As I begin writing this — and the only certainty right now is that things are uncertain — the Dow is down another 2 percent and the Nasdaq 3 percent. By now, all but forgotten are the morning’s jobs numbers: a small reduction in the unemployment rate, which is either a) worse than it looks because a whole lot of people have simply given up looking for work, or b) slightly better than it looks because the job-creation number is lower than it should be due to the Minnesota government shutdown.
It is overly simplistic to attribute the steep falls Tuesday, Thursday and today to the debt-ceiling deal. Mainly because a reduction of $7 billion in federal spending (a fraction of 1 percent of gross domestic product) between now and October 2012 isn’t the reason investors are worried about another recession. And it’s not a sign that investors think Washington is overly dysfunctional right now — otherwise, they wouldn’t be rushing to buy Treasurys and pushing down yields the way they are.
Or do you really think the markets would have reacted better to higher taxes on millionaires, billionaires, oil companies and corporate jet owners? Or a “clean” debt-ceiling increase?
Besides the yields for Treasurys, I think there are two other important data points right now. They’re the yields for Italian and Spanish 10-year notes, both of which have passed and remained above the 6 percent mark during the past week. The worry is that these countries — and the big banks that hold big chunks of their debt — are heading to bailout territory, and that no one can bail them out.
To understand why, consider the relative sizes of these countries and those which have already received bailouts: Greece, Ireland and Portugal. Spain’s GDP in 2010 was $1.4 trillion, and Italy’s $2.1 trillion.
The combined GDPs of Greece, Ireland and Portugal: $738 billion. Even Belgium, which is also making some people jittery, is about the size of Ireland and Portugal combined.
Italy represents about one-eighth of the entire European Union’s economic output, and Spain about one-twelfth. Together, they surpass that of Germany, the country called upon to bail out the first three little PIIGS.
All of these countries’ debt-to-GDP ratios, with the exception of Spain, are near or above 100 percent. Spain and Italy together have public debt of more than $4 trillion. They’re simply too big to bail out, which is even worse than too big to fail.
That, and the continued sluggishness of the U.S. economy, is primarily what’s driving down equities markets. And both problems are related to the deleveraging that the governments of major industrialized nations have yet to undertake.
The good news? Since I started writing this post, the Dow has recovered so that it’s actually up 1 percent and Nasdaq just above break-even. That suggests to me that people have money to spend when they see bargains, and there surely are a few after the routs of the past week.
But stock prices are ultimately a reflection of perceived future profitability. As long as we are undergoing — or, worse, trying to delay — the needed deleveraging, there’s going to be a lot of economic fear and a lot of bouncing around by the markets yet to go.
– By Kyle Wingfield