Friday Finance: European Crisis Round – II

The Indian stock markets have corrected to the extent of 5% from its peaks – the benchmark Sensex has slipped below a psychological 20,000 mark – over the last one week on the back of resurgence of sovereign debt crisis and fears of interest rate hike in China to combat spiraling inflation.

In China, the expectations of a rate hike are wide spread as the consumer price index in October accelerated, from 3.6% in September, to 4.4% from a year period; on the back of higher prices for grains, vegetables and sugar. Analysts tracking the Chinese market indicate that loose monetary policy in 2009 has created excess liquidity and helped fuel prices of primary articles.

On one hand, the government support for the business sectors in Dubai has boosted confidence in the economy and increased investment from around the world; it certainly seems that the Dubai economy, which was rocked by the crisis last year, has overcome the repercussions of the global financial crisis.

However, Europe is still to come out of the enormous hangover of the 2008 global recession which, until now, showed signs of fragile recovery. The second round of the European crisis, triggered by Ireland economic catastrophe, is raising a new set of questions on the European economic recovery in contrast with the strong 1% growth obtained by the European Union in the second quarter.

The economic recovery in central, eastern and south-eastern Europe has been fragile as confirmed by another negative factor, the decrease of 0.9% industrial production in the euro area in September compared to the previous month.

The fiscal deficit-to-GDP of Ireland, a country which is highly dependent on the financial and services industries but weak in manufacturing and relying on foreign capital, is at an estimated 32%, more than 10 times the EU recommendation of 3%.

Amid signs that its hard-hit banks are losing deposits and may need a fresh lifeline that the cash strapped government can not afford, Irish officials have began rescue talks with IMF, EU and European Central Bank.

On the other hand, the revised figures released by the EU saw Greece’s deficit for 2009 rise to 15.4% of GDP, a big jump from 13.6% announced in April, indicating Greece’s deficit getting worse and raising fears that Greece will not be able to achieve debt sustainability without a debt restructuring.

As Ireland nears bailout, another beleaguered euro zone member, Portugal, waits in the wings. The country has let spending rise over the last four months well beyond its stated promises, and it has not done enough structural reform to foster strong economic growth. It is estimated that the state owns high debt to the tune of $275 billion as against its economy of $232 billion a year.

One thing is clear with respect to these bailout candidates, if the market has to intervene and force action, others may be dragged into the mire. It is a dangerous time for Europe, and with it even Indian stock markets if the European jitters pan out to be more than after-shocks of the great recession.