STOCK MARKET WATCH -- Monday, 16 January 2012

[Demeter]

31. S&P is right about Europe

http://www.macrobusiness.com.au/2012/01/sp-is-right-about-europe/

The outcome of these downgrades are as follows:

Country____Old Rating___New Rating___Cut

Austria______AAA________AA+_______One notch, loses top rating
Belgium_______AA________AA________None
Cyprus_______BBB________BB+_______Two notches to junk
Estonia_______AA-_______AA-________None
Finland______AAA________AAA________None
France______AAA________AA+________One notch, loses top rating
Germany____AAA ________AAA________None
Ireland_____BBB+________BBB+_______None
Italy_________A_________BBB+_______Two notches
Luxembourg_AAA_________AAA________None
Malta________A___________A-________One notch
Netherlands_AAA_________AAA________None
Portugal____BBB-__________BB________Two notches to junk
Slovakia_____A+___________A_________One notch
Slovenia____AA-__________A+_________One notch
Spain ______AA-__________A__________Two notches

Given the performance of the rating agencies in the lead up to the GFC, and the corresponding fall out, it would be easy to set aside this news as yet another overzealous attempt by the industry to compensate for their poor performance during that period. I expect some market players to do just that, however in my opinion in this case that would be a mistake.

As Macrobusiness readers will know, my long running assessment of the European financial crisis is that the competiveness imbalance between the core and periphery is the major issue and, although some of the current policies being implemented are stated to be aimed at addressing this, the reality is that they are actually making the problem worse. The latest Spanish employment figures are once again a reminder that austerity policy aimed at already deflating economies in order to make them more competitive are in fact counter-productive. What we have seen and continue to see from the periphery nations is a not growth at all, but a reduction in industrial production and a rise in employment, and therefore a renewed burden on the government sector meaning its attempts to deleverage fail while the private sector weakens further....As I said in my weekend post the issues of Europe aren’t purely economic. What we have also seen over the last 2 years is economics wrapped in a political ideology. The idea that private sector players should somehow be immune to the fallout of the failings of the European monetary system even though many of those same players profited immensely from its rise. It is well known that if you purchase an equity share or an unsecured bond then you are rewarded with an interest rate that reflects that there is a risk that you may not get repaid. The riskier the investment the higher the compensation, it is quite simple really, yet for some reason the political-elite of Europe insist that these basic tenants of investment need not apply.

This ridiculous situation simply adds to the problems because nations that have no capacity to deleverage without deflating their real economic outputs, and therefore income, are being forced to meet their existing obligations. It is a simple fact that “bills that can’t be paid won’t be”, yet for some odd reason this message appears to be lost whenever an EU summit gathers. The fact is that without some form of large compensatory income non-competitive nations will not be able to meet their existing obligations under a regime of supra-European austerity. What is likely to occur, as has become even more evident in the most recent European PMIs, is that the core nations will be become relatively stronger, the weak weaker, but overall the whole economy of Europe will shrink. MORE