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The Alphen Angle is an electronic publication of Managing PSG Alphen Asset Management Money PSG Alphen Asset Sensibly Management Print Friendly pdf 10 May 2010 The European Debt Crisis – what went wrong and what does it mean? I apologize for discussing a topic which has been flogged to death of late, but the European debt crisis is so topical and its origins based on such a bizarre vision that it is well worth an Angle. Consequently, I hope you will forgive me for raising this topic again. Adrian Clayton So, let’s begin our discussion with where it all started. As far back as 1957, in Rome, the Europeans signed a treaty called, strangely enough, the Treaty of Rome, which had as its aim ‘an ever closer union among the peoples of Europe’. In 1979 the European Monetary System was created and in 1992 the Economic and Monetary Union was formed setting the basics for forming a single currency. Then in 1999 the euro was born and member countries created exchange rates between their own currencies and the euro. Three years later, in 2002, the euro was introduced in physical form and along with a central currency for 12 member states came a single central bank (the ECB) and of course one single interest rate applicable to all. What was the purpose of this system? The economic rational was to create both internal and external economic benefits for member nations. In theory, a trading block encourages heightened internal trade (at the expense of outside parties), but is also designed to be powerful enough to pressurise external countries to trade on more favourable terms with the collective force of member nations. What was the inherent assumption that made financial wizards believe a European Union could work? European monetary architects believed that member countries were economically homogenous enough to integrate their financial systems into one union. Once inside, it was thought that members would adhere to strict monetary and fiscal disciplines which would ensure economic stability, thereby ensuring long-term financial prosperity. What went wrong? Although the credit crisis is no laughing matter, it is rather amusing that economics is a social science yet economists are notoriously bad at predicting human behaviour. In the case of the Euro-zone the assumption that differing cultures would behave similarly with respect to economic activity has proven to be utterly naive. A brief search of the internet will highlight the many differences between Greek and German social customs. In Greece, it is common-place to build but not finish houses. Why? Greeks feel that they should only complete what they need for today; the rest can be dealt with ‘as and when’ needed. There are uncompleted dwellings scattered throughout Greece. Those that have visited Greece will know that to Greeks, GMT time means ‘Greek Maybe Time’. The Greek people do not live by the clock! Greece is quite simply a laid back place affected by balmy weather and the hot Mediterranean sun. Against this, the Germans pride themselves on their ‘planning culture’. It prizes forward thinking and a clear understanding of what will be done at a specific time on a specific day! German lives are expected to be highly organized, better described as rigid with a Managing strict demarcation between work and private life. Money Sensibly 10 May 2010 Now expecting such obviously different peoples to conduct their financial affairs similarly, talks to the very heart of the current financial woes in Europe. As we now know, the Greeks were fudging their economic stats to remain in the EU. They gave up their much beloved drachma, a currency which served the Greek people for 3100 years and with it their sovereign independence to sit at the same table as the Germans and share a common means of exchange. But whilst they could forgo a currency, the Greeks could not give up an ancient culture, one which feasts on harvests with little concern of consequence. An innate desire to spend with little emphasis on austerity, a new economic environment where interest rates were much lower than what they had ever been used to, and a new, strong currency accentuated the problem. The result, a spending bonanza! But the party could not last indefinitely and the market wised-up to Greek economic and statistical alchemy and by October of 2009, the deficit of 12.7% of GDP and $419bn of debt was on the radar screens of all of those with an appetite to make money on the ‘other side’ of Greek celebrations. We now know what this has meant for the euro and the radical interventions that this situation has demanded from global monetary authorities. As we write, the ECB is creating liquidity in the financial system to prevent a repeat of the Lehman financial clog-up. The Swiss, Canadian, US and Japanese Central Banks have intervened too, and the Fed, desperate to shrink its stretched balance sheet is once again enlarging it to stave-off potential disaster. The size of the EU ball-out is 40% larger than the US’s TARP of 2009. At the heart of these matters, both in Europe and in the US is debt. Certain economies are bloated and are now experiencing the pains of right-sizing, the agonizing shifts required for normalization. One senses that it will take time, a long time before the final chapter of this novel is completed; until then markets will be desperately trying to find an appropriate level that justifies such uncertain times. Enjoy your week. ADRIAN CLAYTON SHAUN LE ROUX NEELS VAN SCHAIK MARK SEYMOUR PHILIPP WÖRZ MARK CLIFF PSG Alphen GREG FLASH Asset If you have any queries regarding the above commentary please contact Mark Cliff on 021 799 8069 or 083 700 3600 or Management is an authorised PLEASE NOTE: While every effort has been made to ensure that the information contained herein is correct, PSG Alphen Asset Management cannot be Financial services held responsible for any errors that may occur. The views of the contributors may not necessarily reflect the house view of PSG Alphen Asset Management. provider Views and opinions expressed herein may change with market conditions and should not be used in isolation. PSG Alphen Asset Management is a subsidiary of PSG Fund Management Holdings (Pty) Limited
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