At first the Euro seemed so logical.
The southern European countries got sound money and low interest rates. The northern European countries got expanded markets and cheap labor. What could go wrong?
The low interest rates encouraged a housing bubble in Spain and overconsumption in Greece and Portugal. Expanded markets fed a Teutonic sense of destiny, and German shipments to the rest of Europe grew from 45% to 65% of all exports. But overproduction and overconsumption have run their course, and the adjustment will be difficult.
Two bipolar solutions present themselves One model has the two regions going their separate ways. A new currency in the south will lead to default, devaluation, and depression in the north, where a strong Euro causes overpricing and a lost decade or two as Germany’s export-driven model struggles to replace the Club Med.
The alternative is the development of a single, integrated sovereign bond market as the forerunner of a pan-EU fiscal federation. This would be like US Federal guarantees of State debt, something that has never flown here. If we can’t do it, how can the Dutch and Italians trust each other?
Still, America has a tradition of dual-sovereignty and federalism while Europe has always been more statist and universal. And the alternatives are pretty clear: increased union or depression. This is just the next step in a process that began in 1958 with the Treaty of Rome.
Whichever path Europe follows, we’re in for some interesting times.
Douglas R. Tengdin, CFA
Chief Investment Officer
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