THE DISTILLERY: Euro vision

Jotters fight for a different angle on Europe, with one turning to Italy to assess the impact of fiscal discipline.

Each day, Distillery selects the three or four best ideas that have been put forward by the nation’s leading business and economic commentators (and lists other items they have covered). Readers are invited to comment on the Distillery selections in The Conversation.

Germany’s Angela Merkel may have been able to impose a vision of fiscal discipline and homogenous financial regulation on the European Union – with the exception of Britain – but whether indebted nations with contracting economies can summon the political will to slash deep enough into their budgets is a different matter. The commentators broadly agree that this latest plan buys time, but little else. Trying to envisage what will happen to the eurozone is terribly difficult because there are just so many possible scenarios. The Australian’s Henry Ergas demonstrates that it’s perhaps easier to view one country in isolation – in this case Italy – to illustrate the political reality of Merkel’s plan in countries other than her own, because this plan has to go the ultimate distance. Another commentator points out that this new plan comes after an already trying period for many European nations, while Australia’s need for domestic investment in local projects and the outlook for the ASX200 also come up for discussion.

But we start with The Australian’s Henry Ergas, who simplifies the European situation by focusing on one country to illustrate just what these pledges to fiscal discipline – with penalties for failure – actually mean for an individual country.

"There is, to begin with, some unpleasant arithmetic. Start, like Italy, with debt equal to 120 per cent of GDP and a real interest rate on that debt of more than 4 per cent. Then simply paying the interest will take more than 5 per cent of national income annually. And with GDP actually falling, that share, and the pain it inflicts, are all the greater, as the payments need to be extracted from a smaller base. So with a high initial debt-to-GDP ratio and growth rates well below real interest rates, merely standing still is difficult; paying off the principal, and hence bringing debt levels down, requires budget surpluses so large and persistent as to seem completely beyond reach.”

The Sydney Morning Herald’s Elizabeth Knight characterises the Northern Europeans as the region’s parents, who are trying to impose some discipline on some unruly kids in the south, and points out that this family dispute has already taken a toll.

"The latest rescue plan – No.5 to date – has stronger teeth than those previously imposed. There are plenty of details to be nutted out. The trouble with the plan is that it addresses future behaviour (and even this is debatable) but has little by way of a meaningful cure for the damage that has already been sustained by the region. Sure, there was some tinkering in the news out of Brussels… But the measures announced at the weekend are not enough to buy Europe out of its mess. And the European Central Bank is making no assurances that it will come to the party even if it is convinced that the new Europe is one which will abide by the new German-French fiscal rules.”

But The Sydney Morning Herald’s Ross Gittins points to some seasoned observers to argue that the chances of the eurozone surviving are actually about two out of three. But he also points out that the slight concerns for Chinese growth and the better than even chance that Europe will survive are not being matched via interest rate betting.

"(Events in China and Europe) will change forecasts for domestic growth and inflation only a little, but it was enough to raise the Reserve's confidence it could cut rates another notch without jeopardising achievement of its inflation target. Meanwhile, the financial markets are betting the official rate will have fallen by another 1.5 percentage points by the middle of next year. I call that courageous.”

And fourthly in this morning’s Distillery, it’s reached that point of 2011 where analyst projections for 2012 come sharply into focus – particularly with Europe in the state that it’s in. There are dozens to choose from, but The Weekend Australian’s James Frost sits down with Merrill Lynch strategist Tim Rocks – a man who was closer than most on the question of 2011 – who has cut his 2012 projection for the ASX200 from 4500 to 4200.

"That's right. His updated forecast is now 10 points above yesterday's close of 4190. Take some comfort from the knowledge that his forecast sits at the very bottom of strategist estimates because you will take very little from the construction of his arguments… Merrill's strategist may not want to be the Grinch that stole Christmas but he certainly has the form. In early 2010 he held firm with his forecast of 4500 just as one broker went public with 6000. Needless to say, the market never got anywhere near 6000.”

Starting with domestic affairs for the rest of the commentaries from this morning and over the weekend, The Sydney Morning Herald’s economics editor Ross Gittins tells his readers to wake up and realise the economy is not performing badly by any measure – it’s about normal. The Australian’s economics correspondent David Uren says that, even if another global financial crisis episode occurs, the Australian economy is in a much stronger position now than after Lehman Brothers collapsed. The Age’s Peter Martin looks at movements from Treasurer Wayne Swan’s office to give tax relief to businesses running at a loss, while The Sydney Morning Herald’s Ian Verrender uses the upheaval in Europe to ask why Australian investment doesn’t take a more domestic approach. Elsewhere, The Australian’s Pure Speculation columnist Robin Bromby finds some bullish sentiment creeping into Australia’s tin industry.

The Herald Sun’s Terry McCrann says the media has largely missed the reality that the Reserve Bank is not nave to the likelihood that the banks don’t always follow its interest rate directives to a tee. Fairfax’s Richard Webb also takes one last look at the interest rate debate for this month.

Meanwhile, The Sydney Morning Herald’s Michael Pascoe foresees an intense focus on the part of the Productivity Commission’s report on the retail industry that’s the least important – the internet GST issue. The Australian Financial Review’s Chanticleer columnist Michael Smith hits similar notes.

In company news, The Age’s Michael West uncovers an apparently widespread practise amongst Australia’s biggest companies of paying dividends to senior management for performance shares that have not yet vested. Fairfax’s Ian McIlwraith points out that if Nine Entertainment wants to boost ratings amid this advertising downturn, it need look no further than the offices of its private equity owners, CVC Asia Pacific, where an epic drama of debt and deliberation is taking place.

The Age’s Adele Ferguson previews the coming retail component of BlueScope Steel’s capital raising and while the company has received a boost from Treasurer Wayne Swan’s decision to bring forward the Steel Transformation Plan, the company will continue to struggle as long as steel gets a poor price during a period when raw materials are expensive and the Australian dollar is at a high level. The Australian’s Paul Garvey says Rio Tinto would be well advised to keep a close eye on Guinea and the increasingly thin margins that miners can generate there courtesy of mining code changes, given than it has proposed billions of dollars worth of investments in iron ore operations.

And lastly, The Australian’s John Durie expects an agreement between Telstra and the Australian Competition and Consumer Commission by February next year, while his colleague Matthew Stevens pins down a complicated web of interests that could deliver Rio Tinto some leverage in any ultimate bid for Australia’s Extract Resources.