With a week to go until New Year’s Eve, 2010 ends with many problems unsolved that will continue to affect the first part of 2011.
The most obvious is the European sovereign debt crisis, or, as we prefer to call it: the crisis of the euro. So far, European leaders have failed to address the underlying problem of the crisis: to really function as a currency area, the Eurozone simply needs much more economic, fiscal and social integration. Instead, they have focused on reshuffling and guaranteeing governments' debts with evermore complex schemes. Despite these band-aids, the debts refuse to disappear. Ireland’s sovereign debt rating just got downgraded again. Portugal and Spain appear next in line to tap into European rescue packages. Hence, we expect the crisis of the euro to continue making headlines in the first months of 2011.
But, momentarily obscured by the chaos in Europe, another, equally formidable monster lurks: US debt. The big difference between Europe and the US, in my view, lies in the fact that in the Europe at least acknowledges the problem and, imperfect though they may be, pursues solutions. The US, in contrast, seems oblivious to its dangerous situation. Instead of tackling its debt issue realistically, Democrats and Republicans in Congress produced a compromise that extends the Bush tax cut for another two years while introducing supplementary tax cuts and subsidies for the middle class. According to first estimates, this new stimulus package – for that is what it is – will increase the already towering US debt mountain by an additional USD 550bn. Meanwhile, Federal Reserve Chairman Ben Bernanke hinted there could be a further sequel to the quantitative easing program….
US debt problems are not confined to the federal government. In his latest report, my esteemed colleague Mike Ryan, Chief Investment Strategist and Head of Wealth Management Research Americas, notes among the things that may happen in 2011 is the default of a high-profile municipality. According to Mike: "Credit conditions within the (US) municipal market remain challenging as the consequences of the financial crisis and associated recession have continued to weigh on state and local finances. (…) Although the general obligation debt of states such as California and Illinois or cities such as New York and Chicago is secure, municipalities like Detroit and Harrisburg could be forced to defer payments on their general obligation bonds."
Finally, the latest inflation data from China, the main driver of the global economy these days, will continue to challenge authorities there. For China's policy makers, walking the tightrope between overheating and too much cooling down will be a daunting task next year.
This said, looking back on 2010, we need to acknowledge that, despite its formidable challenges, it has been a rather good year in terms of investments, especially for those who could navigate the many obstacles. Our guidance for 2010, “Stay agile and alert,” remains firmly in place.
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