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Stewart Cowley: Last tango in Buenos Aires
by Stewart Cowley on Feb 11, 2014 at 10:30
European deflation trap
It may seem an incongruous leap to start talking about Europe after that but on the face of it they are staring at the opposite – deflation.
What both societies share in common is a lack of acknowledgement that a problem exists. The European-style classical deflationary spiral is born out of a need for a lack of money and the need for a currency devaluation.
To illustrate this you don’t have to look much further than a strong monetarist interpretation of the world and see the relationship between broad money supply growth and gross domestic product.
If you weren’t convinced before, you should by now know that for a capitalist society to exist it must have a credit cycle and for that to function you have to have a functioning and, preferably, expanding banking system. Neither of these things are evident in Europe nor are they going to turn around in the near future. Europe is in a deflationary trap built out of its own ossified system.
Europe needs QE
Both Christine Lagarde and President of the European Commission José Manuel Barroso have done their darndest in the past two weeks to pull off a Draghi-esque confidence trick, by trying to tell us all that everything in Europe is fine and as long as we carry on as though nothing has happened there is light at the end of the tunnel – things have at least stopped going down.
But, as should be obvious, if a man jumps out of a building he will eventually stop falling but it doesn’t tell you anything about the condition he is in after he has stopped.
Somehow, and it may be quite soon, the Europeans will have to find a form of words that allows them, via the European Central Bank, to engage in an American-style version of quantitative easing.
This will have many effects not least of which will be the desired decline in the euro against all its major export competitors but also in the process suppressing European government and corporate bond yields during 2014 and beyond.
Citywire + rated Stewart Cowley runs the Old Mutual Global Strategic Bond fund , a Citywire Selection fund. According to Lipper the fund has returned 6.5% in the three years to 10 February versus a 5.1% rise in the benchmark.
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