Tuesday, January 17, 2012

European Debt Contagion Infecting the Core

The European sovereign debt crisis continues to unfold with the contagion starting to affect even the core European Union nations. The GDP of the European Union is now falling again even in nominal terms. Several days ago, the latest GDP numbers for Germany were released, showing that the nation's GDP declined even in nominal terms, along with Spain, Slovenia, and the UK.  The European Union is also bleeding jobs again with rapidly rising unemployment in most of the peripheral nations in Europe, as well as a decline in manufacturing and factory orders even in Germany.

In the latest series of developments, Standard and Poors downgraded the credit rating of France and eight other European nations. A short time later, the Euro Zone bailout fund was downgraded from AAA to AA+. This is a very clear indication that the sovereign debt crisis in Europe is now infecting the core European Union nations.

Portugal is now following Greece on the road to an eventual default on its debt after having its credit rating downgraded to junk status by all three credit rating agencies, with Spain following close behind. Even as a Greek default looms in the intermediate-term horizon, economists and analysts remain steadfast on their optimistic outlook on the European economy, most dramatically demonstrated by the interview involving the Greek Prime Minister on CNBC.

There are a number of other developments in Europe showing the effects of a spreading debt contagion with even the core nations affected:

1 -- The latest poll is showing that 65% of people in Italy have an unfavorable view of the euro with a substantial portion of the population preferring a return to the lira. This underscores a social trend associated with bear markets, namely the tendency for people to identify with smaller social units.

2 -- The austerity trend in Europe is unfolding in full force even in France and Germany as their governments move to tighten their belts with higher taxes and spending cuts. The social trend of increasing conservatism has continued to increase in Europe, with Greece and Portugal the first nations to implement austerity measures (as they were the first to be affected by the debt crisis) with Spain, Ireland, and Italy following suit. This underscores another bear market trait, namely, increasing conservatism as bearish social mood increases.

3 -- Europe's $39 trillion pension bomb is on the verge of going critical, if it hasn't done so already.

In the western world, the effects of "The Great Deflation" are stronger in Europe than they are in the United States and Canada. In many ways, the developments in the western world are a parallel of the 1930s when Germany defaulting on its debt in 1930 marked the beginning of the third phase of the Great Depression. We are on that path again, and at the present time, the United States is the only developed nation on the planet that is still creating jobs. As with the 1930s, Europe is poised to lead the way into the heart of the abyss with the United States and Canada following suit a few weeks to a few months later as the worst part of "the Great Deflation" unfolds.

Social mood is also deteriorating faster in Europe than it is in the United States as the updated charts of the DAX, FTSE, and the CAC-40 illustrate. The DJIA and the S&P 500 have exceeded the late October 2011 highs, but the DAX, CAC-40, and the FTSE are still below the October 2011 highs, setting up an intra-market bearish divergence.




Social mood in France and Germany has been deteriorating faster than expected -- both indexes are tracing out a truncated C wave within a zigzag in the form of an ending diagonal. If the wave counts for the DAX and CAC-40 are correct, it is a very bearish development as C waves within zigzags almost never truncate, and it is a harbinger of a third wave unfolding as a very fast decline. This is something to really keep an eye on in light of all the economic and political events unfolding in Europe.

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