A bright market vision for dark times
Blackstone investment strategist Byron Wien predicts the euro will survive, with or without Greece, and markets will turn up in the second half of this year.
Although Wien, who is a vice chairman of Blackstone Advisory Partners, says he’s been "a little bit shaken” by recent European developments, he expects that France and Germany will ultimately band together to make sure that the euro survives.
The interesting question, he says, is whether Greece and Portugal are able to keep their membership of the common currency. "I think that although efforts will be made to keep them in, they’ve got to do more themselves if they are to endure”, he told Business Spectator.
Wien says that the eurozone can be divided into those countries that run a trade surplus (such as France, Germany, the Netherlands, Finland and Luxembourg), and the deficit countries of Greece, Portugal, Spain and Italy.
But he points out that the deficits of Spain and Italy are relatively modest. "Spain and Italy have viable economies and they’re able to export products that people want to buy. So I think that Spain and Italy are salvageable. I’m not sure that that’s the case for Greece and Portugal.”
Wien says he agrees with comments made by Greece’s former prime minister, Lucas Papademos, that a Greek exit from the eurozone would be "catastrophic” for the country. The country, he says, will get little benefit from returning to a devalued drachma. "What are they going to compete on? Olive oil and tourism?”
He argues that if Greece left the eurozone, "all the banks would go bankrupt, depositors would see the value of their savings cut in half. I don’t think they have the means to drag their way out.”
At the same time, Wien also believes that the Bundesbank is correct to argue that a Grexit would be "manageable” for Europe.
"Greece only represents 2 per cent of the eurozone’s GDP. Greek bonds are held in banks throughout the continent, so there’s a problem because the value of the bonds has to be written down." But, he notes, "the banks have already written down the value of the bonds following the recent debt restructuring, and so there isn’t a whole lot more to go".
Despite the problems in European financial markets, Wien remains confident that Europe will only experience a relatively mild recession because the major European economies – Germany, France and the Netherlands – are continuing to perform strongly. A mild European recession, he says, will not prove too much of a problem for the United States.
However, he concedes that a severe European recession would represent a major headwind for the US economy. "Twenty-five per cent of our exports go to Europe. If Europe has a dramatic recession, that would be bad.”
Wien is also optimistic that the second half of the year will hold some pleasant surprises, with investors being cheered as Europe’s problems subside, and as the outlook for the US economy brightens.
"The European Union will survive, the euro will survive, China will have a soft landing and the US economy will be stronger in the second half than what it was in the second quarter – it will be more like it was in the first quarter.” As a result, he says, "markets will do better".
And he believes that markets will retain their buoyancy in the lead-up to the US presidential election.
"The biggest problem that we have in the US is the hostility between the Republicans and the Democrats. That’s what prevented the super committee from reaching a proposal to cut $1.2 trillion off the budget deficit over ten years.”
Wien argues that if President Barack Obama wins a second term, which the polls are currently predicting, the Republican Party will face a different political dynamic.
"Obama has had a pretty poor first term, and so he should be beatable. If he wins, it is because of the religious right’s strong stance on social issues, which is not supported by most Americans, and because of the Tea Party’s refusal to allow any tax increases, which is generally recognised as being too extreme."
Wien argues Republican congressional representatives will likely pay less heed to the religious right and the Tea Party in the wake of an Obama victory.
"They’ll be more willing to compromise, and we will see a combination of increased revenues and cuts in entitlements. The US will be in a better position to deal with the budget deficit after the election than we are now.”
Wien argues that the US is likely to see a range of tax increases, including an increase in the capital gains tax from 15 per cent to 20 per cent, while the tax rate on dividends will rise to 20 per cent (compared to 15 per cent at present). He also expects that the top US marginal tax rate will be increased to 39.6 per cent (from 35 per cent at present), and that the payroll tax holiday will come to an end.
At the same time, he expects that the program of automatic spending cuts aimed at reducing the US budget deficit by $1.2 trillion over the next decade will be stretched out over a longer timeframe, and that the Obama health care program will be phased in more slowly.
Wien argues that the planned tax increases and spending cuts would add up to a $450 billion drag on the US economy – large enough to tip the US economy into recession. Even though he does not believe that all the planned tax increases and spending cuts will ultimately be introduced, he expects the US economy will experience some fiscal drag.
Still, this fiscal drag will be offset by an improvement in the US housing sector. Wien expects the housing market to stabilise this year, before staging a recovery next year.