This Market is Like the Movie Groundhog Day

Posted by Jeff Carter
on November 1st, 2011

If you haven’t seen Bill Murray in Groundhog Day, you might want to rent it. Murray wakes up and relives the same day over and over. The stock market is just like it. But this is not like 2008 in the US. This crisis is about sovereign debt-not private companies. It’s a lot different when a group of countries is close to defaulting on it’s public debt.

Last week the market rallied smartly on the hopes that the European situation is finally solved. However, clever analysts started looking at the actual policies behind the headlines and worry started creeping in.

The reality of the announcement was the Europeans hadn’t really solved much, they just promised to throw more money at the problem.

Cold water was tossed in the face of traders when Italy auctioned off its ten year notes at 6%. There is no way Italy can support paying an interest rate of 6% on its debt because Italy doesn’t have the kind of economic growth that can support the debt/gdp ratio they have created. The Italians have talked the talk on austerity, but they haven’t walked the walk. Fissures began appearing in markets.

Today we learn that the Greeks are going to have a vote on the bailouts. A “referendum” put to the people in January! The market doesn’t like it because it creates even more uncertainty. There really isn’t a good outcome either. If the referendum vote is yes, then the Greek government will enact an austerity program and the rioting and protesting might stop. A no vote signals doom for Greece and they probably will be kicked out of the Euro confederation.

If Greece votes no, all the European banks and governments that have decided to grant them credit, take haircuts and otherwise appease them will suffer even more losses.

Last May, I thought it was time for the Greeks to say moutzah to the Euro.

The problem for the rest of the confederation is if Greece leaves, they risk a domino effect that causes a break up. They are desperate in their attempts to hold it together.

However, because they are a bunch of bureaucrats, they can’t pass anything with real teeth. The Euro doesn’t have any taxing power, and can’t control individual government spending programs. It’s merely a handshake agreement. They can continue to hold meetings and talks but this is more akin to the US-Soviet confrontations in the 1970′s than a Federal Reserve Board meeting.

I believe the great experiment might blow up, and soon. The opportunity costs of holding it together will be too great. What effect that will have on the American economy in the short run is anyone’s guess-but it won’t be positive.

If there is anything we should have learned in the past several years, it’s take your medicine early. In America, bailed out banks have become zombie banks. We created an environment where there is less competition, more regulation and a “too big to fail” put on the five largest banks. The banking crisis that would have been over had we allowed banks to fail in 2008 is still lingering.

Europe has struggled mightily for over a year. Their struggles are impacting our economy and stopping any forward momentum we have. Meanwhile, the Chinese aren’t looking so hot in Asia either. Looking across the Sea of Japan, the Japanese provide a textbook example on how not to deal with a financial crisis. They have had two decades of stagnation.

Each of those governments tried the spend more, quantitative ease, tax more solution. They have their individual quirks. The Chinese are communists, and it’s doubtful even the government knows where all the money is. Their real estate bubble is about to pop. The Japanese have used quantitative easing like a heroin addict uses morphine. Europe is a tax and spend machine. No one has tried to cut spending, cut taxes, and decrease the role of government in the private sector.

The US is faced with a lot of poor choices. What we should be doing is aggressively cutting spending and taxes to create indigenous growth. That will help cushion the blow as the rest of the world implodes. Instead, the administration is proposing more spending, more government programs, and higher taxes as a remedy. There is no chance the Obama plans will work-not even on a blackboard.

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