James Saft

Far from setting a trap for the “wolfpack,” Europe’s $1 trillion bailout package amounts to a full employment act for speculators, or should that be the reality-based community, for the foreseeable future.

Hoping to tame markets it accused of “wolfpack behavior,” the European Union on Monday unveiled a 750 billion euro package intended to avert a rolling sovereign debt crisis that has engulfed Greece and threatens to spread widely among the weaker euro zone countries.

The package can’t be blamed for being too simple: it contains loans from the International Monetary Fund, an EU emergency fund and euro zone governments, as well as an interesting undertaking by the European Central Bank to buy bonds in order to restore liquidity to supposedly poorly functioning parts of the bond market. In a move straight out of a Russian fairy tale, Spain and Italy, to name just two, are pledging money towards a package that may well be used to bail themselves out. Maybe they should have put up even more money.

Once again, those in power look at a solvency issue and pronounce gravely that is a matter of mere liquidity.

Well, it isn’t.

That move worked, at least for the time being, when the United States bailed out its banks, but the U.S. was able to create easy conditions in which its banks could earn their way out of the hole. Rather than create easy conditions, this bailout imposes tougher ones. Greece, Spain and Portugal will face even greater austerity as a result of budget cuts, austerity that will make it even tougher for them to earn their way out.

The dollar may hang by the slender thread of the U.S. recovery, but this is probably enough to make it the major currency of choice.

It is not so much that the dollar is strong, but that the case for its major peers — the euro, pound and yen — is so weak.

The euro zone faces tremendous pressure; Greece may, just, have been rescued, but it, along with Portugal, Spain, Ireland and Italy are unleashing powerful deflationary forces making quantitative easing by the European Central Bank a real possibility. Further contagion within the euro zone is also a  strong possibility, meaning market risk will compound fundamental risk.

– James Saft is a Reuters columnist. The opinions expressed are his own –

To look at sterling and gilts, you would hardly know that Britain is sailing into a general election which will likely deliver a weaker government with a diminished ability, if not will, to grapple with high debts, an uncertain role in the global economy and an aging population.

It is impossible to say what will be the result on Thursday, nor what deals may be made between the surging Liberal Democrats, a bedraggled Labour party which will still have a significant wodge of votes and the Conservatives, who must be both hoping that their hour has arrived and that that hour does not prove to be Monday morning at 8 a.m., pouring with rain and all the trains are late.

To look at sterling and gilts, you would hardly know that Britain is sailing into a general election which will likely deliver a weaker government with a diminished ability, if not will, to grapple with high debts, an uncertain role in the global economy and an aging population.

It is impossible to say what will be the result on Thursday, nor what deals may be made between the surging Liberal Democrats, a bedraggled Labour party which will still have a significant wodge of votes and the Conservatives, who must be both hoping that their hour has arrived and that that hour does not prove to be Monday morning at 8 a.m., pouring with rain and all the trains are late.

There is a huge range of scenarios — a weak minority or majority government or a coalition of some form — but the common denominator across almost all likely outcomes is that all raise the risk of a weak government unable or unwilling to push through aggressive deficit-reduction measures.

Europe desperately needs to get out in front of its solvency problem, Greek edition; not because it is right, not even because it will work in the long term, but to stem rapid and costly contagion through financial markets to other weak links in the euro zone, not least to banks.

Whether euro zone institutions will have the agility and resolve to quickly put in place out-sized measures for Greece is doubtful.

That Greece on Wednesday was paying more than 20 percent, or about double the rate of Hugo Chavez’s Venezuela, to borrow money for two years showed that investors were expecting either a default or very large burden sharing by existing creditors, and possibly a, by definition, disorderly exit from the euro by Greece. Spain joined the list of sovereign downgrades, as Standard & Poor’s cut its rating a notch to AA, a day after the debt rating agency slashed Greece to junk status and cut Portugal to AA.

Better growth, less debt and what is shaping up to be a very nice little supply and demand mismatch make emerging markets very attractive relative to the developed world.

Sure, China could go ‘pffft’ every now and then, and yes, there is potential for getting caught at some point on the wrong side of a deflating bubble, but boom and bust is the world in which we live. Stay in the developed world and you could get run over by the proverbial Greek bus on its way out of the euro or see your portfolio shot out from under you by the bond market vigilantes.

And, as the International Monetary Fund pointed out last week, emerging market returns have been better on a volatility adjusted basis, both during the downturn and the market recovery. Think about that: historically the trade-off in emerging markets has been that you try to capture a share of superior economic growth but bear the risks of higher volatility and a bigger chance of being abused as an investor by entrenched local interests.

If you want less of something, tax it.

That truism is often used as an argument against a tax on profits, or health benefits, or employment, but in the case of the rents extracted from the economy by the financial services industry here’s hoping it proves more of a promise than a threat.

The International Monetary Fund has put forward two new taxes on banks to pay the costs of future rescues, one of which is a fairly conventional “Financial Stability Contribution,” with an initial flat levy on all banks, to be refined later into something with more precise institutional and systemic risk adjustments.

More interestingly, the IMF is also proposing a “Financial Activities Tax,” (FAT) a tax on bank pay and profits which, if correctly designed, could serve as a tax on rents — the unwarranted spoils — of the financial sector.

So remind me, why will clients continue to do business with Goldman Sachs?

I know, it is a stupid question; investors and corporations will continue to do business with Goldman even after the bank has been charged with an alleged fraud for the same reasons they always have: because they hope, like every gambler, to beat stacked odds and because they flatter themselves that they are not the sucker at the table.

Don’t count on the profitability of the financial services sector as a leading indicator of anything. Well, anything other than financial services compensation.

A stupendous recovery in profits is underway at U.S. banks, brokerages and insurance companies, but the big picture shows that for the rest of us that rebound may prove sterile.

Data from the U.S. Bureau of Economic Analysis shows the sector had an absolutely cracking 2009, with profits rising in the fourth quarter by 240 percent against the same period a year before.

It will take more than a recovery in housing to reignite inflation in the U.S. economy, a state of play that argues for the continued threat of deflation and a Federal Reserve that is pinned to the mat, unable, even if willing, to raise interest rates.

The strong disinflationary forces in the United States are deeper and wider than a simple, if bloody, aftermath of a housing bubble.

Many took encouragement from a report by Reis Inc that apartment rents in the United States rose in the first quarter for the first time in a year and a half even as the apartment vacancy rate stayed at an all-time high of 8 percent. Besides indicating a possible recovery in jobs and household formation, which tracks jobs, there is a hope that stabilization in housing values and rents would remove a powerful disinflationary force.