Financial conditions have diverged from economic conditions in the industrialized world. Both Japan and the United States currently boast rising stock markets with GDP decreases in the most recent quarter, but nowhere is this divergence more stark than in Europe.
The Eurozone will shrink in 2013 after entering recession in 2012; yet if you solely observed the stock and bond markets you would have to conclude that the continent is in the midst of a rip-roaring, good old fashioned boom. The divergence is caused by cheap money and the promise of more cheap money from the world’s central banks.
The Eurozone is in a recession with Spain and Greece in depressions. Moreover, the vaunted banking and fiscal unions that are to transform Europe into the promised land are no closer to being implemented than they were when announced at the June 2012 summit.
In order to have a true union, the FANG countries must decided to become joint and severally liable with the PIIGS for the costs of bank resolutions, depository insurance and fiscal transfers. Sure, there have been announcements by sundry eurocrats and lots of paper shuffling in Brussels, but as long as the FANG is unwilling to ante up a couple of trillion euro or so to fund these initiatives, they will remain paper tigers.
Meanwhile, declining economic conditions continue to increase PIIGS debts no matter how much spending they cut or revenue they attempt to raise. Eventually, the ECB will be asked to actually do “whatever it takes” to support these declining regimes, and the FANG will be forced to make a profound choice.