Yeah, markets sure are awesome at pricing in events before they happen – per some of the chaps who were ostracizing me for warning about the dangers of going long a currency under the management of a peoples with long histories of nationalism.

My favorite was the pebble who tried to tell me Sarkozy was polling ahead of Hollande, just a few weeks ago. Wishful thinking.

But, more than just this one election, this weekend we got to watch with joy as extreme socialist and nationalist parties pulled ahead across Europe, propelled by ignorance of disgruntled masses.

I told you before, the EU is coming apart. If not by a direct failure of finances, then by a direct insurrection of her disperse and very heterogeneous countrymen.

The problem is that the US is not inside a bubble. These developments do affect us. And while Ben can perhaps manage the dollar in such a way that eases Europe’s monetary problems (within reason), there is nothing he can do to prevent political revolution from sweeping across the EU.

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In a major blow to mindless punditry, all indications are that high oil prices and European debt crises do, in fact, matter to economic productivity, regardless of whether or not they come gradually, or with a big, flashy fireworks display.

The signs are all there, as two major international companies and key users of petroleum, Exxon Mobile and Dow Chemical, have experienced serious earnings contraction.

XOM, despite having higher revenues, saw an 11% drop in earnings, contributed to by lower production. Having gasoline demand on level with the late ‘90’s probably doesn’t help.

And Dow Chemical, faced with dropping revenues and lower profits, had to take a full 30% drop in earnings so that they could closure plants across the US, Europe, and Brazil, thanks to weak demand from Europe and higher input costs.

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In light of today’s GDP print, the data out of China, as well as the Spanish numbers, please revisit this post from yesterday.

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In the warm, fuzzy glow of my heart, my basic human emotions of empathy and hope want me to believe that our country has truly “decoupled” from the rest of this planet.  I want to believe that.  I really, truly do.

But in the cold, meticulous rigor that is my brain, a much more cunning me says, “Cain Hammond Thaler; thou shalt not be stupid.”

In this game that central bankers are playing, you must remember always: somebody is getting fucked.

However, whereas most of you choose to play the game like it’s still 2009, the truth is we have progressed starkly from those long lost days of extreme deflation.  And with that progression, the players have also changed.

Now, if central bankers act, the great majority of the masses feel the lingering sting.  And if they do not act, unemployment rises and they still feel the sting.

Already, this majority have begun to revolt in the ground zero locations of central banker intervention.  Places like Europe that are being forced to use easing to meet their budget obligations are undergoing a most severe inflationary pressure.  And places like Argentina, who rely on trade with Europe for most of their own revenues, have begun to react to Europe’s woes.  You do not just nationalize assets, unless your cause is most verily under duress.

The result of this mass uprising will most certainly be to choke off central bankers at the neck.  Irony will prevail, and both the unemployed and those suffering from constrained fixed income budgets will both blame central bankers for their ills.

And when that happens…

Thus, I cannot believe that America will continue to prosper to the detriment of all.  Europeans have a long past time of nationalist culture.  When the going gets tough, they will tell Tough to go to hell, and enact rigorous anti-trade policies that hit America and her new found export capabilities where it hurts.

This will of course hit the emerging economies even worse, for places like China will see their surpluses vanish right before their eyes.

These egregious developments will occur, unless the greatest of fortune and unforeseen of outcomes materializes to our advantage.  Perhaps some glorious, revolutionary discovery of wealth or of innovation will become apparent?

But shy of that, I would say that there is no escaping what is coming.  There are no free rides.

Thus, I am sitting quietly in my 9^th floor office, watching and hoping.  And I am afraid.

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I’ve spent the morning perusing through an assortment of market commentary.  And generally, there’s nothing wrong with what I’m hearing.  The basic assessment is that European bonds are being shaken by the IMF’s failure to secure big contributions to its fund, that the LTRO confidence has waned, that mounting political pressures throughout Europe are making people uneasy, that those banks which loaded up on sovereign debt now find themselves with that chunk of their books depreciating rapidly, etcetera, etcetera.

While there could be validity to each and every one of these points, particularly if people were somehow counting on the compliment of these above actions to keep bond yields depressed, I think there is just a far simpler explanation.

Who the hell buys bonds when the central bank of the denominated note is threatening to double or even triple the outstanding currency?

As I mentioned some time ago, the actions heretofore of the ECB has already more or less guaranteed that the number of net outstanding euros in circulation will, at a minimum, more than double over the next two years without cooperation on the part of private markets.  Cooperation means really that private markets need to be so enticed by the prospect of getting paid off by the ECB, potential bond buyers need to be willing to subject themselves not only to massive budget deficits, but to the possibility that not enough other private bond buyers will step up to the plate, resulting in a huge devaluation of the Euro at some future point in time anyway.

The only entities big enough to coordinate such a purchase of EU sovereign bonds to minimize this second risk would be a coordinated effort by banks.  And banks are not exactly swimming with cash right now to organize such a purchase.  So the only purchases of sovereign bonds banks will be making is with ECB funding.  ECB funding devalues the euro.

Please look back two paragraphs and then read back up to this point, as many times as it takes to sink in.

Private creditors will not be buying sovereign debt for long maturities.  Especially not after witnessing this last rally in bonds falter.  The only funding the EU will get is short term funding.  Even when they sell long dated bonds, those bonds will persistently risk massive selloffs from wobbly bondholders.

I will state once more: Europe’s only hope is that some very patient, confident bond buyers step in and roll over the debt maturities into long dated bonds, and are then willing to sit on those bonds as a true “investment”. 

Shy of that, the ECB will have to continue to step in to shore up the market.  And with each intervention, the willingness of private holders to buy bonds at reasonable yield will wither, leading to a self-fulfilling, unstable collapse.  Thus, the EU debt crisis will inevitably culminate into either a series of defaults, or hyperinflation, with moments of lull such as we’ve witnessed for the past four months, unless that private money shows up.

So, are you willing to bet $2 trillion in private money is going to take a 30 year gamble on Europe?

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I’ve discovered the glory that is smoked paprika.  Yesterday afternoon, we had a smoked pork shoulder, seasoned in this wonderful spice, plus a few other choice flavorings.  The results were remarkable; I’ve got the urge to start rubbing the stuff on every cut of meat I’ve ever sampled, just to see what it does.

The 9^th floor is starting to reveal a lull coming.  I wouldn’t say I’m less busy at the moment; I’m still rushing to get things done.  But for the first time in a while, I can start to see light at the end of the tunnel.

One of these days, I’m going to finish a process, reach over to grab the next document on my desk, and find my hand comes up empty.  It will be, without a doubt, satiating.  It’s hard to believe that barely more than a year ago, I was sitting around doing nothing.

So, how about those manufacturing numbers out of Europe, eh?  Coupled with the GDP numbers, the employment numbers, the deficit numbers, and just about everything else I have seen, I’d say there won’t be much left of Europe in another couple of months.

Atlantis?  Pssh, step aside…

The problem for us and Europe is that, while the economies in Europe are definitely contracting, their costs are simultaneously ramping higher.  This makes easing a very difficult maneuver for them.  It also means that their economies will likely continue contracting until something breaks.

My guess: foreign currency holders start asking why the hell they’re holding onto euros if Europe’s manufacturing (sometimes called “stuff you actually buy”) continues to evaporate.

How I see the next few months playing out is something as follows:

1.  As EU stealth printing (LTRO, ESM, EFSF, etc.) starts to show a multi-trillion dollar nightmare and currency traders realize this is just to keep things going as they have been (contraction), the euro will be sold heavily against the dollar.  EURUSD goes to 1.00.

2.  The exchange rate damage this causes is dreadful, as Europe’s trade partners take a massive exports hit.  The US sees all recent growth exenterated.  China’s GDP slams towards zero and their loans start blowing up.

(HAHAHA. A quick aside, have you looked at China’s claims on loan losses?  Apparently the banks discovered a few million “high quality” people they could write loans to who are expected to default at a fraction of the rate of the rest of their portfolio….enabling them to hold much less in loss reserves and claim significantly more cash flow as income.  SURE, and I just found El Dorado.  Those loans are fucked…)

3.  And finally, we get a significant correction, exactly as we have for the past two years in a row.

But this time, you can bet I’m out of all shorts before September.  What we’ve seen, consistently, is central banks letting commodities take a hit so that the blood of traders can give them ground to ease further.  I’m not betting they don’t print more money.  I’m just betting we bleed again first.

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I’m sort of half-heartedly watching the city of Detroit going through the motions of deciding to give up its self-governance to the state of Michigan.  It’s amusing, but in that “pulling my hair out” sort of way.  In a recent last ditch effort to buy more time, the city is trying to raise something like $130 million in a bond offering.

You’d have to be an idiot to buy them for anything less than pennies on the $10,000.  There’s about zero chance of ever getting your money back from this sink hole.

Basic projections have Detroit running out of money sometime next Thursday, which means they’re already out of money and busy raiding pension funds, charity institutions, etc.  Anything with standing cash they can spend is most likely flying out the door.

So naturally all the local poltical contenders are busy putting on a show; claiming the state is robbing them, threatening to take to the streets in civil uprising, contending that they’re owed bailout money from the rest of the state, refusing to accept any responsibility or oversight as an affront to Democracy,….

My favorite is a few of the “less sentient” of the city council who seem to think they can hardball the state into better terms by refusing to vote for the current aid package, which would avoid a direct takeover and resort instead to a series of checks and reviews.  Money with no strings attached; that’s the only acceptable outcome for them.

Ha, they really are just clueless on how leverage works!  They have zero bargaining chips; they’re holding a 2 of hearts, and 7 of clubs, a Draw Four card from an Uno deck, and a parking validation ticket…in five card stud.  And they’re trying to bluff Snyder, who’s holding a suited straight and already has all the chips.

What a mess.  I await the Emergency Financial Manager with glee.  Hail Caesar!

In other news, the EU is going to up their firewall/bailout to 1.1 trillion euros.  Let’s go back through the last six months.  This is including the 400 billion euros they appropriated last Fall.  Plus the LTRO which brings the total “euros from nowhere in particular” to 2.1 trillion.

This is to keep governments running, because tax receipts are caving.  But more, the EU governments need to keep rolling their debt over.  So every one of those euros (plus at least another trillion if my predictions hold) is committed.

And what is all this money buying?

Nothing.  The answer is: this is what they need to sustain their current economic activity, which is contracting at almost double digit rates.  All these trillions in dilutive currency get them no economic stimulus whatsoever.

So I will say it again.  The euro and the dollar are going to par, and when they do, we’ll see what you think of the US and emerging market economies then, now won’t we?

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