Best of the Week
Most Popular
1.UK House Prices BrExit Crash NOT Likely Despite London Property Market Weakness - Nadeem_Walayat
2.BrExit Morning - New Dawn for Britain, Independence Day! - Nadeem_Walayat
3.LEAVE Wins EU Referendum - Sterling and FTSE Hit Hard, Pollsters, Bookies and Markets All WRONG! - Nadeem_Walayat
4.BrExit Implications for UK Stock Market, Sterling GBP, House Prices and UK Politics... - Nadeem_Walayat
5.Trading BrExit - Stocks, Bonds, Sterling, Opinion Polls, Bookmaker Odds and My Forecast - Nadeem_Walayat
6.FTSE and Sterling Brexit Trading, Deconstruction of the EU Referendum Result - Nadeem_Walayat
7.UK Interest Rate Cut to 0.25% Imminent and More QE Money Printing - Nadeem_Walayat
8.Trading BrExit - British Pound Plunges, FTSE Stock Futures Slump on LEAVE Shock Referendum Win - Nadeem_Walayat
9.The Stock Market is Reading it Wrong! - Chris_Vermeulen
10.Breakouts Galore in Gold and Silver - Jordan_Roy_Byrne
Free Silver
Last 7 days
Gold and Silver Bull Phase 1 : Final Impulse Dead Ahead - 30th July 16
SPX Stock Market Uptrend Resumes - 30th July 16
Gold And Silver – Merkel: Example Of How Clinton Is A Globalist Puppet - 30th July 16
Some Thoughts at the Stock Market Mountain Top - 30th July 16
Gold Stocks Benchmark Battle - 30th July 16
Top 10 Pokemon GO Playing Tips, Tricks and Secrets! - 30th July 16
Asset Bubbles Tend to Crash with a Vengeance - 29th July 16
Retirees Are Risking Their Life Savings on Junk Bonds - 29th July 16
The Next Recession is Coming - Expect Around 0% Returns for the Next 7 Years - 29th July 16
SPX is Shaking and Rolling - 29th July 16
Stock Market Insiders Are Secretly Selling, Cycle Top Next Month - 28th July 16
FOMC Interest Rates and Their Impact on the US Economy - 28th July 16
The State Of The Economy - 28th July 16
Elliott Wave Crash Course - 3 Ways the Elliott Wave Principle Enhances Your Trading - 28th July 16
Japan's "Helicopter Money" Play: Road to Hyperinflation or Cure Debt Deflation? - 27th July 16
Monetary Zika - The Insidious Nature of Credit Expansion - 27th July 16
Gold and Pork Bellies - 27th July 16
Silver Is Insurance Against The Worst Part Of This Depression - 27th July 16
Don’t Buy The SPX Hope Stock Market Rally! - 27th July 16
Bitcoin $650 Still in Play - 26th July 16
Deutche Bank Stock Price Crash - The EU Has Problems Far Beyond the Brexit - 26th July 16
The Forex Markets Are Getting Exciting! - 26th July 16
Underpriced Silver Is the “Rip Van Winkle” Metal - 25th July 16
Declines in Multiple Market Indexes - 25th July 16
Retailers Are Doomed as Most Americans Are Too Poor to Shop - 25th July 16
Here’s One Currency That Could Go to Zero - 25th July 16
Stock Market Top is Expanding - 25th July 16
Silver Manipulation – Because They Needed the Eggs - 25th July 16
Silver Market COT Stuns: What's Going On Here? - 24th July 16
Gold Demand Remains Stable During Sector Weakness - 24th July 16
Sernova, Diabetes and Haemophilia - 24th July 16
Russia: Tensions, Turmoil, and Western Hubris - 24th July 16
Soybean Commodity Price to Soar Again - 23rd July 16
SPX Stock Market Uptrend Continues - 23rd July 16
Gold And Silver – Debt Addiction Will Carry Precious Metals Higher, Guaranteed - 23rd July 16
Pokemon Go - How to Play, First Use, Balls, Stops, Catching Pokemon's... Great Excercise! - 23rd July 16
7 Signs That the Gold Market Remains Resilient - 23rd July 16
Basic Income in The Time of Crisis - 23rd July 16
Silver Bull Faces Correction - 22nd July 16
The Serious Warning No One’s Talking About - 22nd July 16
Stock Market Insight from Greed, Volatility, and Put/Call Ratio - 22nd July 16
What Will Happen To the Stock Market When Interest Rates Rise? - 22nd July 16
How to Escape the World’s Biggest Ponzi Scheme - 22nd July 16

Free Instant Analysis

Free Instant Technical Analysis


Market Oracle FREE Newsletter

The Power of the Wave Principle

Sovereign Crisis from Economic Stimulus to Debt Austerity Snowball Effect

Economics / Economic Austerity Jun 18, 2010 - 11:26 AM GMT

By: Mike_Larson

Economics

Best Financial Markets Analysis ArticleA blockbuster draft report from the European Commission saw the light of day recently, thanks to some reporting from Bloomberg. It highlights an incredibly dangerous Catch-22 facing many sovereign nations — the “Snowball Scenario.”

Let me give you an example how this works …


Suppose country A’s economy goes into the tank. The government responds by borrowing boatloads of money and spending like mad on stimulus packages.

The markets allow it to go on for a while. But then investors start to get antsy about all the debt being added to the government’s balance sheet. So they start dumping its bonds, driving prices lower and rates higher. That, in turn, forces the country to implement austerity measures to get its debt and deficit under control.

The problem?

Those moves send the economy BACK into the crapper! Government spending has to rise yet again to pay for things like unemployment insurance, new stimulus packages, and so on … at the same time tax revenues fall. That drives debts and deficits even higher.

The end game in this snowball scenario? A sovereign default!

And that’s not just a theory. In fact …

Snowballs Are Already Rolling Downhill in Spain, Greece, and Portugal

Spain is trying to slash its budget deficit from 11.2 percent to 9.3 percent in 2010 and 6 percent in 2011. Portugal wants to cut its deficit from 9.4 percent to 7.3 percent this year and 4.6 percent next year. They plan to do so by some combination of pension freezes, wage cuts, new taxes, and other measures.

But the European Commission, which is the executive arm of the European Union, says that probably won’t be enough. Its conclusion?

“While the newly announced measures are significant and the targets imply impressive budgetary consolidation, more measures are needed to meet those targets.”

The EU has told Spain and Portugal to get their budgets back in shape.
The EU has told Spain and Portugal to get their budgets back in shape.

In plain English, the message is “Get even tougher! Crack down more! Slash spending! Raise taxes!”

But as the Commission admits, the governments it is counseling face “low GDP growth, poor competitiveness, stable or declining prices and wages and high real interest rates.” So it’s virtually impossible to avoid a “snowball effect on the government debt.”

Stay Cautious! Stay Safe!

Bond traders aren’t dumb. They can see this coming from a mile away. Yields on Spanish 2-year notes shot up recently, then eased a bit. But now they’re rallying yet again — hitting a new cycle high just this week.

Spanish borrowing costs have skyrocketed from 1.51 percent in March to 3.29 percent, the highest in 17 months! It now costs more on a relative basis for Spain to borrow than it does the euro-area’s main economy, Germany. And it’s the highest that the 10-year Spanish/German yield spread has been since 1999 — when the euro currency debuted.

Portugal is seeing costs rise, too. It’s paying 5.58 percent to borrow money for 10 years, up from 4.15 percent back in April.

Reports are surfacing that Spain may need a 250 billion euro ($307 billion) credit line from the International Monetary Fund, the European Union, and possibly the U.S. Treasury.

Naturally, policymakers are denying that anything is in the works. But what do you expect them to do? These guys said the same thing about Greece, claiming it wasn’t at risk of defaulting. Then they pushed through a $135 billion bailout!

Use market rallies as selling opportunities.
Use market rallies as selling opportunities.

In short, this sovereign debt crisis is playing out just like the private credit market crisis did before. It comes in waves — with periodic sharp drops triggered by some event, then some kind of bailout that makes everybody breathe a temporary sigh of relief, and finally yet another plunge as another hole appears in the dike.

My advice?

Don’t get suckered in by the short-term rallies. This sovereign debt crisis is nowhere near over, and that means you have to stay cautious and safe in your investments.

Consider using inverse ETFs to hedge risk, keeping positions small, and dumping stocks into sharp rallies if you’re lucky enough to get them.

Until next time,

Mike

This investment news is brought to you by Money and Markets. Money and Markets is a free daily investment newsletter from Martin D. Weiss and Weiss Research analysts offering the latest investing news and financial insights for the stock market, including tips and advice on investing in gold, energy and oil. Dr. Weiss is a leader in the fields of investing, interest rates, financial safety and economic forecasting. To view archives or subscribe, visit http://www.moneyandmarkets.com.


© 2005-2016 http://www.MarketOracle.co.uk - The Market Oracle is a FREE Daily Financial Markets Analysis & Forecasting online publication.


Comments

Jim Green
18 Jul 10, 16:23
Response to article

I think your article is right on. It seems we are chasing a moving target. We pin that target down for a moment's notice and somehow it seems to escape and cause chaos in financial markets. It also seems there is not a right or wrong answer to ours, or the EU's financial woes and taking a more risk averse stance might prove to be the winner in all of this.


Post Comment

Only logged in users are allowed to post comments. Register/ Log in

Catching a Falling Financial Knife