Are the European Leaders Acting Like King Canute?

Yesterdays much heralded meeting between Nicolai Sarkozy and Angela Merkel has left the markets decidedly underwhelmed. Their inability to face reality and the continuance of what I regard as ‘King Canute’ type statements beggar belief – if only we hadn’t heard the same old platitudes so many times before.

While the European Central Bank’s (ECB) bond buyback plan has stabilised Spanish and Italian rates, the inability of Europe’s leaders to be proactive instead of reactive is likely to be tested again. The rejection of the European bond is yet another example of how Europe is run for the benefit of the strongest and not the weakest members. A summary of what was said can be succinctly described as follows: ‘We will continue to run Europe for our own mutual benefit’.

The damage the communiqué has created is considerable. The refusal to accept that the European Financial Stability Facility (EFSF) needs to expanded – presuming that it is well-equipped to deal with speculation, that expanding its size would feed speculation – is frankly non-sensical. Markets are there to keep policy makers honest, not to simply speculate. Other proposal mentioned the ancient idea of a ‘Tobin Tax’, which has a zero possibility of happening for a multitude of reasons. The convergence of business taxation is also very unlikely to be agreed as it would hand over a large measure of any power to control fiscal policy. This straightjacket of the euro has been one of the main reasons for Europe’s woes, as countries cannot deflate the currency to improve competitiveness. Creating stricter rules on budget deficits and punishments for non-compliance, removes another opportunity for fiscal stimulus, and is a bit rich coming from a country that has run a budget deficit every year for the past 35 years.

The risks remain that once the holiday season is over, Europe will again be tested and further turmoil will occur in those markets. For treasuries, in the short term, most currencies are in a holding pattern and require little attention, but that is likely to change in the coming weeks.


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Mark Carney Bank of England