Core Meltdown

It has become common for observers of the European economy to refer to the problem countries of Spain, Portugal, Greece and Ireland as the periphery and the remainder (especially the powerful north - Germany, Holland, Belgium, France, Finland, Austria) as Core. I am not quite sure where Italy belongs, but I think it's commonly thought as core too.

Regarding the sovereign crises (or shall we call it 'common currency crises'?) in Europe, it has been commonly believed that problems, as long as they are limited to the periphery, could be dealt with. It's not all that easy, as all Euro countries share the same currency and banking system. One curious fact is that the Greek state's 2-year bonds yield 30% (as nobody wants them), while the Greek banks can obtain financing from the ECB at the refinancing rate of 1.5%. As you may have heard in the media, the situation is dire, and it feels like there are no real solutions.

The problem has just gotten worse last week as Italian bond prices collapsed, and at some point the 10-year bond yielded more than 6% for the first time. This in itself has a funding cost consequence (ie an additional 150bps on 119% of debt/gdp=1.8% of GDP/year in interest, see table below), but it also brings vivid memories of Portugal back. The Portuguese bonds crossed the 6% yield mark in September 2010, and today, 10 months later, are at 12%, rated sub-investment grade by Moody's and the country has received EU/IMF aid in the meanwhile. Almost seems like there is no turning back.
Given the sizes of the economies and of their debt, problems limited to Greece+Portugal+Ireland, can be manageable, however once they spread further and attack the bigger economies of Spain (1tn+) or Italy (1.5tn with 1.8tn of debt), it's all over. It's too big to bail. And it seems like we're now closer to this nightmare scenario.

However, there is one other potential nail in the EU's coffin - that is problems at the core. Besides an economic slowdown, which I think is slowly unfolding as described here, a strategist from DB has today pointed to some serious tensions building in France.

In the good old days before the crises in 2008, tensions were visible in the periphery, and one important measure was a loss of competitiveness, which manifested itself with higher imports and less exports - ie a trade deficit. Ireland, Spain, Portugal and Greece were all running trade deficits of 5-10% - something extremely rare in other countries, but the monetary union apparently allowed it. Of course it couldn't last forever, and once wholesale funding for banks wasn't available to support this excess consumption, and secondary effects such as house prices lost strength, hard reality bit.

Now, this is the trade deficit/GDP for France:
It looks like France is having the same problem - it's not competitive enough vs the world (but Germany in particular), and is importing more. This is the breakdown:
Seems like on a cyclical basis commodities play a role, but on a structural basis it's a lot about machinery and the like.

In the pre-EUR era (70's+80's) the French Frank (FRF) has devalued massively against the Deutschmark (DEM), and it feels very much like the pressure is there again based on the trade dynamics.
Unfortunately, all this leaves us with a rather sad conclusion - that the EUR is a failed project, and too many differences exist between the EUR countries and their policies to share the same exchange rate over time. I'm starting to think that Milton Friedman was a very visionary man, when he said that the Euro project would not survive the first [significant] recession and end up breaking up.