That said, I still believe that as Germany moves closer to full employment and as austerity measures kick in in the PIGS countries Inflation will rise in core Europe and drop in the PIGS.  Still, every month that the PIGS have higher inflation than core Europe the problem becomes larger.  Costs still rise faster in the peripheral countries than they do in the core, which is exactly what caused the problems in Portugal, Spain and Greece (although Greece has different problems, like years of bad fiscal policy).

While I still believe the best policy right now would be for the ECB to pursue a higher inflation target, or even better 2 different inflation targets, close to 2% for the periphery and a higher 4% for Core Europe.  I now also think governments should start coordinating their policies, for the PIGS this means austerity.  The PIGS have little other choice since financial markets are breathing down their necks.  On the other side of Europe the Core countries (mostly Germany) will need to encourage their population to spend.  This will be the problem, Germans are historically adverse to inflation.  Still, German inflation is the only way to prevent a depression level slump in Spain and Portugal and Ireland.  I don’t mention Greece here because I think that even with this scenario their correction will be much more severe.

A clear attempt to steer the direction away from the economical problems and towards all the good the Euro has done.  Sarkozy further points out the Euro was a political creation.  All this is true, but meaningless if the Euro countries are unwilling to take steps to secure the economy behind the political idea.

To secure the Euro we need to get labor costs in Euro countries closer together and more labor migration.  Berlin is proposing a competitiveness pact that will attempt to bring labor costs closer together and try to find a solution for the costs of a population that keeps getting older.  At least that is what Der Spiegel will report on Monday.

While that would be a good start I still think we will need a lot more to ensure long term survival for the Euro.

The main issue with this is that I believe most of the Greece debt is with banks who are holding it until maturity which means that they might not want to sell the Greece debt.  So exactly how much it will help Greece is unclear.  It is, however, a first step in the right direction.

I also liked how Obama came out in favor of more big infrastructural programs, building roads and high speed rail ways.  All great, absolutely, but how are you going to pay for it?  I also loved Obama’s initiative to get 100 000 new schoolteachers, but how are you going to realize that when for the next five year you want to freeze all spending to balance the budget, and do that while giving tax credits to businesses?

What I did like was that Obama seems willing to defend his healthcare law, while admitting it is not a perfect law and it could be improved upon he did give a signal of intent that he will fight for the law.

I think that, more than anything else, this was Obama’s kick off for his re-election campaign, other than the oil company’s Obama went out of his way to be nice for everyone.  The mission of this state of the union was to regain the vote of the center after the crushing defeat the democrats suffered in November.  While politically it is probably a good move, because I honestly believe nobody on the left is crazy enough to challenge Obama in the primaries, giving the left no other option but to vote for Obama, I do not feel this SOTU showed much vision for the future.

What showed even less vision for the future, or even knowledge of the past was the republican response.  Republican congressman Ryan pointed out that if the US didn’t quickly balance the budget it would turn into the next Greece, Ireland or UK.  What Mr Ryan may forget is that the UK choose austerity and that Ireland was shown as an example of how to get the budget balanced only little over a year ago (how things can change).  And well Greece, they just blatantly lied about their finances.  So if you want to compare the US with another country, at least get your information straight.

If the King accepts Vande Lanotte his resignation the current negotiations with the seven parties seems dead, tho it has been declared dead on many occasions before.  The next option would seem to include the liberal parties in the negotiations, although I do not give that option much chance because MR is in a cartel with FDF who will settle for nothing less than the expansion of Brussels a demand that the Flemish parties will never agree with.

Yet another critical day for Belgium.

This is very bad news for the UK and the conservative government who are making huge cuts to balance the budget.  While I did not expect the 0,5% drop yet I’m not entirely surprised.  I think the planned budget cuts and drop in GDP are closely related, the planned cuts will force people to save more and spend less and I feel people in the UK have already started doing so.

I do not think this drop will be an isolated case and I fear the UK will be the first major economy to suffer a double dip.

At least this is good news for the BoE who can focus on economic growth again and can ignore critique about rising inflation for a while.

The way I see it, Greece is lost and will default for sure.  The only things that remain for Greece is the timing of its default and whether banks will be ready to take the blow (especially German and French banks).  Now we need to ensure that no other countries need to default.  To do this Portugal must ask help from the EU savings fund before they need new money from the markets.  Because lets face it, a 6.7% interest rate is simply too much for a country that is expected to suffer a 1,3% drop in GDP this year.

The drop in GDP and raise in rates will cause the the interest payments to become much heavier to carry for the government, which will cause it to cut spending even more creating an even bigger dip in GDP.

If Greece defaults before Portugal joins the EU savings fund it will cause rates on Portugal to soar to new heights which will have dramatic effects not just for the government budget but for banks and companies as well.

While this undervalued currency and its cheap exports clearly yields advantages for China it also clearly has one disadvantage, expensive imports.  These expensive imports, together with the huge Chinese economic growth, causes high inflation.  This is the largest problem the Chinese economy is having right now.

For the past few weeks the People bank of China has been fighting inflation by raising capital requirements for banks, however it seems that China is now also taking steps to create a free floating currency.  This will cause an appreciation of the Renminbi which will make it cheaper to import goods which will in turn slow inflation.  A second effect will be that it becomes more expensive for foreign countries to buy goods from China.  This could slow down the Chinese economy, but I believe that an increase in Chinese consumption could compensate for this.

I believe this could solve a large part of the global imbalances and that the move to a free floating Renmibi, in general, will have positive effects on the world economy.

I say “in general” because I fear that, especially for poor countries who rely heavily on imports, it could make imports significantly more expensive and could, for a while, disrupt their economies.  However, more expensive Chinese goods gives opportunities to competing countries, who have faced competition with an unfair advantage for a while, and than fight with equal weapons.

Their are in my view two main reasons why the Portuguese rates stayed at the level of their previous auction.  For one, the ECB has been buying a large number of Portuguese bonds.  And secondly because Japan has started purchasing European peripheral bonds.  On econoshock their was a pretty nice post explaining a possible reason why Japan vowed to buy European bonds.

Anyway, Portugal survived the first test, but they still need about 20 billion more this year so their will be new tests soon, and if Belgium doesn’t get a government soon we’re in for a couple of tests as well.