Is anyone really surprised that the Eurozone is still facing problems? Yes, the 17 nations who use the Euro agreed last week to in essence do what they had originally agreed to do when the Euro was first created – live within their means. However, for all that they all pledged to do it before and then pledged to do it again in the most recent round of talks, it's not the least bit surprising that investors are having trouble taking them at their word. Here's what you need to need to know:
The New Agreement
In essence, the new Eurozone agreement was a repeat of the original Maastricht treaty requirements (with a few tweaks) which said that Eurozone members would be expected to follow strict guidelines when it came to debt, including a cap of 60% of GDP on national debt. This agreement became more of a suggestion however when tough times loomed and most of the Euro zone members broke with the initial agreement.
The new Eurozone agreement in essence requires that the members who use the Euro recommit to similar rules to tighten their borrowing. In theory at least, it requires anchoring the rules in legislation, though whether that will actually happen remains to be seen. Moreover, the rules will apply currently only to members who use the Euro or who plan to join the Eurozone. The leaders of the European Union had sought to require all 27 members of the EU to sign on, but Great Britain balked at the idea and so they had to settle for nations which use the Euro or plan to use the Euro.
The Problem with the New Agreement
The problems with the new agreement are multipronged. First and foremost, it doesn't go as far as investors and analysts had hoped it would go. The call from most financial quarters has been for the Eurozone to adopt something akin to the American Federal Reserve – a lender of last resort which would guarantee the solvency of all the banks in the Euro zone. The European Central Bank has been tapped to perform some of those functions, however they are still hampered by the arcane rules governing the EU (i.e. that all members need to agree for a new rule to be put into place).
In addition to this, there is the problem that this was all supposed to have already happened. Investors know that the original treaty had guaranteed similar restraints on national governments and that those restraints were quickly abandoned when the global economy started to go sour.
What You Can Do to Profit
In the face of all this, I'll offer the same suggestion I've offered previously: consider buying debt in stronger Eurezone countries. I consider France and Italy to be prime candidates for making money without a great deal of risk. Even German debt is starting to look good as interest rates rise all over the continent in the face of continued uncertainty.
Those who can afford to wait and who have a little more stomach for risk may want to wait a few weeks and see how things shake out – the ratings organizations have been making noises about downgrading a number of EU nations and this could increase yields on bonds from those nations.
The Euro Won't Die Completely
I'll go out on a limb here though and say that I still believe that the Euro will not die completely. While a split is still a possibility and it certainly does look like smart money is shorting the Euro (as I write this, the Euro has fallen about 20% from its high against the dollar in July, 2008), I believe that we will see the Euro lasting for the foreseeable future (if for no other reason that the members of the Eurozone have more to lose by abandoning the common currency than by muddling through to save it). Bottom line, expect more turbulence in the Eurozone for the future, but expect the stronger economies to ultimately pull themselves out of the mire and remain with their heads above water.