The result of Sunday's elections could spell doomsday for Europe and the stock market too, given what is playing out in Greece. Greece's two mainstream political parties PASOK and New Democracy garnered less than 33% of Parliament combined, and are a couple seats short of forming a coalition government. Given the distance between the two mainstream parties and the protest-vote winners on the fringe who oppose austerity at any cost, it's possible no government will be formed and a new election could follow. The former ruling party, PASOK, dropped to third after the radical left coalition, Syriza, sending a clear message from the Greek populace.
We discussed the Political Risk that is entering the frame for Europe in an article published on April 23rd, and this risk has definitely played a role in the unsettled state of the stock market over the last month. In fact, last week was the worst so far this year for stocks, though the disappointing monthly Employment Situation Report gets the blame for that, with a second straight month of soft job creation noted.
Now, don't get me wrong, because I'm no fan of austerity implemented during times of economic recession, and I have argued vehemently against today's popular wisdom in Europe from the start. That's because it seems too many folks have forgotten that it was precisely this type of activity that turned a mild recession into the Great Depression for the United States. A student of the Depression, Ben Bernanke knows it very well, but he is also served well by keeping quiet, since his expansionary efforts for the U.S. would have had more detrimental impact to the dollar if not for the hobbled euro, not to mention the tragic earthquake that struck Japan. Conspiracy theorists might also look toward certain of the rating agencies, which seemed to turn up the heat on Europe's PIIGS at a conspicuous moment for the dollar.
The results of the election should ferry in friction for the European master plan. I'm speaking of the drastic change the Germans have engineered for Greece, modeling it after its own image, so that it might receive aid to emerge from the debt it is buried under. It's too bad though that the powers that be did not factor in the opinion of the Greeks who have been forced to swallow a swift disruptive change to their lifestyle, and all because of the poor management of their government.
Greek private sector debt was relatively small, and yet the Greek people are being asked to pay. Granted, the Greek government's budget math would have Archimedes turning over in his grave, but some of the austerity measures being forced down Greece's throat make little sense for an economy under threat of recession. Extending the retirement age was one thing, but firing thousands of public sector workers was mistimed and too immediate in its implementation.
The good thing about democracy is that it allows for the regular evaluation of government actions, and given Greece's desperate acceptance of every EU command, the government will now be overhauled. What this means is that perhaps a radical voice will eventually emerge from Syntagma Square offering courageous (some would say ignorant) disagreement. With the way things have developed economically speaking, the voice will carry credence as well, and possibly shape a better way for Greece. God willing, it will not leave it outside of the euro zone, but that worst nightmare has a good chance of proving true. For now, not much of anything will get done, given the disjointed government.
The stock market could increasingly reflect this chaotic circumstance. Asian shares started a slide Monday, with the NIKKEI 225 lower 2.8% and the MSCI Asia Apex 50 off 2.4%. European shares seemed sure to follow, but hope remains that Francois Hollande might bend to form after meetings with Germany's Merkel and President Obama.
European shares certainly showed signs of concern last week, when the SPDR STOXX Europe 50 (NYSE: FEU) sank 1.5% Friday. The Global X FTSE Greece 20 ETF (NYSE: GREK) gained 1.2%, but it quickly traded its charge for change in for panic. Today, the GREK is down 7%, and shares of the National Bank of Greece (NYSE: NBG) are off 7.7%. In France, where Francois Hollande is celebrating victory and declaring the end of austerity, the iShares MSCI France Index (NYSE: EWQ) is actually higher. It would seem investors believe Europe will stick together, but at the same time look towards the sort of creative growth initiatives I've been calling for from the start. Or, perhaps, they're ready to be rid of Greece.
A deep and dark red day remains possible for global markets without certain reassurances from Germany and France, and the formation of a friendly Greek government. The American stock market tends to shy away from uncertainty, let alone chaos, sort of like the 1.4% decline in the Dow Jones Industrial Average implied last week (SPDR Dow Industrials (NYSE: DIA) down 1.3%). Given that the probability of a Greek default has suddenly increased for those wearing blinders, and that the European plan could fall apart as swiftly as life in Greece has, you can bet on increased volatility in equities and a favoring of sell orders as the dust settles and the direction of Europe becomes more clear. I reiterate, this should play out unless Europe can keep the funds flowing while easing on austerity. This will be the key, and we'll look to Germany to see if a door is opened.