Best of the Week
Most Popular
1. 2019 From A Fourth Turning Perspective - James_Quinn
2.Beware the Young Stocks Bear Market! - Zeal_LLC
3.Safe Havens are Surging. What this Means for Stocks 2019 - Troy_Bombardia
4.Most Popular Financial Markets Analysis of 2018 - Trump and BrExit Chaos Dominate - Nadeem_Walayat
5.January 2019 Financial Markets Analysis and Forecasts - Nadeem_Walayat
6.Silver Price Trend Analysis 2019 - Nadeem_Walayat
7.Why 90% of Traders Lose - Nadeem_Walayat
8.What to do With Your Money in a Stocks Bear Market - Stephen_McBride
9.Stock Market What to Expect in the First 3~5 Months of 2019 - Chris_Vermeulen
10.China, Global Economy has Tipped over: The Surging Dollar and the Rallying Yen - FXCOT
Last 7 days
Forex Trading Management: The Importance of Being Prepared - 19th Feb 19
Gold Stocks are Following This Historical Template - 19th Feb 19
Here’s Why The Left’s New Economic Policies Are Just Stupid - 19th Feb 19
Should We Declare Emergency for Gold? - 19th Feb 19
Why Stock Traders Must Stay Optimistically Cautious Going Forward - 19th Feb 19
The Corporate Debt Bubble Is Strikingly Similar to the Subprime Mortgage Bubble - 18th Feb 19
Stacking The Next QE On Top Of A $4 Trillion Fed Floor - 18th Feb 19
Get ready for the Stock Market Breakout Pattern Setup II - 18th Feb 19
It's Blue Skies For The Stock Market As Far As The Eye Can See - 18th Feb 19
Stock Market Correction is Due - 18th Feb 19
Iran's Death Spiral -- 40 Years And Counting - 17 Feb 19
Venezuela's Opposition Is Playing With Fire - 17 Feb 19
Fed Chairman Deceives; Precious Metals Mine Supply Threatened - 17 Feb 19
After 8 Terrific Weeks for Stocks, What’s Next? - 16th Feb 19
My Favorite Real Estate Strategies: Rent to Live, Buy to Rent - 16th Feb 19
Schumer & Sanders Want One Thing: Your Money - 16th Feb 19
What Could Happen When the Stock Markets Correct Next - 16th Feb 19
Bitcoin Your Best Opportunity Outside of Stocks - 16th Feb 19
Olympus TG-5 Tough Camera Under SEA Water Test - 16th Feb 19
"Mi Amigo" Sheffield Bomber Crash Memorial Site Fly-past on 22nd February 2019 VR360 - 16th Feb 19
Plunging Inventories have Zinc Bulls Ready to Run - 15th Feb 19
Gold Stocks Mega Mergers Are Bad for Shareholders - 15th Feb 19
Retail Sales Crash! It’s 2008 All Over Again for Stock Market and Economy! - 15th Feb 19
Is Gold Market 2019 Like 2016? - 15th Feb 19
Virgin Media's Increasingly Unreliable Broadband Service - 15th Feb 19
2019 Starting to Shine But is it a Long Con for Stock Investors? - 15th Feb 19
Gold is on the Verge of a Bull-run and Here's Why - 15th Feb 19
Will Stock Market 2019 be like 1999? - 14th Feb 19
3 Charts That Scream “Don’t Buy Stocks” - 14th Feb 19
Capitalism Isn’t Bad, It’s Just Broken - 14th Feb 19
How To Find High-Yield Dividend Stocks That Are Safe - 14th Feb 19
Strategy Session - How This Stocks Bear Market Fits in With Markets of the Past - 14th Feb 19
Marijuana Stocks Ready for Another Massive Rally? - 14th Feb 19
Wage Day Advance And Why There is No Shame About It - 14th Feb 19
Will 2019 be the Year of the Big Breakout for Gold? - 13th Feb 19
Earth Overshoot Day Illustrates We are the Lemmings - 13th Feb 19
A Stock Market Rally With No Pullbacks. What’s Next for Stocks - 13th Feb 19
Where Is Gold’s Rally in Response to USD Weakness? - 13th Feb 19

Market Oracle FREE Newsletter

The Real Secret for Successful Trading

Italy Is the Mother of All Systemic Threats

Stock-Markets / Eurozone Debt Crisis Sep 16, 2016 - 11:44 AM GMT

By: John_Mauldin

Stock-Markets

BY GEORGE FRIEDMAN : Italy has been in a crisis for at least eight months, though mainstream media did not recognize it until July. This crisis has nothing to do with Brexit, although opponents of Brexit will claim it does. Even if Britain had voted to stay in the EU, the Italian crisis would still have been gathering speed.

The high level of non-performing loans (NPLs) has been a problem since before Brexit. It is clear that there is nothing in the Italian economy that can reduce them. Only a dramatic improvement in the economy would make it possible to repay these loans. And Europe’s economy cannot improve drastically enough to help. We have been in crisis for quite a while.


Banks were simply carrying loans as non-performing that were actually in default and discounting the NPLs rather than writing them off. But that only hid the obvious. As much as 17 percent of Italy’s loans will not be repaid. This will crush Italian banks' balance sheets. And this will not only be in Italy.

Italian loans are packaged and resold, and Italian banks take loans from other European banks. These banks in turn have borrowed against Italian debt. Since Italy is the fourth largest economy in Europe, this is the mother of all systemic threats.

Bail-Ins, Not Bail Outs

The only way to help is a government bailout. The problem is that Italy is not only part of the EU, but part of the eurozone. As such, its ability to print its way out of the crisis is limited. In addition, EU regulations make it difficult for governments to bail out banks.

The EU has a concept called a bail-in, which means the depositors and creditors to the bank will lose their money. This is what the EU imposed on Cyprus. In Cyprus, deposits greater than 100,000 euros ($111,000) were seized to cover Cypriot bank debts. While some was returned, most was not.

The bail-in is a formula for bank runs. The money seized in Cyprus came from retirement funds and payrolls. Rome wants to make sure depositors don’t lose their deposits. A run on the banks would guarantee a meltdown. A meltdown would topple the government and allow the Five Star Movement, a Euroskeptic party, a good shot at governing.

The bail-in rule exists because Berlin doesn't want to bail out banking systems using German money. Anti-European sentiment in Germany is already growing, with the rising popularity of the nationalist Alternative for Germany party. The Germans feel that they are fiscally responsible, and they resent paying for others' irresponsibility.

Therefore, the German government’s hands are tied. It cannot accept a Europe-wide deposit insurance system, as it would put German money at risk. Nor can it permit overprinting of the euro. That would come out of the German hide as well.

The Italians can only try to manage the problem by ignoring EU rules, which is what they are doing.

Crisis Spreading

And another European economic crisis is brewing. Germany derives nearly half of its GDP from exports. All the discipline and frugality of the Germans can’t hide the fact that their prosperity depends on their ability to export. The ability to export depends on the demand of their customers.

Germany exports heavily to the EU, and the Italian crisis could cause an EU-wide banking crisis. That would cut deeply into German exports, slashing GDP and driving up unemployment. Logically, the Germans should be desperately trying to head off an Italian default. But Chancellor Angela Merkel is not eager to announce to the German people that their economy depends on Italy’s well-being.

Clearly, German businesses are aware of the danger. German production of capital goods fell nearly 4 percent from last month. German production of consumer goods rose only 0.5 percent.

German consumption can’t possibly make up for half of Germany’s GDP. In addition, the IMF recently said Deutsche Bank is the single largest contributor to systemic risk in the world. A rippling default through Europe will hit Deutsche Bank.

The US Piece of the Puzzle

However, the real threat to Germany is a U.S. recession. Recessions are normal, cyclical events that are necessary to maintain economic efficiency by culling inefficient businesses. The U.S. has one on average once every six to seven years. Substantial irrationality has crept into the economy. The yield curve on interest rates is beginning to flatten. Normally, a major market decline precedes a recession by three to six months. That would indicate that it likely won’t happen in 2016, but it could in 2017.

Given the stagnation in Europe, Germany has been shifting its exports to other countries, particularly the U.S. If the U.S. goes into recession, demand for German goods, among others, will drop. But in the case of Germany, a 1 percent drop in exports is nearly a half percent drop in GDP. With Germany’s minimal growth rate, drops of a few points could drive it into recession and high unemployment.

A U.S. recession would not only hit Germany, but the rest of Europe. Many countries export to the U.S., either directly or through producing components for German and British products. The U.S. is somewhat exposed to foreign debt defaults, but not enough to bring down the American system. The United States, with relatively low export percentages and low exposure, can withstand its cycle. It is not clear that Europe can.

The Big Picture

The EU must address Italy’s and Germany’s problems, but its regulations make finding solutions very difficult. This all was put in motion in 2008, but it is not a 2008 crisis. This is most of all a political and administrative crisis. The European system was created to administer peace and prosperity, not to manage the complex gyrations of an economy.

The argument from those who are against internationalism is simple. Sometimes the major international systems fail. The less entangled you are with these systems, the less damage you suffer. And since such systemic failures historically leads to political conflict and crisis, the case for nationalism increases – assuming you aren’t already trapped in the systemic crisis. In any event, increasing nationalism follows systemic failure like night follows day.

Watch George Friedman's Ground-breaking Documentary ‘Crisis & Chaos: Are We Moving Toward World War III?’

Italy’s contagious crisis is part of a storm of instability engulfing a region that’s home to 5 billion of the planet’s 7 billion people.

In this provocative documentary from Mauldin Economics and Geopolitical Futures, George Friedman uncovers the crises convulsing Europe, the Middle East and Asia … and reveals the geopolitical chess moves that could trigger global conflict. Register for the online premiere now.

John Mauldin Archive

© 2005-2019 http://www.MarketOracle.co.uk - The Market Oracle is a FREE Daily Financial Markets Analysis & Forecasting online publication.


Post Comment

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

6 Critical Money Making Rules