Europe Is Living In A Fool's Paradise

by: Craig Pirrong

Europe seems to be challenging Alfred E. Newman - "What, us worry?" Draghi and the EU have papered over - I am tempted to say "literally" - the immediate financial issues pressing on Spain and Italy. Given the respite from panic, the Europhoria seems to have taken over.

But the fundamentals are still abysmal. European unemployment hit all time highs - over 11 percent across the Eurozone, 20+ percent in some countries, and 50+ percent in some demographics (notably younger working age individuals) - in countries like Spain and Greece. Greeks are reenacting a Mediterranean version of post-WWI Vienna, venturing into the forests to collect firewood. Spain has stuffed its banks and pension funds with government debt; they have no capacity to absorb any more. Given the parlous state of the banks (Bankia is apparently billions of euros underwater), and the dire straits of the Spanish economy, it's hard to see all of Draghi's paper keeping out the gales of reality for long. Add to that the continuing move of Catalonia towards independence, or at least greater autonomy, it is evident that the downside risks are huge.

Meanwhile, France is sputtering, to put it generously, under Hollande's socialist government. Growth is moribund. French economists have opined that the government's point 8 percent growth forecast is overly optimistic. Capital is fleeing. The tax-and-spend approach is almost certainly going to condemn the country to stagnation, at best.

Meanwhile, with all going so well at home, France is intervening aggressively in Mali, with mixed results at best. I shall pass over in silence French hypocrisy regarding foreign intervention. The initial French air attacks apparently halted the Islamist rebels' momentum, but not for long. Within 24 hours the rebels had regrouped and recommenced their advance. On the opposite end of the continent, in Somalia, a French commando raid to free a hostage - an intelligence operative who had been held for several years - turned out badly, resulting in the death of the hostage and one French soldier, and the capture of another. Today the Somali Islamists announced the death of the captive, but boasted they had obtained much information from him. Draw your own conclusions.

In the UK, Cameron is walking a tightrope, threatening to renegotiate Britain's relationship with the EU, but refusing to put Britain's membership to a vote. His position is infuriating the French (go figure) and threatens his position atop the government in the UK, as splitting the difference just serves to get both the Europhiles and the Europhobes furious at him. And Obama has told Cameron to get his mind right, and get on with the EU program, or risk the special relationship with the US.

And Germany? Germany is being strangely quiet.

In sum, I think Europe is living in a fool's paradise. The ECB has staved off the imminent crisis, but the fundamental economic weakness remains, especially in Greece and Spain. Moreover, France is in a dicey situation at best, and socialist nostrums can only make things worse. Military action, and in particular, a protracted military engagement in a place as wild and sprawling as Mali, can only stress the French polity.

Yields are down, and there is a sense that the crisis has passed. But the ECB can only levitate things for so long, especially if France struggles, or worse. Greece and Spain are in extremis. In my opinion, it is only a matter of time before the bond markets get a serious case of the yips again. So enjoy the what-me-worry? moment while it lasts. I don't think it will last long.