by Tom Luongo
I think it's safe to say
the new crisis just killed the
document which guaranteed freedom of movement across the
European Union finally hit something it couldn't bully:
Regardless of whether you
believe the pandemic is real or not,
the reaction to it is
real and is having real consequence far beyond the latest print
of the Dow Jones Industrial Average.
The lockdown of Italy isn't a temporary thing.
Oh, the suspension of
free movement is temporary, but it portends something far
It's the beginning of the real political balkanization that's
coming to the European Union over the next few years.
Old enmities and
prejudices have not been stamped out under the boot heel of
oppressive legislation coming from a bunch of disconnected
technocrats in Brussels.
They have only been suppressed.
Because when there are existential threats there's no time or
desire to virtue signal about how we're all one big happy
For decades Germany
refused to lighten up on its fiscal inflexibility believing,
rightly, that it shouldn't subsidize profligacy in places like
Italy, Spain and Greece if it didn't want to.
At the same time, however, Germany transmitted those rules to the
single currency regime of the Euro. That was the price they forced
on the rest of Europe.
This ensured that eventually they would have to do exactly that,
subsidize or bailout
debts, as the mispricing of labor and capital efficiency
inherent in the any single currency applied over multiple
economies drove capital to Germany and out from those countries.
Now Germans face the
existential threat of COVID-19 imported into Europe mostly through
Wuhan textiles workers in Milan's leather shops.
Their leaders will
force them to accept looser spending rules.
And do you think this will engender an outpouring of love and
affection towards Italians?
If you do you might be
delusional or an open-borders libertarian… but I repeat myself.
Chancellor Angela Merkel has signaled for months she would
spend more to satisfy the rising Greens on Germany's political left.
Her finance minister, Olaf Scholz, unleashed the full force
of Germany's sovereign wealth fund to offer unlimited support to
German businesses facing troubles because of this virus.
This is as good a cover story for the gargantuan holes in the
balance sheets of zombie German banks as they were likely ever going
to get folks.
ECB President Christine Lagarde was brought in to ram through
the political changes needed to loosen Germany's tie.
She knew the only way
the EU would survive the growing crisis within its
non-functional sovereign debt market was to print money to the
Or allow the union to break up. But, there is no Door #2 in
Europe. All doors lead to Brussels.
Germany stood in the way
of that while at the same time Merkel ruthlessly enforced Schengen.
She weakened the
political center in Germany and inflamed memories of a Germany which
rampaged across Europe militarily in the 20th century
through enforced austerity hollowing out less-efficient Euro-zone
So in the midst of
this mess comes COVID-19 and the uncoordinated and inept
response to it from the political center of Europe to date.
Only now are they coming
to the conclusion they need to restrict travel, after sitting on
their hands for a few weeks while Italians died by the hundreds.
And do you think that's engendering waves of love and affection
among Italians towards Germans?
If you do then you don't know Italians… at all...
And this is your signal that this is the beginning of the
real crisis. Because while COVID-19 may have been the catalyst
for the breakdown of capital markets, capital markets were simply
waiting for that spark to occur.
Any other type of spark, a bank failure from a run of bad loans,
could have been handled and absorbed. There was no
Credit-Anstalt the central planners
weren't prepared for.
They've been able to keep Deutsche Bank operational for the past
few years, for pity's sake, they could have handled any other
single bank failure.
But with COVID-19 being the ultimate form of exogenous shock to the
global economy there is no containing the financial contagion. And
that's why we saw a strong unwind of U.S. equities and a sharp rise
in both the Japanese yen and the Euro when this thing began.
Part of what had been pushing U.S. equities higher was the capital
flow from Europe and Japan into the U.S. That reversed for short
time as the euro-dollar markets seized up and the demand for cash
locally rose sharply.
It's no different than what is happening here.
I went to my bank yesterday to grab some cash and finish our
self-quarantine prep (we'd bought extra 'toilet paper' weeks ago).
The teller told me she'd moved out a lot more cash than normal and
it wasn't even the end of lunch hour.
Then I told her the bank run on corporate credit began earlier in
the week as companies like Boeing maxed their credit revolvers to
front run the bank pulling it.
That got her attention...
The same thing on a larger scale was happening in Europe until
Lagarde told the world that she wasn't done blackmailing Germany to
loosening its stance on fiscal rules at her presser on Thursday.
And the rally in the Euro, which was already sick, died.
Annnnd… it's gone!
What we saw to end this
week was an epic reversal of that capital outflow as the USDX and
U.S. equities rallied while the Euro crashed back to $1.11.
And now that it's started
I don't expect it to stop...
The FED fired major blanks at the
dollar-funding crisis in the credit markets this week.
What is the ECB going
to do to stop rates from rising in Europe as money flees their
Fairy dust springs to
But, more likely there
will be a very quick move to close the banks and cancel the
use of cash while new rules are adopted and Lagarde turns to
the IMF to bailout the ECB which can very easily go bankrupt here.
The weakest banking system in Europe serves a country on lockdown
over this virus.
So, it doesn't matter now that Germany has acquiesced, pledging its
own savings and lifting fiscal restraints of Euro-zone members. All
the printing will does is feed the vortex of unpayable debt that is
far bigger than their prodigious piggy bank.
The next stage of the crisis is here with the focus finally turning
to Europe. The U.S., for all of its faults, is one nation with a
unified debt market and an executive who can and has exercise powers
necessary to keep the wheels from completely falling off the U.S.
Will Trump spend money he doesn't actually have? Yes. So what?
That money will go into a logistical pipeline that far outstrips
Europe's to combat a disease over a smaller population spread across
That limits the
damage to the U.S.
It ensures political
stability that the EU cannot hope to compete with for the trust
of spooked capital.
Add the global economy grinding to a halt.
We'll see the crisis
emerge in Europe to feed a widening gyre of debt servicing that will
look like a global bank run on dollar liquidity.
It will force fundamental reform of the Euro and the ECB. They are
necessary for the EU to survive this crisis in anything close to its
I'm not laying odds that will work.
Instead I expect
Schengen's suspension to hold and more countries go
the way of the Brits by exiting the EU itself...
While this crisis is
tailor-made to shove the federalization of Europe down the throats
of what's left of the German middle class, I don't think it
Until Germany is willing to bail out Italian banks, there is no
solution to this.
And while I think Merkel is willing to fall on her sword to get this
done, It may still not work.
How convenient it is that Merkel's CDU just cancelled their April 22nd
leadership vote because of this crisis. This forestalls any
possibility of Merkel losing control of her party until after
Germany begins its EU Commission Presidency.
Whatever she has planned she has to do soon. Her political capital
is just about spent.
There will be no change of leadership during a crisis like this.
She's almost done completing the sell out of Germany to the EU begun
by Helmut Kohl.
Just in time for the whole experiment to come crashing down...