Euro and stocks fall as sovereign debt meltdown closer to realisation

The euro dipped below $1.30 yesterday but still has a long way to fall to its launch exchange rate of 85 cents to the dollar. But it could get there an awful lot faster than most analysts think possible.

Welcome to the eurozone sovereign debt meltdown scenario which has been discussed so much over the past two years that anybody could be forgiven for believing this is some kind of hysterical fantasy rather than a fast approaching reality.

Logic of events

As ArabianMoney has pointed out before those in denial are like the US stock market investors who failed to price-in the First World War until two months before it happened. It is something in human nature that sees the logic of certain big events but just cannot face up to the logical conclusion.

The failure of European Union leaders last week to agree on anything approaching a credible solution to the immediate problem of the loss of confidence in the banking system and the single currency means that there is nothing to prevent the worst happening and so it will happen.

Of course, there will be another coordinated intervention by central banks to try to buck the markets but they will become increasingly convinced of their own strength against this collective failure of political leadership. A crisis is coming very soon.

It will be the response to that crisis that really either pulls the eurozone back from the brink or cements a descent into a very nasty depression. The British Army apparently has a worst case scenario with UK GDP down eight per cent and riots in the streets in the event of a real crash.

Could the ECB act as a lender of last resort as the eurozone crashes? Will eurobonds suddenly be put on the agenda? It does not look very likely at the moment and the time for such a successful solution may have passed anyhow.

Run on the banks

In the meantime the flight to safe havens like the US dollar and out of euro bank deposits will continue. This run on the banks is what we saw in the run-up to the late 2008 global financial crisis.

Partial nationalization of many banks followed then and one seemingly inevitable logic to the current crisis is for full nationalization of the majority of EU banks. Those gambling on eurozone financial stocks or sovereign debt ought to take note.

But the seizing up of credit in the world’s largest economic bloc is happening now, orders are plunging and 2012 looks a very difficult year with a growing risk of a sovereign debt meltdown skewing risk sharply to the downside.