbone these next few days.

However, don't bet on it.

Thanks. Bob.

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