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European Crisis Summit Score 0-18 With Another Coming Up June 28

Is Merkel Misinterpreted? Will the FOMC Move Decisively?

Steen Jakobsen, chief economist of Saxo Bank in Denmark, asks via email: "Is Merkel Misinterpreted? Will the FOMC Move Decisively?"

The misunderstood Chancellor.

The market clearly believes Ms. Merkel will, ultimately, not withstand the pressure - and she will end up collateralizing rising debt. I remain extremely skeptical. I even dusted off my school German to read Der Spiegel and Focus, two major German weeklies, which give you a very different perspective.

As a generalization, the Anglo-Saxon driven investment banks and media tend to rely on poorly translated English versions of domestic financial papers, hence they lose the subtle difference on what Merkel is REALLY saying. This is what I believe Ms. Merkel, and Germany, think.

  • When countries join the euro, they also directly and indirectly accept the Stability-and-Growth Pact, hence anything that moves Germany and Europe closer to Stability-and-Growth will be supported by Germany.
  • Germany knows it will take time - more time than the market wants it to take. But Germany also realizes it will probably mean more crisis before the whole of Europe moves in the same direction.
  • The big loser if Germany "caves in" is Germany. Bund yields will rise and all of Europe will have to finance itself at higher rates - the exact same reason the Alexander Hamilton sinking fund will not work - why should Germans pay more for issuing debt and the high debtors pay less?
  • Germany has a game-theory upside in Greece failing to comply - only through more crisis will Club Med (Italy, France and Spain) move to more Europe. (The only thing Club Med wants for now is more German money, not more Europe...)
  • Merkel needs to reach across to SPD, the opposition, to get her 2/3 majority for the Fiscal Compact. Watch closely what "concessions" she is willing to give SPD. That will give us clear indication on where she stands vis-a-vis the Club Med call for the easy solution of Euro-bonds and Banking Union.
  • Merkel and Germany are pro-European. They want the EU to succeed and they will never leave the euro. But they are also aware that collateralizing debt without the Stability-and-Growth pact will end in tears as it will be extend-and-pretend squared. Throwing liquidity at a solvency issue avoids any real reforms and will be the fastest way to Japanisation.

From this old cynical trader's point of view, the more likely Merkel and Germany give up and bow to the pressure, the sooner will we face a full-blown crisis and collapse of Europe.

European Crisis Summit Score 0-19

Rhetoric and non-plans cannot continue to dominate the agenda at the EU Summits. The meeting on the 28/29 June is, by my count, meeting number 19 without a real result. Zero from nineteen games - talk about a team going towards relegation!

FOMC - more of the same The US data is still getting weaker, but not weak enough to warrant a panic from the FOMC tomorrow. Bernanke failed to provide the juice in his speech last week, so now the consensus is it will have to happen tomorrow. Otherwise... you know the rest of the sentence. The Fed will lower growth; it will probably also extend Operation Twist, but I doubt it will go all in considering the banking system issues and the overall need for having reserves.

On the other hand, however, the Fed also realizes that "promising" has a real impact on the market. So, overall, expect some small adjustment from FOMC/FED, but not enough.


We would be almost square into this meeting, but looking to be heavily bearish on equities post the FOMC and EU Summit.

We still see a summer of discontent as the misinterpretation of Germany and FOMC will lead the market to realize that, for once, central banks and the politicians can't buy more time.

It is time to reflect not act, as their five-year experiment of doing the same thing expecting different results is leading them nowhere. Probably naive thinking by me... But I think we will all lose if I'm wrong, as extend-and-pretend squared is the road to the poor house.

Safe travels,

Steen Jakobsen

Market Won't Wait

I believe Steen has this essentially correct and that Germany giving in would ultimately just make matters worse in spite of all the "mother hen calls" from nearly every other economist.

Yet, the market cannot and will not wait long enough for Merkel to be proven correct. Interest rates in Italy and Spain are at disaster levels and will likely get worse.

My position is summed up in these three posts.

In the meantime, I offer another musical tribute, this one from The Animals.

Please Don't Let Me Be Misunderstood


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