How Europe Went From Bad To Worse In The Course Of A Summer

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Over the course of a news-packed summer, Europe has gone from bad to worse.What was being addressed as a Greek problem three months ago has now turned into a European problem of epic proportions — in fact, since the Greek bailout in late July, we’ve been talking far more about Italy and Spain as the major trouble spots in the eurozone equation.

How did things escalate so fast, and what implications does this have for the continuing crisis?

The truth of the matter is that there’s little new information. Some people did see this coming — like this one in February 2010. The fact that European leaders and the European Central Bank have been able to stave off this formidable problem may even be oddly comforting.

Let’s return to May 2011. All eyes were on Greece’s new austerity measures and the riots raging against them. German Chancellor Angela Merkel was publicly talking about how Greek default would be inevitable, while analysts predicted that this could spell the end of the euro.

The agreement on a Greek bailout and “selective default” took place in late July and the euro has still not gone to bust. Neither Germany nor Greece has backed out of the agreement — though talk about Greece being forced out has become popular in recent days — and the euro is still plugging along, albeit dejectedly.

Now, however, no one really cares about Greece (or Portugal or Ireland). It has become clear that Europe’s problems extend beyond two or three profligate peripheral states. In fact Italy and its 120% debt-to-GDP ratio — barely discussed in the spring — now appears to be the big rotten egg in the basket, and more signs are emerging that an unthinkable default may soon descend upon the land of pasta and pepperoni. Meanwhile, European lawmakers toy with eurobonds and major changes to taxation and governance in the eurozone may soon become a reality.

The course of events this summer teaches us a handful of things:

Germany is the strong man of Europe. Proposals Merkel suggests have this funny way of coming true, despite mounting domestic opposition. If her coalition falls apart, we could see a huge policy shift from Berlin, but this seems less than likely, particularly with Merkel’s CDU ever more accepting of radical measures like eurobonds.

– The sovereign debt crisis is rapidly turning into a credit crunch, which could be disastrous for global markets.

– Germany and France will do whatever it takes to keep the euro alive, because not doing so is simply not an option.

– That said, no one is going to take strong definitive action until there is no alternative. Leaders will continue to kick the can down the road because the answers are difficult and often politically damaging. This is going to make getting out of this mess a lot more painful for everyone involved.

– We are NEVER going to get a breakthrough announcement about how to fix this crisis. Markets seem to wait on EU meetings with bated breath, but the truth is there’s just never going to be a happy announcement. Case in point: this week’s Merkozy meeting actually produced a lot more tangible data and results than should have been expected, and the fact that eurobonds were even mentioned as an eventual possibility was a panacea. Yet directly afterwards markets tanked.

– What doesn’t break Europe will only make it stronger. The EU will emerge from this crisis a lot more integrated with far more stringent financial rules. Lots of European countries share the same problems — high debt, high unemployment, and low growth — that are simply not going to be acceptable anymore. Expect EU countries to look a lot more like Germany (or else).