Here follow the evolution of the French-German Government bond spread:
June 1st: 0,35%
July 1st: 0,39%
August 1st: 0,7%
September 1st: 0,72%
October 1st : 0,71%
November 1st: 1,18%
November 8th: 1,3%
November 15th: 1,92%
Message received: break-up of the euro area is increasingly priced in, with an expected depreciation of the French Franc w.r. to the Deutsche Mark and an even larger depreciation for the Italian Lira.
So how can one save the euro project? More and more pressures mount on the ECB to take the burden of adjusting through a more expansionary monetary policy. Fine. But not sufficient.
If markets price in bond yields the end of the euro than they don’t believe: 1) in the political project behind the euro currency and 2) in the capacity of governments to stop the increasing asymmetry of competitiveness between Germany and the periphery (Italy and Co.), that puts pressure on peripheral growth and thus periphery’s capacity to repay its debt.
On point 1, monetary policy is irrelevant, politics is affected by government gestures, not ECB ones. On point 2, monetary policy is also irrelevant, as it helps all countries, not one compared to the other. So what helps? On both points, if Mrs. Merkel adopts a fiscal expansionary program, like it did for Eastern Germany, let us say. She spoke well in Leipzig but what can she do?
On point 2, Italy & Co. Can only focus on growth. Keeping in mind however that deflationary and restrictive fiscal policies would kill it (for example: raising taxes or reducing expenditure), while waiting that supply-side reforms (for example: enough with lawyers, or lower cost energy) would in time do their job. The key issue is how to stimulate a pick-up in growth (beyond the one due to Frankfurt) without waiting for reforms to have an impact. Easy enough: stimulate demand by increasing expenditure (without increasing deficit financing). So …. Cut all transfers: to firms, to early pensioners and especially cut waste in public procurement (16% of GDP in EU average) and …
use that money to fund large public programs of spending that put people back at work and money in the economy.
The alternative: goodbye euro, hello loneliness.