EU summit aftermath
After the EU summit exceeded expectations the more considered verdict of the markets will dictate in the short-term, certainly until the European Central Bank’s policy meeting on Thursday. Previous summit deals crumbled pretty quickly buying only a few days or even hours of market relief.
After strong gains on Friday, Asian stocks are up modestly and European shares have edged higher. However, German Bund futures are nearly half a point higher, so something’s got to give and more often than not it’s the stock market that thinks again. So maybe Friday’s rally was a one-off.
For it to have any legs, the ECB may well have to come up with something on Thursday, and a quarter-point rate cut – widely priced in – may not be enough. ECB policymaker Asmussen is already out saying Greece must should not loosen its bailout programme, Spain can restore confidence with a bank recap plan that builds in a large margin for error and dismissing calls for the ESM rescue fund, which comes into being next week, to get a banking licence so it could draw on virtually unlimited ECB funds. That all sounds fairly uncompromising.
No one is getting carried away. The agreement in Brussels to accelerate progress towards cross-border banking supervision after which the ESM rescue fund will be allowed to directly inject capital into banks was a big deal for Spain since it will keep its bank bailout of up to 100 billion euros off the government’s wilting balance sheet. The agreement that the ESM would not have preferred creditor status for Spanish loans, something that had spooked private investors who would have dropped to the bottom of the repayment pecking order, is also significant and will surely set a precedent.
But Spain remains in a whole heap trouble – deep in recession, unlikely to meet its deficit targets this year and facing some daunting looking debt refunding humps in the next few months.
The summit was widely portrayed as a defeat for Angela Merkel. But was it really? There was no discussion of the ESM getting a bank licence or euro zone bonds, no progress on bank deposit guarantees or a bank resolution fund and as for the green light for the ESM to intervene in the bond market, that light was already set at green – the rescue fund always had the power to do that. Tactically Merkel gave ground on recapitalizing banks direct – a significant move – strategically she kept all her goals for closer union and pooling of economic sovereignty intact, even enhanced given the first step towards a banking union. And Italian premier Mario Monti’s assertion that any country seeking help with its bonds would not have strings attached seems to have been wrong.
On bond-buying, if the ESM alone tries to hold the line its maximum firepower of 500 billion euros could run short pretty quickly (100 billion of that has already been earmarked for Spanish banks), leaving it looking incapable of actually bailing out a country like Spain, all of which means the ECB may have to leap back into action before the year is out if things turn nasty again. Alternatively, give the ESM a banking licence and keep the central bank one step removed from the fray. Don’t rule that out just yet.
None of the above means that the summit results should be dismissed, it’s just more of the theme we’ve seen for two years. Germany and others have moved, presumably because they remain deeply concerned, but incrementally in a way that may bring some calm but in no way gets ahead of the crisis. Berlin’s intractability is another cliché that is not standing up to much scrutiny. In recent weeks, it has conceded that Spain should get an extra year to make its deficit goals and even looks prepared to bolster German demand a little to do its bit for a euro zone recovery, even if that comes at the expense of a bit of inflation. But in the end, a lot depends on whether Merkel really meant it when she said last week that euro bonds would not happen in her lifetime.