Eurozone Woes Continue Enshrouded By False Hope

by: Bruce Wilds

If things were not already difficult for the eurozone, they became even more so with the election of Donald Trump. President Trump has dramatically changed the balance of power in Britain's trade negotiations with the EU. No matter how they try to camouflage and talk up the prospects for the monetary union of nineteen countries that share a common currency and the other nine members of the European Union which continue to use their own national currencies, the road ahead remains challenging. For years, this poorly constructed union has been criticized for being unable to resolve difficult issues, but rather, kicking the can down the road, postponing and delay have become the standard operation procedure for which they are known.

Greece's Debt Remains Unresolved And On The Books

Several stories at the end of January called to light that Greece's embattled government is again deadlocked in difficult talks with creditors, and this poses the risk that the country's debt crisis may again becoming an issue. This is because the European Stability Mechanism, which is the eurozone's financing arm, announced that short-term relief measures would be frozen with immediate effect. One of the world's leading rating agencies voiced concerns this will move Greece's seven-year debt crisis into a troubling new phase. Faced with the dilemma of agreeing to additional austerity, the fears of further uncertainty in Europe's weakest member state are again mounting. To make matters even more dire, the International Monetary Fund (IMF) now predicts that Greece's debt load could become "explosive" by 2030. If a compromise is not found, the scenario of Gr-exit may return.

An article that appeared recently on MarketWatch pointed out how the euro jumped to intraday highs after the head of President Trump's recently formed National Trade Council, Peter Navarro, told the Financial Times that Germany is using the currency's low valuation to exploit the U.S. and the European Union. Navarro also told the FT that Germany stands as one of the main hurdles to a trade deal between the U.S. and the EU. The advisor to Mr. Trump went on to say the euro was like an "implicit Deutsche Mark" whose low valuation gave Germany an advantage over its main partners. The comments suggest the new administration is focusing on currency as part of its hard-charging approach on trade; however, many other factors flow into the complex issue of trade and the value of currencies.

For example, in mid-December of 2013 EU officials announced a "crucial breakthrough" on a fiscal backstop for rescuing or winding up failing banks in the eurozone, but the details were inconclusive from the meeting of the eurozone countries, and they were still being haggled over by all 28 EU finance ministers in Brussels 18 hours later. In reality, Germany had prevailed in its reluctance to assent to any pooled liability for the eurozone banking sector under the new regime of eurozone supervision known as the banking union. The key issue, as always, was who pays to wind up or recapitalize a failing bank, and who decides when a bank should be closed down. The bottomline is, the breakthrough means a "common" or pooled eurozone backstop would not be in place until 2025 at the earliest, and would consist of money raised by the banks themselves via a levy starting in 2015.

This has resulted in a lower valuation of the euro in recent years that reflects a growing number of economic hurdles facing the area rather than manipulation to benefit exports. Any rise in the value of the euro will only exacerbate problems across Europe and strain the many social issues ripping away at the union. The fact remains the banks are in poor condition, and the eurozone countries are not ready to backstop their losses. Even Greece remains a problem and is once again on the verge of collapse. Greek yields surged in the past week, as the country didn't secure a positive review at the Eurogroup on January 26th. Additional noise came after indications that the IMF still views the Greek debt as unsustainable, and further measures from the Greek government are necessary as well as additional debt relief from European creditors.

The Unabated Flow Of Refugees Continues

Asset managers have acknowledged that political risks in Europe this year, including the French elections and German elections in September, could intensify pressure on eurozone banks. It is impossible to rule out another global recession within the next two years, which removes any incentive to invest in the eurozone banking sector anytime soon. As a matter of fact, such economic hardships would be a dagger straight into the heart of both the banks and the poorly crafted currency. As backlash grows, the forthcoming French presidential elections in April could see Euro-sceptic candidate Marine Le Pen come to power, and with more problems facing the Italian banking system, it is clear to see many additional risks for eurozone banks loom in the near future. It is little wonder that many investors view continental European banks as being excessively risky.

Supporters of deeper financial integration have not, cannot, and will not break through a roadblock from Germany and some of the other better-off countries to secure agreement on a common scheme to protect bank deposits. This means the poor countries remain poor and the economic divide continues to grow as money flows away from the weakest countries and banks and into the strongest. It is difficult to deny that the eurozone has become a dysfunctional mess. The people of Europe have come to see the meetings of leaders in Brussels and other cities yield little other than more meetings and photo opportunities. With social strife resulting from the flow of refugees and faced with stress caused by continued high unemployment, the angst of voters against globalism is on the rise.

Add to this the simple fact that Turkey is rapidly becoming a horrible fit with other members of the eurozone that value human rights and rule of law. Day by day, the promises of a cohesive region of peace and prosperity are pushed farther and farther into the future. Several terror attacks have shattered the calm Europeans have come to expect. The situation has gotten so bad that many Americans will simply not risk a visit to the area even though the dollar has strengthened against the euro, making such travel a bargain. Now we are hearing that the eurozone may turn towards China and Asia to buffer its prospects. All the above lead me to believe any hope that the region is about to suddenly turn the corner is more based on false hope and a wish than a reflection of events on the ground.

Footnote: This is only one of several articles I have written about the eurozone over the years, and that while it remains for me a top travel destination, my concerns for its future are on the rise. The article here continues along this theme.