Tuesday, March 29, 2005

Along with the recent F-16 sale to Pakistan, the other significant story from last week which should have received more domestic press was the EU summit meeting in Brussels. At the summit, the euro zone's 12 finance ministers hashed out a new agreement for the "Stability and Growth Pact" -- the beaurocratic euphemism for the fiscal rules all EU zone countries must obey.

The central features of the new agreement were the numerous exceptions it appended to the regulation that any country running budget deficits of greater than 3% be fined. In essence, that 3% mark is now meaningless. Countries can cite anything from "unification" costs to defense spending to avoid the fine.

What troubles me about this is that it marks definitive evidence that the American approach toward deficit spending has now spread to Europe. Unlike in America, however, it seems as though the finance ministers themselves (judging by the quotes which came out of Brussels) aren't sold on the virtues of deficit spending. Rather than reflecting a conscious policy, the new measures appear more reactive in nature. In other words: America hasn't persuaded Brussels to take on more debt so much as it has forced it to. The weak dollar is hurting its economy, and it now believes it has no choice but to mirror the U.S. with a weak-euro policy of its own.

Needless to say, the endgame here could be disastrous. Both U.S. and EU debt is being underwritten by Asia. Likewise, the housing bonanzas currently going on in the major metropolitan areas of both regions are being stimulated in part by Asian central banks, which have been stockpiling dollars and euros in an effort to keep their currencies down -- and now have so much of the stuff that their best play is simply to keep the currencies in their native economies via the real estate market.

Yet neither the debt levels nor the growth in real estate is sustainable. Eventually there will come a point at which Asia is either unwilling or unable to write blank checks. If it's the former, everyone should be able to walk away relatively unscathed. But if it's the latter -- if, that is, Asia stops underwriting American and European debt because its economy isn't stable enough to handle it -- then the global economy will likely suffer far worse repercussions than it did during the crisis of 1997.

If indeed such a scenario plays out, then the financial historians of the future will look back at last week's EU summit as a defining moment. It will be seen as an opportunity lost: one of the best chances the EU had but didn't take to demonstrate to the U.S. that just because someone is offering you a free meal doesn't necessarily mean you should take it.


Post a Comment

<< Home