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from Breakingviews:

Markets vote for the euro

By Edward Hadas The author is a Reuters Breakingviews columnist. The opinions expressed are his own. Companies are broken up when managers think the whole is worth less than the sum of the parts. Smaller enterprises are more flexible, they say, than incompatible organisations artificially joined into a single, excessively bureaucratic entity. Investors often agree and share prices commonly rise on rumours of a split. The euro is clearly different. The fear of a break-up is making the single currency fall.

The market’s vote in favour of the euro is usually portrayed as its equivalent inverse - a vote against the woes which would accompany a retrograde transition to national currencies. Yes, the euro has dropped from $1.32 to $1.25 since the beginning of May because a messy Greek exit would cause all sorts of grief, even for the stronger members. A recession would be unavoidable, just as after the bankruptcy of Lehman Brothers in 2008. Yet while that dire forecast may be justified, it is itself a tribute to the benefits of cross-border integration within the euro zone. The financial ties have are so tight that breaking them would cause a great deal of trouble.

The market’s judgment would probably be the same even if traders believed that a euro split could be managed without much additional financial stress. A currency demerger would reverse significant economies of scale. With floating exchange rates, companies will be more national and less European, cross-border capital flows will become even more capricious and Europe will look pathetic in international negotiations.

National currencies would indeed be more flexible and less bureaucratic than the euro. In practice, that means national governments would be more likely to use inflation and devaluation to avoid tackling structural economic challenges. The loss of a global currency would also be the loss of potential future gains from hosting a global reserve currency. The euro might someday replace the dollar; the deutschmark never will.

It might have been better not to have started with the single currency without more political and financial unity in Europe. But almost 14 years into the experiment, a break-up would be value-destructive. The falling price of the euro shows the market has got this one right.

from MacroScope:

Manifest currency? U.S. dollar’s global dominance not set in stone

Incumbency, it is often said, confers many advantages.

Sitting U.S. presidents certainly have reaped its benefits – in the past 80 years, only three have been unseated.

Most economists believe the same benefits apply to reserve currencies. Yes, the U.S. dollar may one day be supplanted as the leading international currency, the thinking goes, but that day is many decades away.

Then again, maybe not.

A new working paper from the National Bureau of Economic Research that looks more closely at the dollar's own rise to the top in the 20th century suggests, among other things, that "the advantages of incumbency are not all they are cracked up to be."

By looking at the currency denomination of foreign public debt issued by 33 countries from 1914 to 1946, the authors – University of California-Berkeley professor Barry Eichengreen and Livia Chitu and Arnaud Mehl of the European Central Bank – find that dollar-denominated bonds were nearly equal to those priced in sterling by the late 1920s. That's about two decades earlier than the date assumed by previous scholars.

When stripping out Commonwealth countries that had strong commercial and political links with Britain, the dollar overtook sterling in 1929.

from MacroScope:

Greek political poll tracker

Greece faces another election on June 17.  Although they reject the austerity required by the bailout, most Greeks want their country to stay in the euro. However Frankfurt and Brussels say it is impossible for Greece to have one without the other: no bailout means no euro and a return to the drachma. Whether the Greek people believe these warnings could have a big impact on the election result.

First place comes with an automatic bonus of 50 seats, meaning even the slightest edge could be pivotal in determining the makeup of the next government.

Click here for an interactive chart showing the latest polls:

from Hugo Dixon:

What is the long-term euro vision?

What should be the long-term vision for the euro zone? The standard answer is fully-fledged fiscal, banking and political union. Many euro zone politicians advocate it. So do those on the outside such as David Cameron, Britain’s prime minister, who last week called on the zone to “make up or break up”.

The crisis has demonstrated that the current system doesn’t work. But a headlong dive into a United States of Europe would be bad politics and bad economics. An alternative, more attractive vision is to maintain the maximum degree of national sovereignty consistent with a single currency. This is possible provided there are liquidity backstops for solvent governments and banks; debt restructuring for insolvent ones; and flexibility for all.

Enthusiasts say greater union won’t just prevent future crises - it will help solve the current one. The key proposals are for governments to guarantee each other’s bonds through so-called euro zone bonds and to be prepared to bail out each other’s banks. In return for the mutual support, each government and all the banks would submit to strong centralised discipline.

But the European people are not remotely ready for such steps. Anti-euro sentiment is on the rise, to judge by strong poll showings by the likes of France’s Marine Le Pen and Italy’s Beppe Grillo. Germany’s insistence last December on a fiscal discipline treaty has stoked that sentiment.

An attempt by the region’s elite to force the pace of integration with even more ambitious plans could easily backfire with voters, particularly in northern Europe. They would fear being required to fund permanent bail outs for feckless southerners. Premature integration might not even help with the current crisis if it backfired with investors. They might start to question the creditworthiness of a Germany if it had to shoulder the entire region’s debts.

In contrast, the principle of “subsidiarity” - the Maastricht treaty’s specification that decisions should be taken at the lowest possible level of government that is competent to handle them – is good politics and good economics. Of course, even advocates of political union such as Wolfgang Schaeuble, Germany’s finance minister, subscribe to this principle. The issue is to define the minimum conditions needed for the sustainability of the single currency. There are probably three.

The first is that insolvent entities - whether they are governments or banks - should have their debts restructured. One of the main reasons states and lenders were allowed to leverage themselves so much in the boom was because there was a widespread view that they couldn’t go bust. The complacency sowed the seeds of the crisis.

from Felix Salmon:

How Europe’s banking crises threaten the eurozone

The size of the run on Greek banks is not at all clear: while it seems that something on the order of €1 billion has left the banks of late, it's less obvious whether that was over the course of one day, three days, or two weeks. The big picture, though, is unambiguous:

What you're seeing here is Greece down to its last €165 billion or so in deposits, and at the margin the rate of decrease is probably accelerating, despite the fact that most sensible Greeks will have already stashed their hard-earned euros safely outside the country a long time ago. I don't know what the minimum amount is that Greeks need on deposit just to serve their near-term liquidity requirements, but we're not there yet: Greece's total population is only 11 million. So there's a long way further this number can fall -- especially since the Greek banking system isn't receiving the support it needs from the ECB.

The more realistic constraint is simply that many Greeks lack the education and sophistication and language skills needed to move their money out of the country. This, for instance, is telling:

A 60-year-old textiles store owner who gave his name only as Nasos said he had transferred 10,000 euros over the phone to a bank in fellow euro zone state Cyprus on Tuesday afternoon.

If Greece exits the euro, there's no doubt that there will be a massive banking crisis in Cyprus -- it's pretty much the least safe haven conceivable for someone looking to move their money from Greece. The only reason to move money to Cyprus rather than, say, Luxembourg is that they speak Greek there, and the logistics of moving money to Cyprus are easier than the logistics of moving money to any other country.

Meanwhile, in the rest of the eurozone periphery, foreigners are already pulling their deposits from Italian banks, while the Spanish banking system is only getting increasingly precarious:

from Breakingviews:

The pound’s climb may send the UK down

By Ian Campbell

The author is a Reuters Breakingviews columnist. The opinions expressed are his own.

British holiday-makers will welcome it. The pound is rising as the euro weakens. Sterling will rise further in the coming months if Greece exits the euro zone and exacerbates the single currency’s crisis. But the pound’s rise promises UK pain-and serious problems for policymakers.

The 4 percent rally against the euro so far this year isn’t dramatic enough to be called a problem or claimed as an excuse. The pound remains quite low. A euro now worth 80 pence is well down on its 97 pence peak but still up on the sub-70 pence that was the norm before 2008. But it won’t stay that way if the next phase of the European crisis is a euro exit - or two.

If Greece departs the zone, the resultant panic will be great. The pound would become still more of a safe haven. That 70 pence level for the euro, implying a pound appreciation of over 12 percent, could quickly be a reality. UK competitiveness in Europe would be harmed but the damage would go deeper than that.

An existential euro crisis would harm already weak European growth as investment plunges, consumers cower, banks struggle and financial markets tumble. All this euro-carnage would undoubtedly be felt across the Channel.

A half of UK exports go to the broader EU. The UK’s policymakers have been counting on rebalancing, with consumers overseas helping to pull a more competitive UK forward. Outside the EU that strategy is working. Export volumes to non-EU countries are up an annual 5.3 percent in the past three months - and by 21 percent since 2008. But in Europe a toll is already being taken by recession in weaker economies. Exports to EU countries in the three months to March are down by 3.3 percent in the past year and by 5.5 percent since 2008.

from Global Investing:

Research Radar: Greek gloom

Greek gloom dominates the start of the week as new elections there look inevitable and talk of Greek euro exit, or a Grexit" as common market parlance now has it, mounts. All risk assets and securities hinged on global growth have been hit, with China's weekend reserve ratio easing doing little to offset gloomy data from world's second biggest economy at the end of last week. World stocks are down heavily and emerging markets are underperforming; the euro has fallen to near 4-month lows below $1.29; safe haven core government debt is bid as euro peripheral debt yields in Italy and Spain push higher; and global growth bellwethers such as crude oil and the Australian dollar are down - the latter below parity against the US dollar for the first time in 5 months.

Financial research reports on Monday and over the weekend were just as gloomy, but plenty of interesting takes:

Bank of New York Mellon's Simon Derrick's view of the Greek political impasse concluded "there is at least an evens chance that the latter part of this summer will see what had officially been seen up until last November as an impossibility: a nation leaving the EUR."

RBS's Sanjay Mathur reckons that if there is another hung parliament after new Greek elections, implying no significant voter return to the pro-bailout parties, then euro risk soars.  "This means, on another hung parliament, that Greek government IOUs could trade as proxy currency as early as July." If that does not galvanize sufficient parties into accepting Trioka bailout demands at that point, he said that then exit looms. "Opening up the Pandora's box of exit means deposit risk across the periphery. The future of the euro would then be dictated by the subsequent policy response."

Barclays Sree Kochugovindan talks of a three phase possible deterioration of the euro crisis -- one, where solvency concerns and asset market fright are contained to Europe and mostly the fixed income markets of the periphery countries concerned; two, solvency concerns hit the core such as France and Belgium with asset market contagion widening before a series of major policy responses; and three, no major policy response or ECB SMP/LTRO, which leads to Greek default and even exit and global market shock akin to September 2008. "Given the immense cost of a crisis triggered by a Greek exit, we are not expecting the current situation to deteriorate into Phase 2. However, the risks are elevated and with the prospect of second round Greek elections in a few weeks, market jitters are likely to continue."

Deutsche Bank's global markets note also focuses on rising risks from Greece and also on the May 31 Irish referendum on the EU fiscal pact. Apart from outlining obvious risks to the Greek financing from a political vacuum, one conclusion Deutsche comes to is that a new EU growth pact may happen sooner than many had figured. "The new situation in Athens forces EU leaders to find common ground faster than we thought." Another conclusion was that Ireland may consider postponing its referendum, given the risk that a "no" vote may disastrously cut off its access to new EU funds and also given a possible delay in German parliamentary votes on the fiscal deal to June. "Ireland might do well to think about postponing the 31 May referendum." It called Spain's sweeping banking reform plan "making progress" but a 15 bln euro government recapitalisaation of the banks "too timid".

HSBC's Karen Ward and Simon Wells warn about the long-term impact of continuous quantitative easing by central banks, saying the political relationship between central banks and governments rather than inflationary consequences may be the biggest concern. "The heyday of independent central banking could be drawing to a close."

from Breakingviews:

Euro faces slide on break-up risks

By Ian Campbell

The author is a Reuters Breakingviews columnist. The opinions expressed are his own.

It’s euro strength rather than weakness that is remarkable. But a swift slide in its value is now probable. A possible Greek exit from the zone in the coming months is the big near-term risk. But there is also a broader threat. As the crisis persists France and Germany are growing further apart. More growth? Less austerity? A zone torn by discordant voices is vulnerable to a split and the euro to a slide.

Euro strength has perplexed. Even after unsettling elections the euro is still well above the $1.17 level at which it launched. The solidity may reflect Germany’s annual trade surplus of around 220 billion euros, the balanced trade position of the zone, and the European Central Bank’s 1 percent interest rate - higher than in United States, Japan and UK where outright quantitative easing have provoked currency weakness.

But the ground is shifting. While the United States seems to have finished money printing as its economy grows, the euro zone has returned to a recession which is deep in the periphery. And European political uncertainty is worsening.

Greece may end by electing a government that will not stick to the austere terms of the country’s second bail-out. Markets ought perhaps to be ready for a long-foretold Greek euro exit. But if Greece can exit the zone, why not Spain or Portugal?

Contagion risks are heightened by differences at the core. François Hollande, the new French president, is opposed to austerity in France and ill-placed to impose it in the periphery. Hollande’s preference may be for supportive fiscal spending and a far more expansive ECB. Germany won’t agree and the ECB will want its independence respected. Conflicting voices present the periphery with a temptation: why not call for monetary and fiscal rescue rather than implement tough reforms?

from Global Investing:

Research Radar: Beyond Hollande and Holland…

Markets have been dominated this week so far by the fallout from Sunday's French presidential election, where Socialist Francois Hollande now looks set to beat incumbent conservative Nicolas Sarkozy in the May 6 runoff , and the collapse of the ruling Dutch coalition on Monday.  Public anxiety about budgetary austerity in Europe was further reinforced by news on Monday of a deepening of the euro zone private sector contraction in April. That said, euro equity, bond and currency prices have stabilised relatively quickly even if implied volatility has increased as investors brace for another month or so of political heat in the single currency bloc. The French runoff is now on the same day as the Greek elections and May 31 sees Ireland going to the polls to vote on the EU's new fiscal compact.  Wall St's volatility gauge, the ViX, is back up toward 20% -- better reflecting longer term averages -- and relatively risky assets such as emerging market equities remain on the back foot. The euro political heat and slightly slower Q2 world growth pulse will likely keep markets subdued and jittery until mid year at least. At that point, another cyclical upswing in world manufacturing together with the passing of the EBA's euro bank recapitalisation deadline as well as the introduction of the new European Stability Mechanism may well encourage investors to return at better levels.

Following are some interesting tips from Tuesday's bank and investment fund research notes:

- JPM economists reckon finding the reason behind the backup in US weekly initial jobless claims over the past couple of weeks is key to assessing whether a sub-par March payrolls report is repeated in April. It says it's possible the claims jump move is a seasonal factor as unadjusted claims are closely tracking 2007's pattern and Easter holidays fell on the same dates in both years. If 2007 was repeated, there would be a sizeable late April drop in claims and JPM looks for some of that on Thursday with a 14,000 forecast drop. (Reuters poll consensus is for a 11,000 drop)

- Following the surprise news last week that dovish Bank of England policy maker Adam Posen is no longer voting for more UK money printing, Barclays FX team said it's turning more positive on the UK economy and also says sticky inflation may mean the Bank of England's current monetary stance may be too accommodative. As a result, it lowered its euro/sterling 3-month forecast to 0.79 from 0.84. However, it cautioned about being short euro/sterling until after Wednesday's Q1 UK GDP report, which it said could come in weaker than expected due to temporary factors. (Reuters poll consensus is for a 0.1% rise Q/Q)

- As everyone watches the FOMC outcome on Wednesday, Bank of New York Mellon's Simon Derrick highlights widespread expectations of further Bank of Japan easing and asset purchases on Friday. He reckons the economic arguments for more easing in Japan may be sound but it's worth considering whether BoJ governor Masaaki Shirakawa may want to start facing down heavy political pressure for endless BoJ easing.

- Rabobank's emerging markets team flag their concern about Poland's zloty, which has been one of the best performing currencies of the year so far. They say the zloty is a high "Eurozone beta" play, seen in the correlation of the eur/pln rate with composite euro periphery sovereign CDS spreads, and as a result will suffer if euro tensions rise further over the next month or two.

from Global Investing:

Hair of the dog? Citi says more LTROs in store

Just as global markets nurse a hangover from their Q1 binge on cheap ECB lending -- a circa 1 trillion euro flood of 1%, 3-year loans to euro zone banks in December and February (anodynely dubbed a Long-Term Refinancing Operation) -- there's every chance they may get, or at least need, a proverbial hair of the dog.

At least that's what Citi chief economist Willem Buiter and team think despite regular insistence from ECB top brass that the recent two-legged LTRO was likely a one off.

Even though Citi late Wednesday nudged up its world growth forecast for a third month running, in keeping with Tuesday's IMF's upgrade , it remains significantly more bearish on headline numbers and sees PPP-weighted global growth this  year and next at 3.1% and 3.5% compared with the Fund's call of 3.5% and 4.1%.

But its euro zone calls are gloomiest of all. First off, it sees two consecutive years of economic contraction of the bloc as a whole -- a 1.0% shrinkage this year followed by 0.2% drop in 2013. Against this dire backdrop, it expects  Spain to be forced to seek Troika (EU, IMF and ECB) support later this year that will be focussed on recapitalizing and restructuring its ailing banks and it also expects both Portugal and Ireland to need second bailouts from the same source.

And with that sort of pressure from deleveraging, austerity, sovereign debt stress and recession , the ECB will have to bring out yet another punchbowl, it reckons.

We expect that renewed EMU strains will prompt the ECB to launch at least one more multi-year LTRO and continue to pencil in one or two more rate cuts by end-2013.

Yet, just like the euphoric effects of both the binge and "morning after" drink, the problem with LTRO is that it risks causing more problems than it solves by tying the banks of weak peripheral euro states ever closer to their ailing sovereigns.