November 2, 2011

With What Little Wisdom

 “Dost thou not know, my son, with what little wisdom the world is governed?”
–Count Axel Oxenstierna of Sweden (letter to his son, 1648)

The Greek Word For Chutzpah

In Spanish, it’s cojones.  In English, audacity or insolence.  In Yiddish, Chutzpah.  And in Greek, as European and global financial markets are now being reminded, it’s hubris.

After nerve-rackingly putting their reputations, political futures, as well as their countries’ finances on the line (albeit in my opinion to bail out bad decision-making banks) – German Chancellor Angela Merkel and French President Nicolas Sarkozy may have thought they’d been granted a temporary reprieve when the recent European debt/bailout agreement was reached.  Large Euro-banks agreed to a 50% haircut on the Greek debt they owned.  The region’s bailout fund (European Financial Stability Facility/EFSF) was expanded by leveraging it up four-five hundred percent (to a trillion euros).[1]  Of course, the not-so-minor detail of finding a lender, any lender, to provide the funds for the EFSF expansion has still yet to be accomplished.  No worries — markets headed upward nonetheless!  It was a time for celebration, no?

No.

On October 31, in an out-of-the-blue move that stunned Europe along with world financial markets, Greek Prime Minister George Papandreou announced a Greek referendum on the rescue pact.[2]  In other words, the Greeks, who’ve fiscally run themselves into the ground; who are out of money to make payments on the money they’ve borrowed; who are dependent on further handouts to avoid collapse; who are protesting violently over the austerity measures they’re required to implement to get said further handouts – are letting their electorate (the same people suffering under the required austerity measures) vote on whether they agree with the Euro/Greek rescue deal.  One can only imagine the look on Merkel and Sarkozy’s faces when they received the news.

My guess is Greek citizens will vote a resounding no to the rescue package.  If so, things could really get interesting in Europe and world financial markets.

Oxenstierna’s Lesson On Amateur Hour

The Oxenstierna quote above was introduced to us by our dad when we were kids.  He’s reiterated it over the years, and its accuracy seems to be proven on a regular basis.  Recently, even more so.  Oxenstierna was no dummy.  Extremely competent and talented, he was Lord High Chancellor of Sweden (a post he held from 1612 until his death in 1654) under Gustavus Adolphus during the 30 Years War.[4]  A time when the Swedish Empire was a major European power.  Oxenstierna’s 363 year-old observation, to me is still dead-on.  Another example of how human nature has not changed, and how history can instruct.

I’ve said it before and I’ll say it again – the adult student council seems to be running the world.  And it appears to be amateur hour.  I firmly believe debt monetization is notthe way for governments to handle their finances, because the resulting inflation and currency debasement hurts citizens (savers and consumers alike).  That said, it’s obvious to me it’s the path world governments have chosen.   Yet even as preparations are being made to further monetize/print in Europe to bail out badly run countries and badly run banks, Europe may be in danger of fumbling the ball.

To me it looks like they can’t even do the wrong thing right.

That said, I believe world governments will print, with currencies continuing to get debauched in the process.  Severely cutting back on entitlements across the board at worst could cause massive social unrest (see Greece) – and might also result in politicians getting un-elected.  Big, influential banks also seem to regularly get bailed out.

Velocity

History shows us monetization/currency debasement is how massively indebted governments tend to default on their debts.  I.E. to pay it back with a watered down currency.  While I believe world governments and central bankers feel a need to print $trillions more, it’s also my opinion what they fear greatly is an increase in monetary velocity.  I.E. the populace catching on, losing faith in the currency, dropping it, and investing instead in tangible assets which governments cannot print.  This can drive up prices dramatically.  In worst case scenarios hyperinflation can result.

Central bankers appear to do their best to hide their money printing.  If nobody steps up to lend to Europe/the EFSF, it’s my opinion the choice for central bankers (including the Federal Reserve) and governments comes down to either deflationary collapse – or printing massive amounts of money.  The former (and painful) choice seems to be an anathema to most politicians.  The latter, if chosen, could cause interesting reactions by the investing public.  A time then to focus on monetary velocity.

As always, I maintain my positive outlook.  That outlook is based on my belief a bear market in one thing is often a bull market in another.

As we enter this critical time – now, more than ever – I believe investors need to focus on their investment strategies. Those readers who are clients are fully aware of the strategies we’re implementing in light of unfolding economic circumstances. Others may feel free to contact us to learn more.

Sincerely,

Stephan R. Ernharth, JD
Vice President
Ernharth Group
www.ernharth.com

Go to www.ernharth.com/economic-commentaries to read past articles from our Economic Commentary series.