Economic and Policy Status, November 29th

The holiday season opened a bit stronger than last year, with retail stores reporting higher traffic and somewhat better sales and online retailers reporting sharply improved results.  It’s too early to say how this will translate into seasonal gains because shopping behavior (like a lot of consumer behavior) has been altered by the downturn and the slow recovery.  People want to believe, but they’re still not sure they’re out of the woods, and there’s always some story that fans the flames of uncertainty.

One such something is the EU economy.  Ireland won its debt relief, not that there was much doubt about that happening, but it hasn’t entirely settled the markets.  We seem to have fallen back into the Eurozone debt morass, though it’s likely that the dire pronouncements of the end of the EU are radically overblown.  The real underlying problems are an equal measure of three factors, though, and any of them could at least hurt the pace of recovery.

The first factor is the inherent lack of political cohesion to match the EU’s economic cohesion.  When things are good, the union works—but everything works when things are good.  When there’s a crisis, it tends to hit the “southern” zone of the EU harder than the main industrial center.  Those economies want to respond with stimulation just like everyone else, but they can easily overdo it and risk creating default at the bank or sovereign level.  Then the rest of the EU has to bail them out.

Factor number two is that the EU’s lack of political cohesion kept them from responding as aggressively to the downturn as the US did.  Make no mistake; without the massive stimulus and rescue process here we’d be staring at 1929 revisited at this point with an exit only a decade down the road.  It’s not great now, but it would have been a lot worse, and for Europe they hedged a bit too much and so didn’t push their own recovery strongly enough.  Probably they hoped the US would pull them out with renewed demand, which a lower Euro has helped generate.  That, of course, threatens to pull the recovery down for the US and other countries who are in less trouble.

Factor three is that the financial markets are still maverick, and in this case they’re pressuring the debt of the second-tier EU players like Greece, Ireland, Portugal, and Spain.  The first three are the least stable but the three together don’t make enough of the total Eurozone GDP to create a crisis.  Spain, on the other hand, is about 12% of that GDP, and if it were to sink into a problem state it could threaten Italy.  Speculators have been taking advantage of the fact that the EU isn’t taking decisive action (action that could leave them holding the bag, in fact) and bidding up things like credit default swaps (remember them?).  Spain has recently said that it blames speculators betting against Spain for the majority of their problem.

The big problem is that the EU’s will to do something here isn’t credible; speculators are free to bet against individual countries perceived as weak.  If the EU takes strong steps suddenly, the result would be a major financial hit for speculators, and some I’ve talked with believe that the pressure on Greece, then Ireland, and now Portugal, or perhaps Spain, or even Italy, is a tactic by speculators to raise the ante and to try to create a problem beyond what the EU is prepared to solve, thus crushing the union itself.  Such a move pits the industry against governments, and that may be an over-reaching that would finally bring some order to the markets.  It’s sad that speculation could work against countries, force peoples to change their lives and risk their futures.  Sad, but it’s also the way things are now.

Governments can solve problems, and sometimes cause them, and sometimes a bit of both.  Australia, who I’ve been watching as an indicator of the extreme end of pro-consumer telecom regulation, has passed the bill that will split Telstra and create a telco that’s now more reliant on what I’ve been calling the “service layer” than any other in the world.  The NBN that will now provide broadband access may creep further into infrastructure, and so Telstra at this point would do well to firm up its higher-layer assets and prepare for being a kind of new breed of OTT player, one with the low internal rate of return expectations and capital base of a public utility.  That could be a truly formidable competitive position providing that Telstra can shed the inertia of a telco along with the access assets.

I’ve argued for years that breaking up the regulated monopolies that were the telcos was a mistake; competition isn’t created by deregulation unless regulation suppressed it, and in the telco world the fall of the CLEC wave is pretty positive evidence that VCs and private equity don’t want to fund competitive telecommunication; the return is too low.  Thus, getting Telstra out of the access business isn’t going to make Australia’s network more competitive, it’s just going to change dominance from Telstra to NBN.  But that may not be bad, even for Telstra and its shareholders, if the company can shake off the old model and embrace the opportunities of the new.  If they do, it’s a half-step to making Australia a poster child for the way telecom will be done worldwide.

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