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Wealth Management: Strategy blog – Europe’s Hamiltonian moment?

20/05/2020

Strategy team - Kevin Gardiner (Wealth Management)

On 20 June 1790, at “perhaps the most celebrated meal in American history” (Ron Chernow), a small dinner group including Hamilton, Jefferson and Madison agreed a compromise. In exchange for Hamilton dropping his advocacy of New York as the national capital, the new nation would assume the debts of the constituent states - thereby strengthening the federation immeasurably. 

Has Europe just had its 'Hamiltonian moment'? Pundits have proclaimed them before, and prematurely, but yesterday's agreement may be different. It is one of the few news items of late that arguably got less coverage than it should have. 

Macron and Merkel have agreed in principle that the European Union should be allowed to borrow €500bn, to be disbursed in the form of assistance to member states as needed, and to be repaid through the EU's collective budget. 

This is new borrowing, not the assumption of old; it is the EU, not the eurozone; the agreement may yet be vetoed by dissenting partners (Austria, Denmark, the Netherlands, Sweden?); and there will be many devils lurking in the yet-to-be-worked-out details - not least the attitude of  the German Constitutional Court, though this is not monetary financing. 

But the scale, and the grant-like nature of the potential support, could yet mark a further long-awaited step towards more collective, federalistic financing in the EU.

€500bn doesn't sound like much these days, but it is 3% of EU GDP, and is big compared to the famously tiny annual EU budget (currently around 1% of GDP), which will have to be expanded in order to service the borrowing.

And for Germany, or at least its president, to countenance redistributive spending without holding recipients to account for it - other than via their share of contributions to the EU budget - is a big deal.

So far, markets have only grudgingly extrapolated from the EU to the EZ. The euro rallied by around 1% against the dollar and franc, and the spread on 10-year Italian bonds fell by around 20bps. 

We are unlikely just yet to cancel our relative lack of appetite for eurozone stocks and the currency itself in investment portfolios: those EU hawks may prevail. We are also aware that in the nascent US, southern resentment at shouldering the debts of the northern states (the perceived burden was geographically reversed there) may have fostered the growing strains that led ultimately to secession and the Civil War before the federalist enterprise was finally secured.

That said, our wariness of the euro, and eurozone stocks, has been marginal, not existential, and a United States of Europe has always been, and still is, very (very) unlikely. Simply moving in the federalist direction might be enough to make those regional calls a bit closer. Things in the eurozone just got a little more interesting. 

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