MacroScope

The day before an EU summit that probably won’t come up with anything decisive in crisis management. If that sounds rather underwhelming beware. There’s an awful lot of jockeying for position over when Spain will seek sovereign help, the Greek troika talks continue to look messy with time running very short and the leaders would be very well advised to demonstrate that their longer-term plans for closer integration are not running out of puff – item one on that agenda is getting plans for step one of a banking union back on track.

We could get a decent crack at this today with a number of EU leaders, including Angela Merkel, Spain’s Mariano Rajoy and Greek premier Antonis Samaras, gathering in Bucharest for a centre-right political congress.

On the jockeying front, German Finance Minister Wolfgang Schaeuble has called for a leap forward in euro integration, particularly in terms of fiscal union with a commissioner given power over members’ budgets. That’s going to prompt some heated debate in Brussels on Thursday/Friday with France, in particular, likely to be aghast.

Italy’s debt agency chief urged Spain to take a bailout while Madrid, in turn, would quite like Rome to seek aid at the same time, in some sort of united front. The IMF’s chief economist is also calling for a plan to cover Italy and Spain.

The previous German preference for Spain to hold off for now (Berlin is wary of how the Bundestag might react) appears to have faded out of the picture. When it comes, Spain is expected to take a precautionary credit line from the ESM rescue fund to allow the ECB to leap into action.
Meanwhile, interminable talks about how to put Greece’s bailout programme back on track hit another temporary snag last night, this time over labour reforms  to scrap automatic wage increases and reduce severance payments, which some of the governing coalition say they can’t wear.

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.

A telling moment. Before pretty much every showdown EU summit since the debt crisis exploded into life, the leaders of France and Germany have got together beforehand to agree a common strategy. It is a truism that the European motor only works efficiently when its two biggest powers are in accord.

This time, following the election of Francois Hollande as French president, there has been no such meeting. Instead he will talk with Spanish premier Mariano Rajoy in Paris before they head to the Brussels summit.
There, Hollande will press for the currency bloc to start issuing joint euro zone bonds and will run into implacable German opposition that will squash the plan for now.
But the plates are shifting and German Chancellor Angela Merkel looks somewhat isolated.

On euro bonds, Hollande can call on the support of Italy’s Mario Monti and the European Commission among others.
Nonetheless, Angela holds the purse strings so while we will see some modest pro-growth measures agreed (and no doubt trumpeted), there will be no pump-priming that requires extra deficit spending, certainly no mutualising of debt and probably no hint that the likes of Greece and Spain will be given longer to make the cuts demanded of them (though that policy’s time could soon come, depending on how the June 17 Greek elections go).

After last week’s hefty losses, European stock gained yesterday and are up up again this morning, denoting some optimism about the Wednesday supper summit of EU leaders, which might well be unrealistic.

The European growth measures that we know are in the works – boosting the paid-in capital of the European Investment Bank and plans for ‘project bonds’ underwritten by the EU budget to finance infrastructure – might help a little but will fall a long way short of turning the euro zone economy around, so unless we get something more, on either the growth or the building defences fronts, there’s scope for investor disappointment.

Europe’s international partners continue to demand more dramatic crisis action. After the G8 summit, President Obama was out last night with four demands:
- firewalls to protect countries from Greek contagion (are the ESM and IMF funds now viewed as insufficient?),
- recapitalization of banks that need it (Spain to the fore here presumably),
- A growth strategy to run alongside tight fiscal measures (easier said than done),
- easy monetary policy to help the likes of Italy and Spain keep cutting debt (the ECB thinks its 1 percent rate is very loose and is unlikely to cut soon with inflation above target and will only flood the system with more liquidity in utter extremis)