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I now think that Spain will exit the eurozone first—precipitously and without warning—and that the impact on the euro will be much more sudden and dramatic than I had earlier thought.
In this SPG Supplement, I will explain my thinking. First I will discuss the general European situation; then the Greek debacle, and how the European leadership has lost sight of what salvaging Greece was supposed to be about; then the current Spanish situation, how it is unsustainable, and how the new Rajoy government’s only escape—politically and economically—is to default and then exit the eurozone.
Why will Spain exit the eurozone? Because you can’t squeeze blood from a stone. With a 24% unemployment rate that is rising, and over half of the young people unemployed, no politician in his right mind—especially a nationalist—will decide that even more austerity is the cure for the disease. One thing is cutting off the fat—it’s quite another to be cutting to the bone.
For Rajoy and de Guindos, it will be simpler to exit the eurozone, go back to the peseta, and devalue by 20% to 30% right off.
It is always easier for a politician to cut expenditures via devaluation than via nominal spending cuts. Since the Eurocrats won’t allow a 20-30% devaluation of the euro, and since Spain cannot really cut any more or find any more money in the bond markets, then the only thing left for it to do is devalue a currency that it controls:
The New Peseta: Coming to Spain before the end of the year.
Pro tip - type Ctrl-A when you visit his blog to highlight all the text on the page. It's hard to read otherwise because of the background image he uses.