Macroscope | Germany may be the biggest threat to European stability
‘History shows European financial stability may be a bridge too far, leaving investors in extreme peril when it fails’
It is not one of the market’s most attractive traits when it ends up extremely long on bravado and exceedingly short on memory. It can be a fatal flaw when things start to go wrong. Europe has been to hell and back in recent years, when existential crisis almost ripped the heart out of the euro zone and the single currency. But now European financial markets have turned into one the major darlings for global players, it begs the question whether investors could end up long and wrong again.
You would have thought investors got their fingers so badly burnt in the wake of the 2008 global financial crash, when European unity, economic well-being, financial stability and the euro currency almost went to the wall that the golden rule of ‘once bitten, twice shy’ would have been a paramount investment axiom for investors.
The precipitous collapse in credit ratings for many of the euro zone troubled economies during the dog days of the 2009-2013 European crisis, underlined correct risk assessment at the time, especially when the only willing buyer of their distressed debt was the European Central Bank in stability-driven, special market operations. The key question is what makes investors more confident now about Europe’s outlook. Germany holds the key and last week’s national elections could mark a symbolic turning point.
Nearly a decade ago, the weaker and heavily-indebted euro zone economies, unfortunately saddled with the pejorative label PIIGS – namely Portugal, Ireland, Italy, Greece and Spain – were struggling to contain ballooning budget deficits and mountainous government debt exposures. They were close to collapse.
The global crash tipped investor confidence over the brink, investors rushed for the exits, credit spreads exploded and the European monetary union was close to extinction, same as the euro, whose days looked numbered. It was only a strong show of political unity from Europe backed up by significant bailout money and the ECB acting as lender of last resort that the day was saved.
Critically, German intervention at that time proved decisive. It had to be, especially when Chancellor Angela Merkel discovered the frightening exposure of Germany’s financial system to high-risk European investments. Had Merkel allowed peripheral European markets to fail, Germany’s banks and investment funds would have been dragged into a devastating contagion and default.
