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?
23 thoughts on “How Bad Would Euro Zone Collapse Be? Is The US Prepared?”
Without economic growth, we are all screwed. Besides the funny money bs, that’s the root of it, and too many Krugmanites still foolishly think government spending is economic growth.
When the eurocrash happens, it will take a week or two for the dust to settle, but I don’t think it will put us in survival mode. Regardless, it is always good to have water and food stored up.
I think the most likely scenario could be 1-2 weeks, not more. If we were to experience an economic disruption longer than that, we are in real trouble. Forget the gold, you better be invested in lead…
Sadly, Kurt, I think it will last much longer than two weeks. The reason is that the central planners will keep trying to plan our way out of the mess and they will only make it worse.
How willing are the Spaniards and Italians to accept reforms and hardship?
You can say the same about America. Americans are fat dumb and happy. Deeply in debt and not caring a bit. Most of us are beholden to the Feds anyway and want the “free” gravy train to keep on coming.
I almost wish for the zombie uprising to happen.
How willing are the Spanards and Italians to take orders from Germany? Don’t hold your breath.
It’s interesting how bad things always look. I am not a Pollyanna about this stuff. Like SF, I don’t think the world is coming to an end. Yes, get some food and water stored up. Even in Atlanta, GA we get tropical storms causing weeks worth of power outages. You can get real hungry and thirsty waiting for the power to come back on.
Get a couple of guns, because you can never tell when you will need them. They are easy to sell if you need cash.
When the Euro collapses, the world markets will go wild for a while. It may be more than a couple of weeks, but this, too, shall pass. If you panic and transfer all your assets into gold, you might wind up worse off, given the current bubble in gold prices. If you are going to play in gold, just buy and sell on a short term basis. Long term, the price will come down.
By the way, I am looking for a 22 cal rifle because a book I read recommended it as the most popular small game rifle, and 22 cal ammunition would make great barter stuff in the post-disaster world. So, I might put my money into guns, ammunition, and whiskey. They all make great currency. If the world doesn’t come to an end, I can always drink my self into oblivion.
Get .22 long rifle rounds. Short rifle rounds are nearly silent, BTW. Very useful too.
Jim. I managed to edit out a statement that I respect your viewpoint, it’s just that I don’t agree, totally. I do understand that you bring more of a world view to the party. Thanks for all your thoughtful blogging.
Bob, I welcome differences in opinion. I learn a lot that way. So, when you think I’m all wet, tell me, please.
I sure would beef it up a bit. A 22 is a bit light.
I really hope you and Kurt are right. I’m worried things are a lot worse than we are being told. I observed hyperinflation twice; once in Brazil and once in Russia. It was not pretty.
What stuns me: that the EU actually admitted to the union Spain, Portugal, and Greece! Many were objecting to those admissions at the time. But, no! The Leftist utopians insisted on including countries that anyone could see would impinge the EU in the worst of ways.
I do feel sorry for Germany.
Germany benefited the most from the Union and they will be the first to recover from a break-up.
It’s not the economic disruption that worries me, it has happened before, but it is clear that any type of personal sacrifice to get through it is a non starter for most.
Well, hopefully Americans will repond better than the Greeks have. We will see.
The European crisis is evolving faster than a 27-nation EU can react to respond to it. That has been made painfully clear over the last two years.
This are going to get worse in Europe and the rest of the world before they get better, but I don’t think we will all have to become survivalists. 😉
I sincerely hope Americans don’t have to become survivalist, AZ. But, if this crisis disrupts trade for any time, there will be shortages of some goods.
Get a grip on yourselves!
Spain’s whole banking system can be made stronger than America’s (better ratios) with only 60 billion Euros, tops. That is not very much compared to the size of the economy. Spain has 69% public debt to GDP, versus Greece 160%, Italy 123%, USA 105%. and even Germany 83%. The problem of Spain is the deteriorating construction and housing sector, but the private audits, including Fitch, have taken that into account for the 60 billion needed.
We must remember that the European central bank can also print money, just like America. They can let Greece go, but not Spain. And Greece won’t bring down their Eurozone ambitions. Germany has been the great beneficiary of the Euro and the EU economic zone, and they are not about to let that go down.
I can assure you that Europe will stumble around and we will still be talking about it during the administration of President Romney.
Spain will defeat Portugal and Germany will defeat Italy, and nobody will work for the week in Europe. They don’t worry about it, football is more important.
Heh…I’ll try to get a hold of myself, John. But it would be a lot easier if I had some of whatever it is your smoking. You don’t seriously believe 60 billion Euros is going to save Spain, do you?
The financing of 60 to 100 billion is a direct infusion of capital to the banking system – much like the TARP program in the US in 2008 – it is not a sovereign bailout of the government obligations.
I agree with you on the shambles that is the Eurozone debt problem but the Armageddon you are all talking about is not yet eminent because the EU still has many bullets in the chamber.
Greece can be handle. Spain and Italy are another matter only to the extent that they could be shut-out of the financial markets, like Greece has. We do not know at the moment if that is going to happen. The clue is in the 10-year bonds which right now are fluctuating between the limits of acceptance – 5 to 7% – for Spain and Italy. Greece’s 10 year bond is 27% and that is why they are getting a full blown bailout. Germany has not panic yet at these levels of Spanish and Italian bond rates but they will work towards bringing these levels down.
My argument is that the process can still take a few years before a complete breakdown occurs and the Euro is discarded. I really don’t think that Germany will let it happen even if they have to accept the Euro bonds, which at present they are resisting
You may ne right, John, that they can play kick thee can for another two years but it will cost Germany dearly. To agree to generate Euro bonds will require the countries to give up their sovereignty. If they can apprive that withouut going to a referendom of their peoples, they might save the EU, at least for a while. If this has to go to a vote, it won’t happen, in my opinion.
I hate to blow my own horn, Jim, but if you read my previous response you will notice that it is exactly what the EU meeting decided today.
Spain gets an infusion of direct funds into the banking system – a-la-TARP. This prevents having the debt ratio of the government from deteriorating.
Spain and Italy will get better terms in their fiscal goals; and Germany accepts the use of bond purchases to stabilize the interest ratio of Spanish and Italian bonds. Just like I said, they will bring down these rates down so Spain and Italy can access the market under acceptable terms.
I admit, I was a fly on the wall.
You did call it, John. We will have to wait and see how long this can go on with the almost non-existant growth in the debtor countries.