How Bad Would A Euro Zone Break-Up Be?
Der Spiegel has done a three-part series of articles which tell us it would worse than we can possibly imagine. The more I learn about the consequences of an unraveling of the EU the angrier I get. Putting a bunch of countries with different cultures and different priorities under one currency without one government and one fiscal policy was a recipe for disaster. But, it was the dream of the banking and political elite for many years and they got their way. Now they have themselves in a corner with no reasonable way to escape and the whole world will pay for their folly.
From Part 1 of the Spiegel series, The Disastrous Consequences of a Euro Crash, we learn such things as:
As the debt crisis worsens in Spain and Italy, financial experts are warning of the catastrophic consequences of a crash of the euro: the destruction of trillions in assets and record high unemployment levels, even in Germany.
Collapse of Currency a ‘Very Likely Scenario’
Investment experts at Deutsche Bank now feel that a collapse of the common currency is “a very likely scenario.” German companies are preparing themselves for the possibility that their business contacts in Madrid and Barcelona could soon be paying with pesetas again. And in Italy, former Prime Minister Silvio Berlusconi is thinking of running a new election campaign, possibly this year, on a return-to-the-lira platform.
The Patient Is Getting Worse
The discussion has been going in circles for months, which is why the continent’s debtor countries continue to squander confidence, among both the international financial markets and their citizens. No matter what medicine European politicians prescribe, the patient isn’t getting any better. In fact, it’s only getting worse.
Indeed, the European leaders seeking to save the euro are in a race against the clock. The question is whether the economy in Southern Europe will recover before the euro rescuers’ tools are exhausted, or whether it will be too late by the time the recovery arrives. It’s a question of growth and the economy, but also of character. How willing are the Spaniards and Italians to accept reforms and hardship, and how willing, on the other hand, are the donor countries of the north to provide assistance and make sacrifices?
Not willing enough, say many experts. As a result, the world is imagining the unthinkable: the withdrawal of several Southern European countries from the monetary union, or possibly even the general collapse of the euro zone. It isn’t easy to predict how such a tornado would affect the global economy, but it’s clear that the damage would be immense.
Part 2 is titled Companies Envision Possible Scenarios . Swiss bank Credit Suisse did a study:
According to the study, if Ireland, Portugal, Spain and Italy joined Greece in leaving the euro, 29 large European banks would see a total capital shortfall of about €410 billion. “If the peripheral countries withdraw from the euro zone, a few of the large, publicly traded banks would come to a standstill,” reads the analysts’ sobering conclusion. In their predictions, the experts did not even take into account the likelihood that France would come under pressure if Italy withdrew from the euro.
Part 3 has the encouraging title Consequences of Disaster Would Spread Like a Tidal Wave.
It’s understandable that companies want to protect themselves from a euro crash. But if things get serious, all of these efforts could be worthless, because the consequences of a monetary disaster would spread across the entire economy like a tidal wave.
Economists with the Dutch bank ING have calculated that in the first two years following a collapse, the countries in the euro zone would lose 12 percent of their economic output. This corresponds to the loss of more than €1 trillion. It would make the recession that followed the bankruptcy of investment bank Lehmann Brothers seem like a minor industrial accident by comparison. Even after five years, say the ING experts, economic output in the euro zone would still be significantly lower than normal.
Is the US Prepared?
According to this Bloomberg article: U.S. Banks Aren’t Nearly Ready for Coming European Crisis.
Very few people seem to have gotten their heads around dissolution risk. Here’s what it means: If you have a contract that requires you to be paid in euros and the euro no longer exists, what you will receive is unclear.
What is “dissolution risk”? The article says it has to do with price risk. What are they talking about? Let me give you an example. Suppose a company or a bank in the US is owed $10 million by a company or bank in Italy. Then suddenly Italy leaves the Euro. Do the US company or bank really want to accept Liras? What would the exchange rate be? What if the Italian entity still has Euros but the Euro is inflating like crazy? Do the US entities want Euros or Liras and again at what exchange rate? You can see how crazy things will get and fast. It gets even worse for the big investment banks who are heavily into default swap derivatives.
When one bank defaults and its derivatives counterpart does not, the failing bank must pay many contracts at once. The counterpart, however, wouldn’t provide a matching acceleration in its payments, which would be owed under the originally agreed schedule. This discrepancy could cause a “run” on a highly leveraged bank as counterparties attempt to close out positions with suspect banks while they can…
I know that this is all very boring and confusing to you. But, understand this. There is probably a 98% chance the The Euro Zone will come apart either totally or partially and it is going to cause chaos in the world and certainly in the US. It is going to affect you. It is going to affect all of us.
So, what can we meer mortals do to prepare for the coming crisis? There is not much this old man living off of his Social Security in Venezuela can do except hope the Bolivar devalues at the same rate or faster than the dollar. For you all, my only recommendations are to visit some of the survival sites on the internet and stock up on durable foods and those things you think will become scarce and can be used for trading for other things you will be wanting. For those who have the means, buy physical gold and silver in the smallest denominations you can and find a safe place to store it. The people of India have never trusted the Rupee and so have bought gold chain, for as long as I can remember, as a hedge against inflation. Why gold chain? Because it can be taken apart and one or two links can be traded easily for other goods. The bottom line, my friends is do not assume there is nothing you can do to prepare for the coming crisis. There are some things you can and should do.
Well, that’s what I’m thinking. What are your thoughts?