spainish crisis

Quantitative easing (QEII), which helped the global economy to come out of recession. However, there are some differences now, setbacks this time are more serious than the previous ones, and weakness this time is concentrated in Euro-zone which means a customized policy measures. Counter measures have been introduced, like ideas ranging from a banking union to joint fiscal policy. These measures though sound good are ineffective until backed by ECB and the principle of “show us the money “is followed.

The current scenario can be termed as debt deflation where the slow growth has to be pumped with dollars again and again. The economy has reached an inflection point where we either have to go through another round of painful de-leveraging, step up the pace of QE or both.

The current crisis is rapidly hitting the real economy, which leaves little time for the policy makers to react. The Euro crisis seems to have contagion effect on both Asia and US, and has the power to pull both the economies down with it.

Even within Europe, crises are unevenly distributed, with Spain and Italy being the mail culprit. Four tools can be used to counter the crisis; currency devaluations, rate cuts, banks nationalizations and sustained public spending. However, it remains to be seen the extent to which ECB can successfully apply these measures.

If we look back to the previous recession we may be able to identify a pattern of increasingly short and inefficient policy interventions. Non-conventional measures which helped to pull the economy from Lehman crisis have put growth on a ‘phony expansion’, where everything appear to be fine. However, as stimulus is withdrawn fears of recession again creeps up, forcing central banks to repeat the exercise.

The current scenario has resulted in capital plight from banking systems equal to 15% of GDP of Italy and 30% GDP of Spain! Both countries have lost around EUR 300bn over the past year.

Spain bank run

The US also shows sign of eroding with shaken consumer confidence and increased unemployment rates.

China has resorted to rate cuts to maintain higher growth. The Euro crisis has started currency wars as Global reserves have started looking out for alternatives. All these signs are pointing to one thing that a recession is somewhere near.

The best hope of avoiding the crisis will be proper planned and coordinated QE efforts globally, which most likely would come after the blow.