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How to survive the Eurozone apocalypse

  • 31 May 2012

Headless towards Armageddon

Look at what's below. That could be the watchword as the Eurozone Titanic heads towards what many consider its icy end.  Greece is the visible part – but much of the rest of the zone could be the hidden part of the iceberg which really holes the good ship Single Currency.

The choice may be between an apocalypse which brings a quick end to the misery or an attempt to change course which may save the euro ship. Or could it lead to even bigger disasters – losing the whole fleet rather than just the Greek trireme or even the Spanish galleon.

Southern Europe is not currently enjoying a lot of luck. Even olive oil, a major agricultural export, is suffering according to Henderson Global Investors. A bumper crop coincided with consumers shunning olive oil for cheaper sunflower. The price of olive oil is at a 10-year low inflicting further pain on Spain, Italy and Greece, the three largest producers which cumulatively produce 70 per cent of global demand. If nothing else, Greece is not alone.

Under the volcano

Currency dealer FXPro compares assets prices to a volcano  – apparently dormant on top, but a bubbling cauldron of fire and friction underneath. It also refuses to isolate Greece from the euro mix. It says: " Although most now accept that the end is nigh for Greece in terms of continuing participation in the eurozone, events in Spain are moving so incredibly quickly that the centre of global systemic risk has now shifted indelibly to Madrid. Retail sales in Spain collapsed by 16% in real terms in the year to April confirmed that this is another European economy in freefall."

Although there is a majority belief that Greece will vote for euro membership continuation, there is an increasingly held line that the outlook for Europe is pessimistic – almost irrespective of the currency argument with economists only offering a weak idea of how the euro break-up most forecast (or wish for) will bring a return of prosperity.

With so much misery, investors can't be blamed if they look for salvation not Armageddon. Gold is not the answer – it is falling as recessions dampen inflation. And the Swiss authorities are set to cap their currency rise.

An article by Anglo-American economist Simon Johnson would appear to offer help. Entitled The End Of The Euro: A Survivor's Guide it would seem to present a route for investors out of the present mess.

The moment of clarity

Johnson sees no alternative to Grexit. He writes: "In every economic crisis there comes a moment of clarity.  In Europe soon, millions of people will wake up to realize that the euro-as-we-know-it is gone. Economic chaos awaits.

He sees a one-way route to ruin. "Europe's crisis to date is a series of supposedly "decisive" turning points that each turned out to be just another step down a steep hill.  Greece's election on June 17 is another such moment.  While the so-called "pro-bailout" forces may prevail in terms of parliamentary seats, some form of new currency will soon flood the streets of Athens.

"Faced with five years of recession, more than 20 percent unemployment, further cuts to come, and a stream of failed promises from politicians inside and outside the country, a political backlash seems only natural.  With IMF leaders, EC officials, and financial journalists floating the idea of a "Greek exit" from the euro, who can now invest in or sign long-term contracts in Greece?  Greece's economy can only get worse."

After that, it will be "a chain of events that leads towards a chaotic dissolution of the euro zone."

Billions at risk

He writes: "During the next stage of the crisis, Europe's electorate will be rudely awakened to the large financial risks which have been foisted upon them in failed attempts to keep the single currency alive.  If Greece quits the euro later this year, its government will default on approximately 300 billion euros of external public debt, including roughly 187 billion euros owed to the IMF and European Financial Stability Facility (EFSF)."

This is confusing.  In one paragraph, Johnson says "some form of new currency will soon flood the streets of Athens" but in another he writes "if Greece quits the euro later this year&
quot;. It is difficult to reconcile these two statements.

In language reminiscent of fire and brimstone preaching, he believes euro apocalypse is near: "With Greece proving that all this financing is deeply risky, the euro system will appear far more fragile and dangerous to taxpayers and investors. The Greek trajectory of austerity-backlash-default is likely to be repeated elsewhere."

He adds: " Capital flight could last for months, leaving banks in the periphery short of liquidity and forcing them to contract credit – pushing their economies into deeper recessions and their voters towards anger. "

Grexit as Berlin goes for escape

He estimates that "the simplest solution will be for Germany itself to leave the euro, forcing other nations to scramble and follow suit.  A disorderly break-up of the euro area will be far more damaging to global financial markets than the crisis of 2008."

It gets worse. "Europe's rich capital markets and banking system, including the market for 185 trillion dollars in outstanding euro-denominated derivative contracts, will be in turmoil and there will be large scale capital flight out of Europe into the United States and Asia. It is almost certain that large numbers of pensioners and households will find their savings are wiped out directly or inflation erodes what they saved all their lives.  The potential for political turmoil and human hardship is staggering."

He concludes: "Forget about a rescue in the form of the G20, the G8, the G7, a new European Union Treasury, the issue of Eurobonds, a large scale debt mutualisation scheme, or any other bedtime story.  We are each on our own."

It may happen as Johnson predicts. Or not. But whatever, the promise of a guide for survivors is missing. What should investors do if he is right?  The tricky part is presenting a new future. Maybe Johnson could do before his promised apocalypse arrives?

Some more practical pointers

Meanwhile on a more practical note, Robert Farago, Head of Asset Allocation, Schroders Private Bank, asks "What if Greece leaves the euro?"

Crucially for investors his advice is:

"The overall immediate impact will be deflationary. Shares will fall. Cash and UK government bonds will be relative safe havens. Recessions also hit property prices but central London could continue to defy gravity due to its appeal as a safe haven. Interest rates will remain pinned to the floor. The pound will be weaker against the dollar and nor will it be the strongest currency in Europe – that will be the Deutschemark if we go back to where we started – but it will certainly not be the weakest.

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