Euro area: Wars, Greece and "whatever it takes" QEs

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The long-suffering European monetary union will be jolted this month by two events likely to set off a chain of unsettling political and economic crises.

Several attempts are under way to establish a lasting cease-fire and a feasible peace process in Ukraine. That is supposed to prepare a summit meeting of leaders from Ukraine, Russia, Germany and France in Astana, the capital of Kazakhstan, on January 15.

With all their grandiloquent ideas about Eastern Partnership, Europeans have been unable to stop the bloodshed of the Ukrainian civil war. According to the U.N. data, the war has already claimed nearly 5,000 lives, with more than 10,000 people injured, millions of displaced persons, cities and villages reduced to smoldering ruins and people living without basic necessities on charity handouts.

Will the Astana meeting – if it does take place – make any difference?

It could. But I doubt it.

Odds favor war, not a compromise

Wearing military fatigues, the Ukrainian president has been praising last week his strengthening army, emphatically pledging that he will "win this war," and accusing, without naming, the "mean-hearted enemy" of invading his country.

His opponents -- leaders of the two breakaway provinces (proclaimed as independent "republics") – had an equally uncompromising message: They would only talk about "inter-governmental" relations and administrative matters. There is no question for them of returning to a united country.


I hope so, but I don't think that the ongoing killings and rocket salvos into residential areas – despite an existing cease-fire agreement – bode well for a settlement that would satisfy the "republics" and the Ukraine's government.

Luckily, there is still willingness to talk. During last Friday's conference call, foreign ministers from Russia, Germany, France and Ukraine agreed that a contact group (a forum for facilitating talks between the "republics" and the Ukrainian government) should convene today, Monday, January 5, in Berlin, Germany.

Read MoreWhat? This country just joined the euro zone

Meanwhile, sanctions against Russia, and Russia's retaliatory sanctions against the West, will remain in place. Depending on the mood, they could even be stepped up by both sides.

But how the sanctions tit for tat will play out over the next few months is not clear. Despite Germany's strenuous efforts to keep sanctions against Russia, a number of E.U. countries want them lifted as early as next March because they are damaging their stagnant and recessionary economies. Sanctions opponents think that impediments to trade are the last thing that Europe needs; they also worry about losing the Russian market to Asian and Latin American suppliers, and to Russia's own import-competing industries.

Timeo Danaos … Beware the Greek gifts

The next shock, with much more unsettling economic and political consequences, is likely to come from Greece after its parliamentary elections on January 25.

Extreme fiscal austerity policies -- perceived by Greeks as a devastating German diktat – have played into the hands of the country's rising radical political formations. According to the Palmos Analysis opinion poll of December 29, 2014, Greece's largest leftwing party Syriza (Coalition of the Radical Left) could easily lead the next government.

Massive selloffs of Greek assets indicate that markets expect such an election outcome. Markets are reacting to Syriza leader's statements about a moratorium on Greek debt payments and an end to austerity measures while maintaining the euro as a legal tender.

Markets are making understandable defensive moves, but I believe that actual policies of radical left parties – should they come to power – would be more nuanced than what is currently transpiring from Syriza's election syntagma.

Still, markets' caution is fully justified. The destabilizing potential of Greek elections for the euro area should be taken seriously. They will have a significant impact on this year's elections in Spain and Portugal, and could also lead to the reshuffling of political decks in Italy, France and Germany.

Contagion effect? Definitely.

Podemos (We Can), an upstart radical left party in Spain has surged to about 23 percent in the latest opinion polls (conducted by Spanish Sociological Research Center) as more than half of young people remain jobless, and some 13 percent of the population is being rescued by the Red Cross from extreme poverty. Meanwhile, the ruling center-right Partido Popular (PP) is losing support; it is now down to 27.5 percent – nearly half of the 44.6 percent it got during the last elections in 2011.

Portugal's political landscape is unlikely to change to such radical extremes; its economy is improving and it has successfully exited the bailout program. But the country's large external debt (130 percent of GDP) will make it vulnerable to possibly major changes of Greek economic policies and unpredictable political developments in Spain.

Events in Greece will also strengthen the growing political resistance in Italy and France to German hectoring and fiscal austerity policies.

Italy's struggling center-left government could be pushed into a closer cooperation with virulently anti-German center-right political units controlled, or strongly influenced, by the former Prime Minister Silvio Berlusconi. That means that Italy's shift toward looser fiscal policies – and toward a resolute opposition to German-backed Russian sanctions – is very much on the cards.

France's beleaguered government is under even greater pressure from left and right to do the same thing – with a difference. The difference is that the French political forces of all stripes want to shake off Germany's overbearing tutelage; they want France to reassert its independence and political leadership.

That moment may have arrived because German policies and pretensions to E.U.'s dominance are unacceptable to a vast majority of Europeans. Greece, again, is a good example of that. While most E.U. countries are letting Athens sort out its own democratic process, Germany is threatening to expel Greece from the monetary union. With that message loudly played out in Greek media, the radical left parties could not have dreamed of a better electoral support.

And, who knows, Greeks may even dance sirtaki and break a few dishes to celebrate a shadefreude of sorts: Germany's tenuous governing coalition of center-right and center-left parties is cracking up.

The state of Thuringia is the latest example. That's where Social Democrats teamed up to govern with the (far) Left Party (Die Linke) and the Greens instead of joining their center-right coalition partners. These three leftwing parties now have a parliamentary majority to form a federal government. Take that as a presage of more political tremors in key state electoral contests leading up to Germany's general elections in 2016.

Investment thoughts

By the time you read this, you will probably have read that the ECB was preparing sovereign bond buying programs popularly called "quantitative easing," or QE for short.

This contemplated policy measure is ostensibly presented as a backstop to the slowing price inflation in the euro area.

Don't believe it. With an interest rate of 0.05 percent, the ECB has already supplied plenty of cheap liquidity to its banking system. There is no need for more. The problem is that this liquidity is not finding its way to businesses and households. To fix that, the ECB must repair its policy transmission mechanism, not pour more liquidity into a banking system unwilling – or incapable – of performing its core functions.

This is what I think: The ECB is preparing for "whatever it takes" emergency operations to manage existential crises of a euro area pursuing – under Germany's leadership – divisive policies, trade wars and austerity instead of economic growth and political cohesion.

Michael Ivanovitch is president of MSI Global, a New York-based economic research company. He also served as a senior economist at the OECD in Paris, international economist at the Federal Reserve Bank of New York and taught economics at Columbia.