Traditionally, Europe closes for business in August unless there is a good reason policymakers should be shackled to their desks. This year there is. When the heads of the 17 eurozone governments met in Brussels on July 21, they agreed not just to bail out Greece for a second time but to put together a war chest that would enable them to take pre-emptive action in countries seen as vulnerable to attack. The message to the markets was clear: monetary union will be protected come what may, so think twice before turning on Italy and Spain. But it did not take long for the financial markets to unpick the Brussels agreement. They quickly discovered that while there was the promise of more money for the European Financial Stability Facility, it would take months for the funds to arrive, and then only if national parliaments agreed to pony up the cash. What looked on the surface a once-and-for-all solution was exposed as a naked attempt to buy time. Events in the United States over the past week mean the respite has been short. The threat that even the world's biggest economy might welsh on its debts has reignited concerns about the weaker members of the single currency. Dismal growth figures from the US have made matters worse, since the chances of countries like Spain and Italy growing their way out of trouble will be impaired if the recovery in the global economy stalls. That now looks much more probable than it did a fortnight ago.
Access Investments-Building Awareness - European Union-ROMANIA
Wednesday, August 3, 2011
Traditionally, Europe closes for business in August unless there is a good reason policymakers should be shackled to their desks. This year there is. When the heads of the 17 eurozone governments met in Brussels on July 21, they agreed not just to bail out Greece for a second time but to put together a war chest that would enable them to take pre-emptive action in countries seen as vulnerable to attack. The message to the markets was clear: monetary union will be protected come what may, so think twice before turning on Italy and Spain. But it did not take long for the financial markets to unpick the Brussels agreement. They quickly discovered that while there was the promise of more money for the European Financial Stability Facility, it would take months for the funds to arrive, and then only if national parliaments agreed to pony up the cash. What looked on the surface a once-and-for-all solution was exposed as a naked attempt to buy time. Events in the United States over the past week mean the respite has been short. The threat that even the world's biggest economy might welsh on its debts has reignited concerns about the weaker members of the single currency. Dismal growth figures from the US have made matters worse, since the chances of countries like Spain and Italy growing their way out of trouble will be impaired if the recovery in the global economy stalls. That now looks much more probable than it did a fortnight ago.
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"There is a growing sense of crisis enveloping markets in the northern hemisphere. Thus far asset markets in Asia have been holding up relatively well and currencies have moved in an orderly fashion. With increasing doubts about the forward momentum of the global economy, we will need to watch these Asian markets very closely for any signs of contagion. The month of August has got off to a very nervous start."
In their different ways, Italy and Spain exemplify the difficulties in making the eurozone work. Deprived of the ability to devalue its currency, Italy has struggled to remain competitive with Germany and growth has been sluggish. Spain, by contrast, had excessively strong growth in all the wrong parts of the economy courtesy of a one-size-fits-all interest rate. Cheap borrowing costs led to soaring asset prices, an unsustainable construction boom and a widening current account deficit.
Bond markets are now flashing warning signs about both countries. As Europe's sovereign debt crisis has unfolded over the past 15 months, markets have sensed a country is in trouble when the yield (interest rate) on its 10-year bonds has risen above 6%. The trigger for a bailout has been when yields have topped 7%. In Spain, the peak for yields yesterday was 6.45%; in Italy it was 6.14%.
"We are on the brink of a major sovereign debt crisis," said Danny Gabay, of Fathom Consulting. He added that there were similarities between Europe in the summer of 2011 and the US mortgage meltdown four years ago. Greece and Portugal were akin to America's sub-prime borrowers, who were the first to run into problem, but subsequently the crisis spread to borrowers with slightly better prospects. In the context of Europe, that was Italy and Spain, with Italy's national debt of 130% of GDP making it a more pressing problem.
Servicing that debt is impossible when growth is low and interest rates are 6%-plus and rising, which is why markets are now wondering how long it will be before Silvio Berlusconi's government seeks help from the EU and the International Monetary Fund.
President Demetris Christofias is trying to create a government following the resignation of his cabinet last week, causing the bank to express concern about the political situation. "Each day of inaction accelerates the problem and the risks, so we must act today and not tomorrow," it said. The bank has 595 branches worldwide: 143 of them in Cyprus and 211 in Russia, and four in the United Kingdom.
Cyprus does not have any need to raise funds until the end of the year but its bond yields – the price it pays to investors to borrow money – have hit levels of over 9%, regarded as far too punitive by almost all market experts.
Bank of Cyprus said: "Markets move rapidly; indecision, disagreements or simply talking without taking action are punished, while courageous decisions are rewarded."
The governor of the Central Bank of Cyprus, the island's central bank, has already warned that Cyprus might find a bailout unavoidable, sending a letter to Christofias last week outlining his concerns. Athanasios Orphanides said "more drastic measures must be taken immediately" if a bailout were to be avoided.
Undoubtably, the sight of so much money getting thrown around and dissolute stars crooning to Obama will make a stirring contrast with a federal government bankruptcy featuring unpaid government workers, seniors and soldiers wondering how they'll afford the groceries, shuttered national parks, and angry investors trying to cash out their Treasury Bills.
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