Pre-summit discord

June 27, 2012

There is an unusually public level of disagreement going into a key euro zone meeting. EU leaders aren’t helping to foster a sense of united purpose which could calm investors a little.

Yesterday, Germany’s Angela Merkel said Europe would not share debt liability as long as she lived. Maybe she was playing to a domestic audience, but if she means it, one of the main planks of a structure that could eventually solve this crisis has just been reduced to ashes. On the other side of the fence, Italy’s Monti said he was in no mood to rubber stamp any conclusions in Brussels. He said the summit promised to be “very difficult”. Spain’s Rajoy is in accord with him.

There may be movement in other areas though with Merkel’s coalition parties suggesting the ESM rescue fund could lend direct to banks, which would remove the stigma from the Spanish government of having to ask for aid and may explain why Madrid has been dragging its feet over a bank bailout of up to 100 billion euros, waiting for something better to come along.

More significantly, a senior lawmaker in Merkel’s party said the ESM could have its preferred creditor status removed. Technical perhaps, but a big deal since as things stand if the rescue fund offers a bailout or buys up bonds it could drive private investors out since they would be last to get paid back in the event of a default. Removing that obstacle could go some way to improving sentiment about Spain. However, we need to hear more senior voices in favour before this moves from the possible to the probable. Euro zone finance ministers will hold a conference call on the Spanish package and the Cypriot bailout request later today.

The leader of Germany’s opposition SPD is in the FT calling for urgent measures to lower euro zone borrowing costs. Monti wants the euro zone rescue funds to be used to help limit the spreads over German Bunds on bonds issued by countries that respect EU budget rules.  Support for his structural reform programme is waning at home and Italy’s parties have made it clear he needs to return from Brussels with some sort of trophy.

After the finance ministers of Germany, France, Italy and Spain met in Paris last night, this evening it’s the turn of Merkel and French President Hollande to try and revive the Franco-German axis and come up with a common  platform ahead of the summit. She routinely did this with Sarkozy but on euro zone bonds and a host of other issues, she and Hollande look far apart. After a rather discordant meeting of the two of them, Monti and Rajoy on Friday, there will be an imperative to at least sound more consensual. Merkel speaks in the Bundestag earlier in the day.

The summit will agree on a growth package worth around 130 billion euros, but a lot of that is shuffling existing money and it also builds in a fairly heroic assumption about how far European Investment Bank money can be leveraged. On the banking union, agreement on cross-border supervision is quite likely but Germany will resist a deposit guarantee fund or resolution structure for failing banks until the road to fiscal union has been set in stone. So the threat of a bank run remains.

Spain continues to put its shoulder to the austerity wheel, saying last night it would consider raising consumer, energy and property taxes. Data show the central government has almost reached the year-end target in the first four months of the year. Tax increases would presumably push it deeper into recession.

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