It’s all Greek

November 4, 2013

The EU/IMF/ECB troika is due to return to Athens to resume a review of Greece’s bailout after some sparring over budget measures.

Greece’s president and prime minister have said they will not impose any further austerity measures and hope that their ability to run a primary surplus will persuade its lenders to cut it some more slack on its bailout loans to make its debt sustainable. The EU and IMF say there will be a fiscal gap next year that must be filled by domestic measures, be they further wage and pension cuts or tax increases.

We had a round of brinkmanship last week with EU officials saying they weren’t going to turn up because Athens had not come up with plausible ways to fill a 2 billion euros hole in its 2014 budget. But on Saturday, the European Commission said the review was back on after the Greek government came up with fresh proposals.

The bottom line is that after Angela Merkel decided once and for all last year that Greece should not be allowed to fall out of the euro zone, this will be sorted one way or another.

However, reform is never easy in Greece – viz Sunday’s protest against a relaxation of Sunday shopping rules – and the coalition government has a wafer thin majority. To focus minds, Greek workers will hold a 24-hour strike this week to protest against austerity measures and public sector layoffs demanded by the country’s international lenders.

An alarming drop in euro zone inflation – to 0.7 percent from 1.1 – throws the coming week’s European Central Bank policy meeting into very sharp relief. Today, policymakers Vitor Constancio, Joerg Asmussen and Ewald Nowotny are speaking although they should be in pre-meeting purdah on the monetary policy front.

No policy change was expected on Thursday, and it’s still unlikely on balance. But the central bankers, who are mandated to target inflation at close to 2 percent, will be alarmed at the sight of price pressures evaporating. One need look no further than Japan to see the damage deflation can do, often for many years.

We reported last week that a strengthening euro has also come onto the ECB’s radar, given it could depress both growth and inflation, and that there are three loose camps within the Frankfurt HQ – one wanting an interest rate cut (which we know was discussed at the last meeting), another preferring the option of another long-term liquidity flood for the banking system as we done last year, and a third wanting to do nothing.

Unless inflation starts picking up a little, the likelihood of some action before long grows significantly. Our latest poll of 59 economists predicted the ECB would inject more liquidity into the banking system, probably early next year. But that was conducted before the inflation figures came out.
The December meeting, which features fresh growth and inflation forecasts from the ECB, maybe a likely candidate.

Manufacturing PMI surveys from most euro zone member states will offer the latest litmus test. We already know from flash readings that the euro zone reading plateaued last month with French business activity close to stagnation and German expanding at a slower pace. That will put the focus on the Italian and Spanish reports and their ability to hold in expansionary territory after a few months of improvement.

Interesting day in Italy which is preparing to launch a new inflation-linked “BTP Italia” retail bond. The Treasury will set the real yield on the new bond today and put it on sale tomorrow. Previous such issues have sailed out of the door this year though there is the longer term question of how much longer Italian banks can continue to hoover up government bond auctions. Economy Minister Fabrizio Saccomanni meets British finance minister George Osborne and makes a speech and the Bank of Italy holds its annual meeting with CEOs of the six top Italian banks.

Top employers lobby the Confederation of British Industry has stirred up the UK’s European debate, declaring Britain must remain part of the European Union but calling on the government to stem the “creeping extension of EU authority”. The CBI is holding its annual conference in London so we’ll more on this.

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