Recent events in the markets have unfolded like a dramatic spectacle, blending both comedy and tragedy. The previous week showcased a particularly memorable episode—the dismal performance of Facebook’s IPO contrasted sharply with the turmoil surrounding Greece.
The narrative of both situations revolved around market evaluations. The comedic aspect arose as investors assessed Facebook’s actual worth, while the tragic side focused on Greece’s precarious position concerning its Eurozone membership.
At the Economic Prism, we observed these scenarios with the wide-eyed fascination of children watching a carnival performance. Though we anticipated the impending chaos, we couldn’t look away.
It has become quite clear that Facebook shares were far from the $38 price at which they debuted. Mark Hulbert of MarketWatch analyzed the situation and concluded that the stock should be valued at about $13.80—a staggering 63% decrease from its initial offering.
On another front, the possibility of Greece exiting the Eurozone threatens to halve the value of citizens’ savings as inflation rises. Yet, many Greeks might be willing to accept this fate. The pivotal moment will come on June 17, when voters can choose an anti-austerity government, potentially defaulting on Euro debts and bringing back the drachma.
Even as these events unfold, the show must continue. However, not everyone appreciates a riveting act; some individuals are determined to intervene just as the story reaches its climax…
The Show Must Go On
For instance, by the end of the week, two congressional committees had decided to investigate the Facebook IPO, aiming to hold accountable those insiders who allegedly profited at the expense of the public. Mark Zuckerberg is about to learn how markets function in a political context.
Meanwhile, with Greece poised to exit the Eurozone, attention has turned to countries like Italy and Spain. Should Greece depart, the solvency of these other indebted nations will become the focal point of concern.
“Foreign investors are likely to continue reducing their stakes in Italian and Spanish government bonds this year, having already cut their share of each country’s public debt to about a third of the total in early 2012,” Fitch noted recently.
If investors withdraw their funds from the debts of Spain and Italy, how will these nations address their budget deficits?
Without the intervention of central bankers, default would be the only option, forcing these countries to live within their means. Fortunately, the European Central Bank, with its endless supply of finance, will step in to provide bailouts. This may temporarily resolve the issue, but it merely postpones the inevitable, leading to further bailouts down the line.
Bailouts do not resolve the endemic debt issues of Spain and Italy; instead, they exacerbate them until the Eurozone either loses the will to maintain unity or these countries decide to exit the euro altogether. Greece is likely to serve as a template for this possibility.
The Greatest Show On Earth
Meanwhile, in the United States, we are witnessing a front-row seat to the greatest show on earth. The U.S. government is steering the economy toward what is being termed a “fiscal cliff,” with repercussions expected as soon as January 1, 2013. According to CNBC…
“The United States economy could contract by as much as 4 percentage points in the first half of 2013 if Congress fails to find solutions for $600 billion in expiring tax breaks and unemployment benefits by year-end, according to Goldman Sachs.”
“Goldman warned that in a worst-case scenario, the impending fiscal cliff could lead to a nearly 4 percentage point reduction in the GDP during the first half of 2013.
“The fiscal cliff refers to the phasing out of the Bush-era tax cuts and payroll tax holiday, alongside the cessation of extended unemployment benefits and automatic spending cuts mandated by Congress unless lawmakers agree on deficit reduction.”
“Considering the cascading effects of reduced GDP growth, the economy might experience up to a 5 percentage point dip in annualized quarter-to-quarter GDP.”
For perspective, during the Great Recession (late 2007 to mid-2009), the largest annualized GDP declines were 8.9 percent in Q4 2008 and 6.7 percent in Q1 2009. In contrast, a projected 5 percent contraction in early 2013, though less severe, will be more painful because the economy has yet to recover fully from the recession. Just look at the unemployment rates.
The unemployment rate stood at 4.7 percent in November 2007, but climbed to 10 percent by May 2009. By April 2012, it still hovered at 8.1 percent. If we apply basic forecasting methods, it’s reasonable to expect that a 5 percent annualized contraction could send unemployment back over 10 percent.
Such events inevitably occur at the most inopportune times for everyone involved.
Sincerely,
MN Gordon
for Economic Prism