Despite the de-escalation talk of the past two days, one of the key barometers of economic pain associated with the war is showing no relief.

Remember, we looked at this chart a couple of weeks ago.

Both the red and the blue lines show the key spread between Italian yields (Europe’s most fiscally fragile major bond market) and German yields (the anchor).  This spread represents the risk premium in Europe.  

The red line is the 2022 period surrounding Russia’s invasion of Ukraine.  The blue line is the current period (18 trading days into the war).  Everything to the right of the black vertical line is the market reaction to the war catalyst.

As you can see from the blue line, the risk premium continues to rise, albeit from a low base.  But, importantly, it’s been led by Italian 10-year yields that traded over 4% the past two days.

And 4% has significance.

The European sovereign debt markets started showing stress in the summer of 2022.  And it was the sharp move above the 4% level in Italian yields that compelled the ECB to act — restarting QE (QE by a new name, the “Transmission Protection Instrument”) to stabilize bond markets of the weak euro zone countries.

This is the place we’ve been watching for the signal that the market expectations are shifting from “short-term pain” to “long-term structural economic damage.”

We’ve talked in recent days about the American “boom loop,” fueled by the self-reinforcing loop that Jensen Huang described at GTC — compute generates revenue, revenue funds more compute, compute generates more revenue.

Conversely, Europe is facing a “doom loop.”

And a catalyst to put it in motion arrived three weeks ago.  

And it’s in this chart we’ve been watching … 

The U.S. is energy dominant (a net exporter). Europe is energy dependent.

That’s why this ratio has spiked.

And it traded over 7 this morning — a doubling in three weeks. That’s Europe paying seven times what the U.S. pays for energy.

Here’s the doom loop: Higher energy costs squeeze the budgets of the more fiscally fragile countries.  And with that, market interest rates in Europe are rising, which increases debt service costs, which further squeezes the fiscally fragile countries in Europe. That threatens solvency, which pressures bank balance sheets, which tightens credit, which weakens the economy, which can push the fiscally fragile to the fiscally broken.

Why did the energy shock catalyst of this “doom loop” in Europe become more obvious to markets today?

Because an attack on Qatari LNG (a key supplier to Europe) evolved into what could be a potentially large scale supply destruction in the region (from the Trump retaliatory threat on Iranian supply).

With that potential accelerant to the EU doom loop, today, the leaders of the UK, France, Germany, Italy, the Netherlands and Japan issued a joint statement expressing “readiness to contribute” to reopening the Strait of Hormuz.

Two days ago, the President posted that NATO allies (he put allies in quotes) “don’t want to get involved” and that the U.S. “no longer needs, or desires” their assistance.

Today, those same allies offered to help.

That’s a 48-hour flip — from refusal to compliance. And it tells you everything about who has the leverage.

Now, with that in mind, lets revisit my March 10 notes, where we talked about three important meetings that happened within days of each as bombs were dropping on Iran.

Trump had top AI executives in the White House strategizing on the race to AI supremacy and formalizing an agreement to power AI. And he called defense executives to discuss the quadrupling of production of the certain high level weaponry. Then he brought together 17 leaders in the Western Hemisphere to sign a formal military alliance.

As we discussed, this was/is an industrial mobilization and the fortification of the Western Hemisphere for a bigger confrontation — bigger than Iran.

Today, the Pentagon requested a $200 billion supplemental defense budget. That’s not a “quick surgical strike” budget. That’s a multi-year industrial mobilization war chest.

This is about positioning for China. Trump was due to meet Xi in April. It was just postponed.

The Fed met today. They held rates. No surprise.

But let’s connect some events of the past few months with what was said today.

Remember, back in December, the Fed quietly restarted balance sheet expansion — buying Treasuries at a pace that Powell himself said would require $250 to $300 billion a year, permanently.

This was huge news.  Within days, the Fed had flipped from shrinking the balance sheet, to expanding the balance sheet again.

By the next Fed meeting (January 28th) gold had made one of the biggest 35-day spikes in the past 50 years — mapping directly to the Fed’s announcement to restart the liquidity spigot.

In that statement/press conference, what did Powell say about the revived liquidity injection program?  Nothing. 

How many questions did the room full of financial journalists ask about it in the press conference? Zero. 

Fast forward to today, and the Fed has now pumped $100 billion into the economy over the past three months. In the Summary of Economic Projections, the Fed raised its growth and inflation projection. 

What did Powell say about the ongoing aggressive balance sheet easing that happens to promote growth and inflation?

He didn’t mention it.  Nobody asked.  

The silence seems intentional, and the media seems to oddly lack curiosity about it. The question is, why? 

Let’s talk about this post from the President of the United States this morning:

The United States has been informed by most of our NATO ‘Allies’ that they don’t want to get involved with our Military Operation against the Terrorist Regime of Iran…despite the fact that almost every Country strongly agreed with what we are doing…I always considered NATO, where we spend Hundreds of Billions of Dollars per year protecting these same Countries, to be a one way street…We no longer ‘need,’ or desire, the NATO Countries’ assistance…”

We’ve talked about the U.S. plan to restructure global trade and realign the world (away from China, back toward the U.S.), which has been anchored by “burden sharing” — where allies and trading partners pay for access to safety (U.S. security guarantees), stability (the dollar and U.S. capital markets), and markets (U.S. consumers).

This post Trump made this morning is not a negotiating position on burden sharing.

This is the President of the United States publicly repudiating the security architecture that has underpinned European stability for 75 years.

It’s a big deal. 

Europe’s stability has been built on a set of assumptions that the U.S. would provide security, that energy would be affordable, that the ECB could backstop sovereign debt, and that dollar funding (access to U.S. dollars) would flow freely.

All four have been under pressure.  And this statement (“allies”, in quotes) may have just ended it all. Everything now should be seen as conditional, not automatic.

That means those assumptions that hold Europe together (security, financial and economic stability) no longer hold, unless/until conditions are met.

This, as European markets, are already beginning to price in risk of the energy price shock becoming more of a structural crisis (spreads widening, euro down, European stocks down).

As we’ve discussed the past two weeks, higher energy costs in Europe squeeze the budgets of the more fiscally fragile countries.

Meanwhile, the interest rate outlook in Europe has swung from prospects of a cut to 33 basis points of tightening by year end.

Higher rates increase debt service costs on countries like Italy (137% debt-to-GDP).

That threatens solvency, which pressures bank balance sheets, which tightens credit, which weakens the economy, which can push the fiscally fragile to the fiscally broken. 

It’s a self-reinforcing loop — a “doom loop.”

The big question is, does the ECB have the firepower to contain another sovereign debt flare up, IF the U.S./a Trump-led Fed isn’t there to back them up (answer: not likely).

Meanwhile, yesterday we talked about the self-reinforcing loop that Jensen Huang described at GTC — compute generates revenue, revenue funds more compute, constrained only by power.

This “boom loop” is being built in the United States.

It’s powered by $650+ billion of private AI capex this year ($1 trillion next year) and an industrial mobilization.

So, we have a European “doom loop” and an American “boom loop.”  

As we’ve been discussing past two weeks, this divergence sets up for more pain in Europe (markets, economy). 

And that could be the catalyst for political change in Europe — a populist shakeup, trading diluted sovereignty, slow-to-no growth and excessive regulation for pro-sovereignty, pro-growth and deregulation. 

Last October Jensen Huang stood on a stage in D.C. and said “over the next five quarters, there’s half a trillion dollars” to fulfill.

Today, Jensen was on a stage in San Jose, and said “right now, through 2027, at least $1 trillion” of high confidence demand.

And then he said they will be short on supply, and he’s certain it (demand) will be much higher than that.

Remember, on the earnings call last month, Jensen said “compute equals revenue.”

He said every dollar of compute capacity added (the huge industry capex spending that continues to grow) is being monetized the moment it comes online.

This is the self-reinforcing loop that is fueling what Jensen calls the biggest industrial buildout in human history: compute generates output, output generates revenue, revenue funds more compute.

And today, he drilled down into the unlock for it all — it’s power.

He says revenue equals tokens per watt.  Tokens/output is only constrained by watts/power.

That’s the big theme of this AI revolution:  Abundance is only constrained by scarcity.

With that, the Nvidia monopoly is well secured, because they’re churning out new advanced chips on about an annual schedule — which are proving to be multiples more efficient than the prior generation (more output per watt).

So, the Nvidia chip cycle alone is a global economic driver.  And those efficiency gains feed directly into Elon Musk’s economic-growth-tsunami theory.

And Elon’s “limitless” economic output theory then becomes plausible if you believe global energy capacity can be expanded.

Until then power is the limiting factor.

It’s scarce.

And with that, if AI is creating a world of abundance, then we should invest in scarcity.

We just launched a new site at AIInnovationPortfolio.com where you can see how we’re thinking about this “invest in scarcity” theme, and how we’re positioned.