Wednesday, June 27, 2012

What If the Doomsayers on Europe Are Wrong?

Predicting dire scenarios for the euro zone has become a cottage industry.

Each day I read opinions from well-respected economists and investors which patiently explain why the collective economies of Europe are doomed - it's only a matter of time.

Billionaire investor George Soros set a new standard for drama in his interview last Friday with German news magazine Der Spiegel.

Mr. Soros not only believes the euro is doomed, but that The End is coming soon:

SPIEGEL ONLINE: You said a few weeks ago that there were only three months left to overhaul the structure of the currency union.

Soros: Well, we are down to three days now.


Soros: Europe's leaders need to take bold steps at the EU summit on Thursday and Friday. 

SPIEGEL ONLINE: Do you think Angela Merkel is prepared to take such steps?

Soros: She is trapped. Merkel has realized that the euro is not working, but she cannot change the narrative she has created because that narrative has caught the imagination of the German public, and the German public has accepted it.

OK, I'm not a billionaire, and George Soros has been an incredibly successful investor for a long time, but does he really believe that we are on the verge of financial catastrophe by the end of this week?

There's a couple of reasons that becoming too gloomy on Europe might be the wrong approach.

The first is the fact that the situation is well-understood by all involved.  The necessary resources are available, and potential solutions available; it's just the political will that's lacking.

For example, Eduardo Porter writes in today's New York Times why many believe that, in the end, Germany will pony up the necessary funds to bail out the situation.

It's not that the Germans like the idea - Mr. Porter notes that most Germans surveyed would love to get rid of Greece from the euro block - but rather it is in their own self-interest, and they might make a profit besides:

While Germany has committed a few hundred billion euros to rescue the currency, if the rescue succeeds, it should recover all of it. And it can readily do more. William R. Cline, an economist at the Peterson Institute for International Economics, told me that covering the entire financing needs of Greece, Ireland, Portugal, Spain and Italy through 2015 would cost about $1.6 trillion. 

If the International Monetary Fund contributed one-third, Germany and other rich euro area countries would be left to put up the rest. But even if Germany’s share reached $500 billion, it would not forfeit this money. After all, the goal of the bailout would be to prevent defaults. Germany could even turn a profit. 

Think back to our own economic disaster a few years ago.  The idea of lending huge sums of money to bail out the banks - not to mention AIG, General Motors and Chrysler - was anathema to many politicians and economists.

But in most cases the bailouts worked, and most of our government's funds were repaid at a handsome profit.

Then there's the real economy of Europe.

It's hard to remember, perhaps, but first quarter GDP in the euro zone was essentially unchanged from the prior year. 

True, the growth was uneven - Germany is clearly prospering, while Greece and Spain are suffering - but fundamentally there is alot going on in Europe that is working.

The most concrete proof of the continued strength of many parts of Europe comes from the investment community.

Taking advantage of some of the most depressed stock market valuations in years, foreign investors are buying up European companies.

Yesterday's Financial Times highlighted the increasing interest of global investors in European companies.  The article notes:

A series of high-profile deals this year highlights the growing interest of emerging market companies in making acquisitions in Europe...

For European pessimists, {large profile foreign acquisitions} is another reflection of Europe's economic crisis and/or terminal economic decline.  For optimists, they may be a sign of better things to come, just as a wave of Japanese investments 25 years ago helped reinvigorate key parts of the European economy, notably the British car industry.

I'm not denying that the euro problems are real, and the resolution will doubtlessly be difficult, but I continue to believe that the ultimate resolution will be positive.