The end of Europe?

Fulfilling market rumours, Standard & Poor’s (S&P)on Friday downgraded the credit rating of nine eurozone countries, pushing the bloc a step closer to the brink and leaving Germany the only sovereign with AAA status and a stable outlook.

But while the downgrades, issued after the end of the day's trade, might have been expected, they could mark the start of a wide re-pricing of debt with a string of further cuts looming if Europe continues to ignore its issues.

The latest export levels from America to Europe highlight just how fragile the region has grown and that the its path to recovery will be a long one.  According to the latest data - before Europe has even entered a recession - exports from the US to the EU were 7% down in the last quarter, and if US exports are in decline, then it is not too gigantic a leap to assume Asian and Latin American exports will also have taken a hit.

As Fidelity's Dominic Rossi points out, all this has brought the eurozone crisis back to centre stage again after a period of more positive economic news from the US and easier monetary policy in China, both of which had helped to push equities higher in recent weeks.

'While the downgrades to France may not be too surprising to markets, it is still disappointing news that will drag down the euro and equity markets,' Rossi, chief investment officer of equities, said.  'The downgrades confirm our view that we are witnessing a general re-pricing of sovereign debt. This re-pricing started with the weakest sovereigns such as Greece, but has now decisively moved to the primary bond issuers. We expect it to spread further.'

Speculation over an EFSF downgrade is now bound to rise, but away from the more immediate consequences of S&P's downgrades, Europe still has to resolve its key issues: trade imbalances and bank insolvency.

Of these, it is trade imbalances that is the most crucial to resolve, a point highlighted by esteemed market commentator John Mauldin.

'A country cannot reduce private sector leverage, reduce public sector leverage  and deficits and run a trade deficit all at the same time.  That is simple, unavoidable math,' Mauldin argued in his latest update.  'Greece runs a trade deficit of about 10% of GDP.  Until [it] can stop that bleeding, [it] cannot get government and private budgets under control..  It is not simply a matter of cutting budgets or raising taxes.'

The end of Europe?

So long as trade imbalances exist and peripheries remain unable to balance their budgets, countries like Greece will not stand on their own two feet, Mauldin believes.

Germany could alter this by either consuming more or changing how it exports, or until it decides to fund Greek, Portuguese and Italian debt so these sovereigns can continue to run huge debts.

But in the latter scenario more debt will simply make it harder for these countries to grow their way out of the crisis.  To borrow a phrase from Mauldin, 'if you're already drunk,  you can't get sober by drinking more whiskey.'