DABERIAM LXVI

December 2011

Lewis Carroll’s Wonderland has achieved reality in Europe. Alice would have been at home at the meeting of the heads of state last weekend. Chancellors, Presidents, Prime Ministers – all meeting to discuss “the crisis” in Europe and come up with a solution. The first and most bizarre of assumptions starts with the idea that the incredibly complex treaty arrangements that are the basis of European economic governance are workable; the second that there is a mechanism by which many of the members of the currency union can meet their debt obligations; and thirdly that heads of state can in reality understand these enormously complex problems and solve them by meeting for a weekend without referring back to their respective Parliaments.

Without further extending the list of possible things you have to believe before breakfast, it is difficult not to come to the conclusion that the European problem will not be solvable until there is the crisis of government defaults.

The upshot of the deliberations seems to be the conclusion that the treaties governing the management of European finances will need to be renegotiated and, in the meantime, the European Central Bank will provide unlimited three-year loans to European banks to enable them to buy the sovereign debt of their respective countries. The European banks will be able to borrow from the ECB at 1% and buy European Government Bonds yielding 6% or more. Everyone is happy and the governments of Greece and Italy, to name but two, will be able to borrow as much as they like and their banks will be able to make huge profits, so shoring up their own balance sheets. Apart from the fact that this is a scheme that Madoff would have been proud of, it is in concept so financially illiterate that it is doubtful whether the Red Queen could even have conceived of it.

Against this backdrop, one can only hope that industry and commerce in the rest of the world can carry on regardless of Europe. China’s leaders, who are the best advised and most financially literate, should achieve their objective of stabilising their own economy and we are likely to see China maintaining steady growth, while reducing its dependence on exports, particularly to Europe.

While China is a directed economy and the most successful that history has seen, the USA’s free market model remains highly successful in spite of the rudderless Government. In the free economy of the US, private expenditure is holding up surprisingly well and employment readings are also good.

In the corporate sector, by and large, companies are doing well while remaining cautious and conserving liquidity. It is the extraordinary phenomenon of America that the private sector can keep going in spite of the incompetence of the Government sector. I think it brings sharply into focus the difference between European and American capitalism. In the US the Government is a much lower percentage of GDP and is far more democratic and less bureaucratic than Europe. It is difficult to know where power resides in Europe. Brussels? Berlin? Paris? Who said, “If I want to call Europe, what number do I dial?...............”

Always looking for good news, one can hope that the rest of the world is gradually adjusting to the idea that they should avoid Europe. The banks in the rest of the world have the time to cut their exposure and the rest of the world’s businesses are slowly factoring in the European train-wreck.

Hopefully at the same time, the IMF is having discreet discussions with the Central Bank of China, the Fed, and others about the sort of scenarios that could be played out as we go into 2012.

Sitting in London, it is difficult to come to any particular conclusion about the UK economy. The UK’s Prime Minister decided to veto participation in the discussions about the new European treaty, while at the same time demanding that Europe should work on a new European treaty? UK Government policy on many fronts seems to be limited to sentences beginning with “Bold” and “Comprehensive”, but the detail remains in the “work in progress” category.

In November I thought there was a possibility that the Greek government could throw in the towel and start the unravelling of Europe, it would seem this has been postponed at least until after Christmas. And US markets could still go either way.

We live in interesting times. Unfortunately, they are probably going to get more interesting.

My apologies for rather a confusing and perhaps not too optimistic view of the world, but two quotes from Einstein keep re-occurring to me:

“I believe there are two things that are infinite – the Universe and man’s stupidity, but I am not sure about the first.”

Secondly, his observation that “insanity is the act of doing the same thing again and again, expecting different results.” The institution of Europe perhaps is aptly named as the place where European leadership resides!

Damon de Laszlo
15th December 2011