The drama is building over European leaders’ continued inability to solve the debt crisis that threatens to explode the euro zone. Today, the leaders of the 17 countries that use the currency, along with others that are part of the European Union, are meeting to approve yet another Grand Plan. At least three previous plans have failed, and the rhetoric preceding this one has turned positively apocalyptic. French President Sarkozy told his ruling party, “The risk of explosion of the euro is looming” if the plan he worked out earlier this week with German prime minister Merkel should fail.
Now, we know you don’t have time to follow the repeated Grand Plans that emerge from European summits. (After all, you’ve got a business to run!) Instead, read through eight simple questions – the answers to which will tell you all you need to know about the debt crisis.
1. Why can’t Europe just fix this?
The same reason our Congress can’t solve our own debt problem: Politics. And if it’s tough to get agreement here between two political parties, where it takes a 60% majority to get anything done, imagine how much tougher it is in the Eurozone, where 17 different nations (each with its own political cross-currents) have to agree unanimously on any major initiative.
On top of that, there are also the politics of the European Central Bank, or ECB. Unlike the Federal Reserve in the U.S., which has no compunction about creating money to beat back a debt crisis, the ECB’s only mandate is to control inflation. Conjuring up central bank money to throw at a problem tends to cause inflation. Even if printing money is the right move in this particular emergency, it’s against the ECB’s rules.
2. Why all the scary rhetoric now? Is the problem so much worse?
It is because the fear has now spread to Italy. Most of the previous Grand Plans have been all about making sure there was enough money in the European bailout fund to make sure relatively small economies like Greece, Ireland and Portugal made it through. But investors are losing confidence in Italy’s ability to make good on its debts, and there’s no way Europe could raise enough money to bail out its third largest economy. The only entity that’s has enough dough—or the power to create enough dough—is the ECB. And the ECB doesn’t want to.
3. Why don’t they change the rules?
The Germans in particular are against it. Because of their history, they have an overwhelming anti-inflation complex, and they also have a point in terms of equity. The Germans have played by the rules and managed their economy well. Why should they see their currency degraded to bail out countries that have spent recklessly? It’s like prudent American homeowners who resent plans to bail out those who overextended themselves and got behind on mortgage payments. In addition, both sides invoke what economists call moral risk: Bailing out the reckless only encourages more reckless behavior.
4. Aren’t we a bit past that point? The Germans will only suffer more if the euro blows up, won’t they?
Yes. But politics is politics, and Angela Merkel is elected by German voters, not economists.
5. Do they have a plan for the big vote tomorrow?
According to Martin Wolf of the Financial Times, the plan is highly complex, but at the heart of it lies the hope of concessions from Merkel and Mario Draghi, head of the ECB. The key seems to be that both would be okay with having the ECB ride to the rescue to some degree, if members of the Eurozone agree to be fiscally responsible in the future. (Of course, they had already agreed to be fiscally responsible when the joined the monetary union. They just didn’t do it.) Draghi is playing his hand close to the vest, however. In a key speech today, he took several small steps to help head off recession in Europe, and while he urged member states to get their government budgets in order, he made no commitments about having the ECB back up their debt if they did.
6. Okay, suppose this plan falls through. How will my business be affected?
You should be fine if your business is conducted in cowrie shells, krugerrands or barter. But if you need money or banks, or if your customers do, you need to hope Europe holds together. U.S. banks and the U.S. economy are so tightly linked with European banks that if they go, we go. Think back to how your business did in 2008 and 2009. It would be like that if European countries began an unplanned default. Only worse.
7. Surely you’re exaggerating.
8. What should I do about it?
According to the Wall Street Journal, J.P. Morgan has advised their clients to hedge their entire financial exposure to the euro. While the bank puts the odds of a euro disaster at just 20%, in the bank’s opinion, the horrific downside justifies buying what amounts to currency. The day before the crucial vote, this carries more than a whiff of panic.
More important, while currency hedges can protect you from losing money in currency fluctuations, they won’t protect you from the economic risk of meltdown in Europe. For that, Brent Beene of Regent Atlantic in New Jersey, a financial adviser to business owners, suggests that owners keep calm, be careful with their resources and look for opportunities that this kind of disruption always provides.
I am telling my clients to think long term in capital and personnel investments and to focus on the opportunities this crisis is creating. This could very well be the time that you look back in 20 years and say the strategic decisions we made during the those turbulent times, while others were stockpiling cash, gold, guns and ammo, catapulted the business into a new stratosphere. Not getting swept up in the emotional rollercoaster is paramount in this environment.
And finally: Root for Draghi, Merkel and the Europeans to free up the ECB to take the step that clearly has to be taken.