bill gross on europe

8/3/2019 Bill Gross on Europe

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MARKETS INSIGHT November 15, 2011 4:53 pm

Take flight from Europes policy food fight

By Bill Gross

A 12-year-old coffee mug has a permanent place on the right corner of my office desk. Given

to me by an Allianz executive to commemorate Pimcos marriage in 1999, it reads: You can

always tell a German but you cant tell him much.

It was hilarious then, but less so today given the events of the past several months, which have

exposed a rather dysfunctional euroland family. Still, my mug might now legitimately be

joined by others that jointly bear the burden of dysfunctionality.

Beware of Greeks bearing gifts could be one; Luck of the Irish another; and how about a

giant Italian five-letter Scusi to sum up the current predicament?

The fact is that eurolands fingers are pointing in all directions, each member believing they

have done more than their fair share to resolve a crisis that appears intractable and never-

ending. The world is telling them to come together; theyre telling each other the same; but as

of now, it appears that you cant tell any of them very much.

The investment message to be taken from this policy food fight is that sovereign credit is a

legitimate risk spread from now until the twelfth of never.

Standard and Poors shocked the world in August downgrade of the US one of the worlds

cleanest dirty shirts to double A plus. But what was once an emerging market phenomenon

has long since infected developed economies as post-Lehman deleveraging exposed balance

sheet excesses of prior decades.

Portugal, Italy and Greece hit the headlines first, but new normal growth that was

structurally as opposed to cyclically dominated exposed gaping holes in previously sacrosanct

sovereign credits.

What has become obvious in the last few years is that debt-driven growth is a flawed business

model when financial markets no longer have an appetite for it. In addition to initial

conditions of debt to gross domestic product and related metrics, the ability of a sovereign to

snatch more than its fair share of growth from an anorexic global economy has become the

defining condition of creditworthiness and very few nations are equal to the challenge.

It was in this growth snatching that the dysfunctional euroland family was especially

flight from Europes policy food fight - FT.com http://www.ft.com/intl/cms/s/0/cc1ada48-0c4d-11e1-8ac6-00144

11/16/2011


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vulnerable. Work ethic and hourly working weeks aside, the euroland clan has long been

confined to the same monetary house. One rate, one policy fits all, whereas serial debt

offenders such as the US, UK and numerous G-10 others have had the ability to print and

grow their way out of it.

Beggar thy neighbour if necessary was the weapon of choice in the depression, and it has

conveniently kept highly indebted sovereigns with independent central banks afloat during

the past few years as well. Depressed growth with more inflation, perhaps, but better than the

alternative straitjacket in euroland.

As currently structured, eurolands worst offenders now find themselves at the feet of a

Germanic European Central Bank that cannot be told to go all-in and to print as much and as

quickly as America and its lookalikes.

The European Unions imposed fiscal solution is to clean up your act, but, in the process, to

impose years of deflationary relative wage policies on a rather spoiled southern citizenry.

Perhaps they will stand for it, perhaps they wont. But, as time winds on, a rather permanentcredit spread of damaging proportions threatens these economies with higher bond market

yields, increasing rather than decreasing debt to GDP levels. Sovereign creditworthiness and

potential default become greater downside probabilities, indicating a greater likelihood of

significant losses.

Italian bond market yields have declined as fast as they went up in the past few days , proving

that technicals and market psychology are an important dynamic to consider as well. But with

10-year rates in the 6-7 per cent range and topping 7 per cent on Tuesday Italy would

require an annual primary surplus of nearly 5 per cent in order to prevent an accelerating

increase of its debt-GDP ratio. Temporary technocrats and a new prime minister have their

hands full.

Investors, then, must be leery of the self-reinforcing dynamic that has many fathers and

spreads much of the blame: ad hoc and insufficient policies from fiscal and monetary

authorities; decades of balance sheet and savings abuse from the southern euroland

periphery; unresponsive and insufficient support from supranational agencies, including the

International Monetary Fund; a me-first attitude from developing nations that control global

reserves. All of them join the worlds most dysfunctional family euroland in telling others

what to do, but not listening much.

As a result, deleveraging, fiscal tightening and potential defaults are on the economic and

investment horizon. Investors should be in a risk off mode. When this is finally over, a lot of

parties will owe the world one giant Scusi.

Bill Gross is founder and co-chief investment officer of Pimco


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11/16/2011

bill gross on europe

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