Eye on the Market I September 14.2011 J.P.Morgan Topics: What would make us more optimistic about European and US equity markets; My generation Has the Eurobond Rubicon been crossed? Jiirgen Stark's resignation from the ECB begs the question of what he resigned about: the prospects of ECB debt monetization (money-printing), or the prospects of joint and severally guaranteed Eurobonds. My first thought was the former, but news reports indicate it might be the latter. The French paper Liberation reported that Merkel met in private with CDU members and explained she is ready to support Eurobonds if necessary; the article suggests that Kohl's criticism may have shaken up the CDU leadership. And according to news reports from El Mundo, Spain's Secretary of State to the EU Lopez Garrido said changes to the Spanish Constitution on the balanced budget were done as a quid-pro-quo for Eurobonds. If so, the Eurobond Rubicon has been crossed, at least by certain political constituencies. If that's the case, the Northern European EU taxpayers presented in thermoplastic form in last week's EoTM will foot the bill, but without much political input into the decision. Why are these political developments happening? Markets reactions to the European impasse are getting worse: • Italian government bond yields continue to rise, even with substantial ECB buying of 10 year paper (see chart on the ECB distortion of Italian yield curve). Despite an austere annual budget, Italy' s existing debt levels (the highest non-wartime levels since reunification in 1861) have entered the public consciousness in a way that may be difficult to reverse • French bank credit default swap spreads have risen to all-time highs (2s chart); no EU bank senior/unsecured debt issuance for the last 2 months, as banks who need capital are relying on the ECB instead • As of Sep 12, MSCI's index of European Union equities is down 21% ytd, compared to a 6.3% decline for the S&P 500 • Markets a