Thanks, but Sorry, your way won't work, so let's...

The past two weeks have witnessed major changes in the political and financial landscape of the European Union and the Euro area.  Two of the European region's most economically and politically unstable members have endorsed visions for new governments. An Italian  lawmakers' consensus has accorded Mr. Mario Monti the opportunity to form a transitional government that will empower Mr. Monti to negotiate and manage Italy's financial portfolio through turbulent waters; a Greek lawmakers' consensus has accorded Mr. Lucas Papademos the opportunity to form a transitional government that will empower Mr. Papademos to negotiate and manage Greece's financial portfolio through even more turbulent waters.

In the same European theatre during this year's summer and fall,  a new optic is also focusing the people and market's perspective on the political savoir-faire and competence of the region's traditional leadership.  According to many, Mrs. Merkel and Messrs Sarkozy and Cameron are demonstrating a lack of courage to make things happen. The situation is simply too overwhelming for that threesome.  To the boisterous three is the stage, but not History! History confirms that some leaders are made for good times and others, in the mold of Roosevelt and Churchill are made of a 'stuff' that captains the worst of storms.

Although premature and echoing the sound of fluttering feathers, we are nevertheless inspired by both Monti and Papademos, firstly because the respective country's lawmakers agreed to the appointment and secondly, because the national sentiment appears to be overall favorable. The fundamental criteria for success in bleak times is the support of the people-which, while it lasts tacitly transforms the leadership of a technocrat to leadership by charisma. The 'je ne sais quoi' that makes Monti and Papademos viable is exactly the opposite of 'je sais tres bien que' Mrs. Merkel and M. Sarkozy  are no longer comfortable to lead the EU nor the Eurozone out of this maelstrom. Mrs. Merkel whose economy is cruising through the turbulence seems confused about her directions and reads signals with great difficulty, she should possibly review her entourage for more capable resources. Mr Sarkozy should leave aside his political ambitions and rise to the European Region's challenge-it would probably guarantee him the undecided electorate. Finally, Mr. Cameron should abandon his economic platform and slowly steer towards fiscal accommodation before the country reaches the crevice.The economic indicators for the UK are in a sharp decline, and although inflation is for all intents and purposes non-problematic, unemployment is on the rise and capacity is in decline. The latter do not project good times.

In this maze of political ambiguity, Monti and Papademos, seconded by a  known entity Mr. Mario Draghi stand out quite remarkably. In fact, the rise of Monti may have been spurred by Mr. Draghi's reluctance to fully engage the ECB in support of the Italian auction sponsored under the last Berlusconi government. The politicization of the European Central Bank in this context is not acceptable-it mirrors the rise of a political elite beyond the legitimacy of elected representation. If the analysis of the ECB's undemocratic behavior is correct, then Mr. Draghi must explain the actions of his office towards the Italian electorate.

On the other hand, regardless of the origins of their rise, Messrs Monti and Papademos were well-trained to deal with the one concrete challenge of any political economy - to spur employment and extend economic growth. Mr. Monti, as a student of the keynesian Mr. James Tobin has the baggage and opportunity to challenge the austerity measures that are being imposed on the Italian economy. The discourse is not to settle on the terms for a refinancing but to convince markets that the conventional wisdom is not operative and will fail dramatically in the longer run. If markets do not want to be disrupted, then they must entertain the possibility that social unrest will certainly ensue a market's intransigence towards the plight of the unemployed. The matter does not involve a change in narratives, it requires a change in the essence of the discourse.

For Mr. Papademos, the measure of success lies in convincing the Greek electorate that unless there is some accommodation by the people, then there will be no accommodation by the markets. But this tradeoff is quite out-of-line with Mr. Papademos own dispositions. As a young economist, Mr. Papademos studied the accommodation of anti-inflation policy  in promoting employment.  If one considers that the whole segment of the public service is discontented about the market behavior towards Greece's dilemma, then Mr. Papademos must re-engage the early flirtations of his intellectual odyssey and abandon the ECB temple's aphorism of 'Price Stability'. One also hopes that he will challenge the skew towards privatization of public assets that seems to be permeating the ideological baggage of most European leaders in structuring refinancing.

Certainly, one of the critical errors of the ECB financial managers has been the concession to promote 'price stability' at the expense of employment. During two consecutive sessions in April and July, Mr. Trichet decided to boost interest rates when every economic indicator in Europe signaled that there was no inflationary threat imminent on the horizon. If anything, the rate increases intensified an already fragile economic landscape, tempering business investment, and disappointing any consumer initiative to spend. The initiatives certainly cast doubt on the sound judgement of European financial leadership.  One can forgive Mr. Papademos for the latter case in point,because obviously, Mr Papademos although a former member of ECB's executive directorship, and Vice-President to Mr. Trichet, had  left the ECB in 2010. What does that imply for Mr. Draghi who inherits the sequitor of that deepening crisis. On the one hand, Mr. Draghi has signaled his intentions to support any reasonable auctions in the market. If there is anything for Mr. Draghi to recall it is one of  his former teacher's Robert Solow's insight that persistent levels of unemployment adversely affect long term growth in productivity and a second caution that accelerating unemployment can have a disinflationary effect which, in our opinion, given the European context of the day translates into a tendency to affect adversely real wages more than prices, hence disposable income and consumer spending rather than corporate revenues.

Although both Messrs Monti and Papademos are highly capable and well-intentioned, the leap from technocracy to polity is not a matter of degrees. It involves a qualitative leap that resembles more a Kierkegaardian leap of faith that marks the end of innocence.  Although the scenario both men confront at the moment in their respective nations is reminiscent of  the High-Noon sheriff's duel with destiny, both men are certainly more equipped and better supported than the solitary Gary Cooper with his lone gun.

Nevertheless, we have faith that both men will succeed by cautiously pulling back from endorsing further austerity and inviting the markets to the table in order to embed the common sense of loosening up their exigencies. We also trust that Mr. Draghi will endorse a more accommodating stance towards national governments that confront onerous economic and financial challenges. There is no easy formula for success, but there are options that are more beneficial than tightening the coffers of an economy- put people back to work.

Fitch winks a AAA...

On August 16, 2011, Fitch Ratings confirmed its AAA rating for the US sovereign debt. Whether it was an anti-climactic no-brainer after witnessing the fiasco of the S&P downgrade, or Fitch corporate insight that it may just be too early to throw the towel in on US sovereigns given the response the markets gave to the rival's downgrade is irrelevant except to seers and their jury. In fact,  the sequitur- Treasuries rose in price and equities tumbled,  the dollar surged as capital flowed into the US for the short term was predictable. Meanwhile, an overly cautious European financial system and European AAAs tried to make sense of their own regional fiasco in light of this US resurgence. It was a perfect storm for Fitch to stall on, without sinking.

Analysts Messrs. Riley, Olert, Renwick and Fitch management should be commended for their approach and narrative: 

"The affirmation of the US 'AAA' sovereign rating reflects the fact that the key pillars of US's exceptional creditworthiness remains intact: its pivotal role in the global financial system and the flexible, diversified and wealthy economy that provides its revenue base. Monetary and exchange rate flexibility further enhances the capacity of the economy to absorb and adjust to 'shocks'."

The narrative accompanying the affirmation reflects a humble appreciation of the mission of the Rating Agencies, a subtle recognition that the US financial structure can accommodate internal and external tensions and 'shocks', support the demands of its financial and trade partners, and a realistic understanding of the US position as underpinning the global economic system. It was a reasonable call in the case of the United States- a sovereign that could not default, although Fitch nudged away from that premise by mitigating the controversy with ' the risk of sovereign default remains extremely low.'  Notwithstanding the wink,

...Fitch also wagged the finger

Ten days later,  on  August 25, 2011, Fitch London Research Paper  released its conclusions on the global consequences of a hypothetical "double-dip recession" in the US.  At the time of  the original affirmation, August 16, 2011, Fitch had also confirmed its intentions to review the fiscal state and projections of the US economy in light of the latter's own commitment to reduce its deficit. The position Fitch advocates by its affirmation of the maximum rating is not as daring as some observers would judge. The reserve status of the US currency, the depth of the US markets, and the intrinsic ability of the US to satisfy its monetary obligations vis-a-vis its creditors, even in light of slowing economic growth and domestic political tension-all warrant the Fitch AAA affirmation and the ensuing qualified caution as to an imminent review, given the integral role the US plays in sustaining global economic stability. In this context, the Fitch London Research report is a timely and welcome sequitur to the affirmation of AAA.  It reiterates and confirms the soundness of those fundamental considerations that Fitch tabled and examined in the first instance to arrive at its maximum rating. It also interposes a scenario testing the consequences of a major slowdown in the US economy.  The analysis quantifies the direct, and to a much more limited extent, warns of the second round effects , including inter-financial sector effects, of a hypothetical 'double-dip' recession in the US. Fitch concludes that no country will be insulated from the adverse impact of a further deterioration in US economic activity. First, but not foremost, is China and the combined domino impact of a slowdown in the US and a commensurate drop in GDP in China on world economies will be formidable. The greatest effect of the US slowdown will be on its adjoining geographic trade partners Mexico and Canada, and seemingly the consequence will be 'severe'. The most intense will be to small and open economies. That the healthy state of the US economy is a sine qua non catalyst for any global recovery is emphasized to the point that Fitch underscores that the US dip could tip the major advanced economies into recessions, and this includes a fragile Europe and a taxed Japan. The Fitch announcement out of London preceded the prouncements by the world's leading financial figures at the 2011 Economic Policy Symposium sponsored by the Federal Reserve Bank of Kansas City and held in Jackson Hole, Wyoming  from August 25, 2011 through to August 27, 2011. Not only did it assemble central bankers and senior policymakers, but it also gave the world an opportunity to listen to a battered field's rising stars with daring visions among which named: Mr. Dani Rodrik and Mme.Esther Duflo.

The Fitch release set a balanced and cautious mood for the world's markets and audience, thereby permitting global policymakers to ponder the complexity of a situation that required serious reflection and sound discernment in a reserved setting. 

FitchRating acted very responsibly and very professionally.

h/t Fitch