As we discussed on Thursday, the energy market is doing the tightening in Europe. The bond market (interest rates) will do the strangling.
Today, the head of France's central bank used the same word. Emmanuel Moulin warned that France is at risk of being "strangled by rising interest rates."
Keep in mind, this isn't Italy. It's France, the euro zone's second-largest economy. And its own central banker is sounding the alarm in public.
As we discussed last week, a bond market selloff in Italy is one thing (the economic periphery of Europe). When France, the core, starts to go, the market is now testing the system. France's 10-year yield closed at 4.87%, and the gap over Germany at 137 basis point, the widest since 2011-2012 (after a bigger blowout this past Friday).
That 2011-2012 date may sound familiar, because that's when Europe was last teetering on the edge of sovereign defaults, and a full blown debt and currency crisis.
It was rescued by intervention (a threat to backstop sovereign bonds) from the European Central Bank, which only worked because the rest of the world was behind it (namely the Fed).
That Fed support, under Warsh, is now questionable.
Against that backdrop, the euro fell to a new 17-month low today.
So, the pressure on Europe has quickly become exposed, and is coming from every direction. You could see it all on one front page of the Financial Times today.
Energy: The head of Saudi Aramco warned that the world's oil stockpiles are "scarily thin." This is the same week Washington told France and Germany to release their emergency diesel stocks.
Europe is paying the energy bill.
Security: Germany says Russia's "shadow war" with Europe has entered a new phase. That's the defense burden for Europe mounting.
Politics: Spain's prime minister called a snap election for November 29. That's economic pressure turning into political consequences.
And the ECB?
It has raised rates twice since June. Today, Lorenzo Bini Smaghi, a former ECB board member, wrote in the FT that the bond turbulence means it's time for the ECB to stop shrinking its balance sheet.
As we discussed Thursday, the ECB's only weapon in a bond selloff is the threat of a backstop. Now a former ECB insider is calling on the bank to stop tightening. If it doesn't, the bond market may (likely will) test whether the ECB can make good on its threat.
So, why does it matter?
In the near term, it's shock risk. When the stress moves from Italy to France, with the euro breaking down and bank stocks under pressure, the risk is an accident. And financial accidents in Europe don't stay in Europe.
In the longer term, it's a recipe for alignment.
As we've discussed throughout the past year, this is political alignment by consequence.
The Trump administration responded to resistance from European leaders by withdrawing the backstops, letting the bills come due, and letting the political class face the costs that their voters are no longer willing to sit around idly and accept.
Political regime change isn't a risk to Europe's realignment. It's probably the only way alignment happens.
And getting Europe aligned gets us closer to solving the China problem. As we discussed all the way back in my February 2025 note, "Dealing with China is priority number one," and it "will likely require global participation."
China has waged a multi-decade economic war on the world. Winning it requires Europe on the same side of the table as the United States, not as the next debtor consumer market for Beijing.
The energy squeeze is the shock to get Europe back into alignment.
