Week in Review Part I: Europe, Washington and Wall Street

Hope you enjoyed your little break from the European debt crisis because it’s back. First, Europe needs growth and there is none. Second, Europe needs a major firewall to shoot down the vultures who are circling Spain and, to a slightly lesser extent, Italy. Europe’s existing firewall is insufficient to deal with either one, if you look at the numbers honestly, let alone both at the same time. Third, both Italy and Spain desperately need real labor reform, but with Italian “superstar” Prime Minister Mario Monti caving into parliament and signing off on very weak measures, and Spain’s parliament not likely to accept anything approaching what’s needed there, the crisis will be hitting full force before long.

This week, Spain’s 10-year bond traded with a yield over 5.80%, the highest since December, while Italy’s 10-year was back up to 5.50%. If both economies were growing at 2% to 3%, you could live with those rates when weighing future refinancing needs, but knowing both are in recession, with Spain basically in depression when you consider its new record high 23.6% unemployment rate (50% among the youth), there is no way yields will remain below 6.00%.

But you know all those stories about the LTROs, the long-term refinancing operations? If I told you both Italian and Spanish paper is now at yields higher than December, what does that mean? It means the banks that sopped up all the essentially free cash and then reinvested it in higher yielding Spanish and Italian government debt, which is what the European Central Bank wanted the financial institutions to do, now have losses on those very same bonds, in some cases substantial ones. Which means what? The capital structure of these banks could be screwed up all over again. Which means what? If rates continue to inch higher, and the losses on the paper grow, they’ll have to raise more capital! Where will they find said capital? Beats the crap out of me. Cue the Homer Simpson blank stare.

I mean think about it. Europe legitimately thought that with the two LTROs, they bought about a year or so to get their fiscal house in order, helped by the fact that by year end, most euro economies would be back in solid growth mode. Well, the state of calm lasted about a quarter.

And if you think various euro nations, such as Germany, Finland and the Netherlands, are anxious to put their taxpayers further on the hook to increase the size of the firewall for Italy and Spain, then you’re just not dealing with reality.

But here are some stats on the euro-region economy, as if you needed more bad news. The PMI on manufacturing for the 17 nations sharing the currency came in at 47.7 for March vs. 49 in February. Germany was at 48.4, a 3-month low; France at 46.7, a 33-month low; Spain at 44.5; and Greece, 41.3, to name a few.

The eurozone unemployment rate hit 10.8% in February (latest available), the highest in 14+ years. You saw Spain’s rate. Italy’s, at 9.3%, is a cycle high, plus youth unemployment there is 32%. [The good figures come from Austria, just 4.2%; Netherlands, 4.9%; and Germany, 5.7%.]

Spain’s parliament is debating $36 billion in further austerity cuts, as mandated by the ECB and EC, but its big problem is the ‘regions,’ who represent 50% of government spending. The central government is reasonably transparent (from what I know) in its finances, but the regions are hopelessly corrupt. It was the regions, after all, that fueled the housing bubble which I documented so well in this space; one in which the level of corruption between the developers and municipal governments was off the charts, both being in cahoots with the banks; all three hiding the damage on their respective books. Actually, the developers didn’t keep any books. They just left town.

No wonder Spain’s Prime Minister Rajoy, who’s wondering why he wanted the job, said his nation was in “extreme difficulty.”

Then there is Greece. You remember them. A heartbreaking event occurred this week as a 77-year-old pensioner shot himself in the head outside parliament, not wanting to leave his family with debts. It’s the kind of tragedy that galvanizes a nation. In the alleged suicide note, he said:
“The government has annihilated all traces for my survival, which was based on a very dignified pension that I alone paid for 35 years with no help from the state.

“And since my advanced age does not allow me a way of dynamically reacting…I see no other solution than this dignified end to my life, so I don’t find myself fishing through garbage cans for my sustenance.”

Crowds soon formed and there were violent, albeit small, clashes with riot police; but these particular demonstrations could grow as they now have a symbol of their despair.

Washington

Stocks finished lower for this holiday-shortened week, and are likely to open lower on Monday, following a disappointing jobs report for March, with the economy only adding 120,000 jobs when 205,000 was the consensus estimate. [The unemployment rate ticked down to 8.2% from 8.3% only because the labor pool shrunk; as in more people stopped looking.]

While the stock market was closed, Friday, the futures market was open and stocks dropped 1% or thereabouts, foretelling Monday’s open.

Federal Reserve Chairman Ben Bernanke looks a little prescient (for once) as he’s been warning the recent employment gains could fizzle, and the Fed’s minutes from its March 13 meeting did indicate that some members of the Open Market Committee were concerned “additional stimulus could become necessary if the economy lost momentum or if inflation seemed likely to remain below” 2%.

So while at the time the financial markets took the March minutes as a sign there was decreased urgency for further stimulus, or QE3, with Friday’s poor jobs data, QE3 could be back on the table and that in turn could help soften the blow on Monday.

One thing is for sure. The economy has slowed, despite strong largely weather-related auto and retail sales.

But this was a week where everyone all at once seemed to focus on the deficit, and the looming train wreck following the election and a lame duck Congress that will be faced with deciding the fate of the Bush tax cuts, limits to entitlement spending, and the automatic budget cuts already planned, the “sequester” that takes effect Jan. 1 unless Congress acts beforehand. Plus, there is a very good chance we’ll have another debt ceiling debate, not just prior to year end, but possibly before the election itself.

So we’re talking about a truly tumultuous finish to the year, which will begin to give people the heebie-jeebies no later than mid-summer…as in I like my call for a crash, as first enunciated middle of last year, better and better. A crash, you understand, exacerbated by the computer program/high-frequency traders that the SEC, almost two years after the Flash Crash, is still just “investigating.” I mean seriously, folks, I don’t mention the articles that come almost every week talking of a new SEC investigation because the bottom line is they haven’t done anything, and these HFT players will one day screw us all worse than before.

Mohamed El-Erian / Financial Times

“The hesitancy (in hiring) is understandable, particularly given the uncertain outlook for demand. American consumers, as a group, still carry too much debt and have to cope with higher oil prices. The prospects for exports, which have grown markedly, are gradually dimming now that the rest of the world is slowing. Meanwhile, policymakers have yet to find a way to deal properly with a year-end fiscal cliff, the result of Washington’s repeated inability to design coherent fiscal policy….

“After a period of relative calm, Friday’s employment report should again sound alarm bells in many parts of Washington. The combined risk of an unemployment problem that is increasingly structural in nature and a rate that is bottoming out way too soon is bad news. It is the last thing America and, more broadly, the global economy need, especially at a time when Europe remains fragile.

“The hope is that Friday’s report will act as a catalyst for a renewed initiative on the part of Congress and the administration to lift the impediments to growth that have been repeatedly identified yet never suitably treated. More likely, however, is that political bickering and dithering may again deliver a depressingly familiar seasonal pattern that undermines the wellbeing of millions and renders the subsequent recovery even more difficult to secure.”

Speaking of bickering, President Obama blasted the House Republican budget of Rep. Paul Ryan (Wis.), calling it a “radical proposal,” a “Trojan horse” and “a prescription for decline.”

“This is now the party’s governing platform. It is thinly veiled social Darwinism.”

House Speaker John Boehner replied:

“Instead of reaching across the aisle to enact the changes needed to restore America’s prosperity, the president has resorted to distortions and partisan potshots, and recommitted himself to policies that have made our country’s debt crisis worse.”

What’s so incredibly stupid, and infuriating, about this debate is that broadly speaking we are only talking about reducing the rate of growth in the federal budget. But President Obama is flat-out lying in his descriptions of the Ryan plan. Nor does he refuse to level with the American people on entitlements, let alone his fellow Democrats, among which, in case you haven’t noticed, is not one…not one…leader among the bunch these days. Congressman Chris Van Hollen? Puh-leeze.

Editorial / Wall Street Journal

“The President’s depiction of the wonkish and formerly obscure House Budget Chairman as some political monster is itself telling. Mr. Obama is conceding that he can’t run on the economic recovery, the stimulus, health care, green energy or any of the other grand liberal ambitions that have dominated his time in office. All of those are unpopular or failures. He was elected on hope and change, but now his only hope is to change the subject to the ogres he claims are the disloyal opposition….

“The list of untrue things that Mr. Obama wants Americans to believe is evidently so long that Mr. Obama associated himself with Republicans, albeit mostly dead Republicans like Lincoln and Eisenhower. For the first time we can recall, Mr. Obama even praised George W. Bush, of all people, because his predecessor created a new entitlement for prescription drugs. He also said Newt Gingrich showed how smart he was when he called Mr. Ryan’s budget ‘radical’ and ‘right-wing social engineering’ last year.

“All of this in a political fable carefully constructed to erase the record of the last three years and blame every current anxiety on a GOP House that has been in office for all of 14 months. The President claims to have ‘eliminated dozens of programs that weren’t working,’ but the savings from these eliminations amount to less than 0.1% of the budget, or less than $100 million.

“Meanwhile, the budget has grown by more than 20% since he has been President. After deficits of $1.412 trillion, $1.293 trillion, and $1.299 trillion over the last three years, and an estimated $1.326 trillion due for 2012, he still claims the deficits are all Mr. Bush’s fault – except for the extra spending on Medicare, which he likes.

“It is especially rich of Mr. Obama to accuse Republicans of breaking last summer’s debt-limit deal – given that even the most sympathetic press accounts that are now emerging make it clear that the President blew up his ‘big deal’ with John Boehner. The House Speaker was prepared to trade higher taxes for mostly notional changes to entitlements, but Mr. Obama thought he could roll him at the last minute for even greater tax increases….

“The last two days have revealed Mr. Obama at his least appealing – and least Presidential – first warning the Supreme Court not to dare overturn his health-care law, and now demonizing the motives of his political opposition. It is a long, long way from his ‘there’s no red America, there’s no blue America’ stuff of 2004, much less the inspiration of 2008.

“If nothing else, Americans are getting a preview of the rhetorical uplift, the bipartisan problem-solving, and the unifying national purpose that would attend another four years.”