What Europe needs to do next

Founder and Publisher of the Switzer Super Report
Print This Post A A A

Trying to understand the European Union deal that got the thumbs up from 26 out of the 27 countries — Great Britain being the dissenter — is as challenging as understanding Europeans. Peoples of the New World such as Aussies and Yanks don’t always get our European friends because the inputs on the Continent have been very different to ours and so the outputs are a little ‘head-scratchingly’ hard to comprehend at times!

My best early gauge on the value of the EU agreement was Wall Street and the Dow went up 186 points, so that’s a good start. However, this EU agreement to be more fiscally responsible in the future is only another good step in the right direction. There are more to go — be assured of that.

To put this into perspective, when it comes to most matters of substance, the warring tribes of Europe historically have taken diametrically opposed positions and so let’s just be grateful for small mercies.

The right direction

The EU has been heading in the right direction over the past month and that’s why the Dow Jones index is up 5.24% for the year. That’s a long way from the negative 11.4% our local S&P/ASX 200 is down for 2011, though I think we will whittle that gap away over the next few weeks. And I bet we end in positive territory for the financial year, as we have for the past two years — a lot of people forget that fact amidst all of our day-to-day gloom.

For the record, 2009-10 saw the index up 8.7% and that ignores dividends and franking credits. While 2010-11 was up 7.9% in prices alone. That’s why I care more about financial year returns rather than calendar year results.

Let’s now look at what was achieved at the EU Summit and see if it’s going to help our portfolios end up in positive territory for 2011-12.

In a nutshell this is what I see:

  • Chancellor Angela Merkel of Germany has imposed German fiscal discipline on the EU and 26 out of 27 countries went along for the ride.
  • The UK said no and this has weakened the deal slightly but at least the debt-troubled PIIGS (Portugal, Ireland, Italy, Greece and Spain) have agreed to give up their dodgy debt ways.
  • The debt solution for the PIIGS is still not clear but gaining agreement for future fiscal discipline is a start and it could bring forth supportive responses from the International Monetary Fund (IMF) and Group of 20 countries (G20).
  • There is a plan to bring forward the European Stability Mechanism that has a 500 billion euro war chest and that adds to the 200 billion euro from the central bank action.

A final point needs to be made: the German win over the EU could mean a longer deeper recession because of the tightening measures; the group’s actions are very different to the USA’s spend and prosper approach.

Will the European Central Bank intervene?

I’m hoping we see some monetary stimulation to help bring down bond yields in Europe. That will help share prices and prevent a European recession derailing global economic growth.

This is the way The New York Times saw the deal over the weekend and it does sound an important word of warning to investors: “Mrs. Merkel’s strategy remains highly risky. A year ago she had miscalculated when she insisted that any bailout had to include the private sector’s chipping in with the public sector, a requirement included in the Greek rescue. The markets punished Italy and Spain for that stance, and it was dropped last week at the Brussels gathering.”

That’s why I hope to see some monetary irresponsibility ASAP as a reward for future EU fiscal discipline.

Important information: This content has been prepared without taking account of the objectives, financial situation or needs of any particular individual. It does not constitute formal advice. For this reason, any individual should, before acting, consider the appropriateness of the information, having regard to the individual’s objectives, financial situation and needs and, if necessary, seek appropriate professional advice.

Also in the Switzer Super Report

Also from this edition