MacroScope

Of euro budgets and banks

Euro zone finance ministers meet today and will have one eye on budgetary matters given a Tuesday deadline for member states to send their draft budgets to the European Commission for inspection, and with protracted German coalition talks keeping other meaningful euro zone reform measures on hold.

Most draft budgets are in but we’re still waiting on Italy and Ireland. Dublin will unveil its programme on deadline day. Italy’s situation is more fluid so we may get something today.

Over the weekend, Dublin said it may quit its bailout by the year-end without any backstop in the form of a precautionary credit line. That would rule it out for ECB bond-buying support, which it probably also doesn’t need. But it needs at least the 1.8 percent growth forecast for next year to keep bearing down on debt.

Meanwhile, we got hold of documents showing Italy plans to give banks and insurance companies more speedy tax breaks on loan losses and writedowns to help them to clean up their balance sheets and get lending again.

For Rome, the aim is to agree a 2014 budget that cuts labour taxes but also meets the 3 percent of GDP deficit limit. Taxes and social contributions paid by Italian firms are among the highest in the world.

This little piggy went to market

Italy and Spain are both set to launch syndicated bond sales today, taking advantage of temporarily benign market conditions and maybe with a weather eye on the U.S. debt stalemate which could soon throw the world’s markets into turmoil with an Oct. 17 deadline fast approaching.

After Silvio Berlusconi’s failure to pull down the government, Italy’s political crisis is in abeyance for now and its bond yields have eased back. Spain has issued nearly all the debt it needs to this year already.

It’s not quite “crisis what crisis” but the news flow has been largely positive:
- Portugal (after its own self-inflicted  political crisis over the summer) has seen its borrowing costs fall to their lowest in more than a month after its EU/IMF lenders said it was meeting its bailout goals.
- Greece is predicting an end to six years of recession in 2014 and, just as importantly, a primary surplus.
- And the IMF yesterday predicted Italy, Spain, Portugal, Greece and Ireland (which will soon become the first euro zone member to exit its bailout programme) would all grow next year.

Stay of execution?

No sign of movement on the U.S. government shutdown but in Italy, party talks have been running red hot, keeping Italian markets in thrall.

Yesterday, senior figures in Silvio Berlusconi’s PDL party urged their colleagues to defy the former premier and back Prime Minister Enrico Letta in a parliamentary confidence vote expected today. Most tellingly, the media mogul’s key ally, Interior Minister Angelino Alfano, called on the party to back Letta.

Now nothing is certain in Italian politics and sources close to Letta say he will not call a vote if the numbers aren’t there, and could resign instead. But given he has a firm grip on the lower house, if even some PDL members support him in the Senate he should win the vote.

The never-ending story

Italian bond yields reversed a big chunk of their losses and stocks followed suit yesterday on the back of our scoop that 20 of Silvio Berlusconi’s senators had told him they could form a breakaway group if he pushed Italy into political chaos.

Whether they would switch their support to Prime Minister Enrico Letta and give him a workable majority in the Senate (he has a firm grip on the lower house) remains to be seen. That could buy several months of relative stability without the threat of Berlusconi mucking things up at any moment.

But we’re not anywhere near that yet and even then, elections would be likely in the spring. Those same senators did not speak out at a PDL meeting on Monday where Berlusconi said the party must push for early elections.

Oh Silvio

Even before the vote on his political future, Silvio Berlusconi ordered his five ministers to quit Italy’s teetering coalition government over the weekend in an attempt to force fresh elections.

With markets already alarmed at the prospect of another self-inflicted political wound – the U.S. government budget shutdown – Italian assets could take a hammering today with investors finally waking up to the potential chaos looming.

Bond yields did climb a little last week but not to the extent that suggests the worst-case scenario is anything like priced in. Italian BTP futures have plunged by well over a full point at the open and the euro is on the skids. Let’s hope everyone still believes in the European Central Bank’s euro zone backstop.

France on a budget

The French 2014 budget will be presented in full today with the government seeking to reassure voters with a plan that makes the bulk of savings through curbs in spending, having relied more heavily on tax increases so far.

The government has already said it expects 2014 growth to come in at a modest 0.9 percent, cutting its previous 1.2 percent prediction, and that after a 2013 which is likely to boast hardly any growth at all.

As a result, the budget deficit is expected to push up to a revised 3.6 percent of GDP from 2.9 next year. That puts Paris in line with IMF and European Commission forecasts but what Brussels thinks about the plan as a whole is another matter.

Back from the brink

Pulling back from the brink. The Federal Reserve certainly has and so has Silvio Berlusconi (so far).

Not much to say about the Fed directly, except that it’s surely still only a matter of time, but it certainly takes the pressure off the central banks meeting in our region today. German Bund futures have leapt about 1-1/2 points and Italian bond futures are up more than a full point. We can expect emerging market assets to climb sharply too – the Turkish lira is up three percent, for example, giving its embattled central bank some breathing space.

Further out though, what this has done is create more uncertainty rather than giving investors a firm direction of travel. Presumably, Bernanke and co. are somewhat alarmed about the durability of U.S. economic recovery, which should give everyone pause for thought.

Euro chat resumes

After the summer lull, euro zone and EU finance ministers meet in Lithuania. The “informal Ecofin” can often be quite a big deal but with German elections only nine days away, it’s hard to see that being the case this time.

During the election campaign German Finance Minister Wolfgang Schaeuble let slip that Greece would need more outside help which would not include a haircut on Greek bonds held by euro zone governments and the ECB.

Since then, European Central Bank policymaker Luc Coene has said Athens might need two bouts of further assistance and Estonia’s prime minister told us yesterday the popular bailout fatigue he flagged as a danger last year had now faded and he was open to aiding Greece with a third bailout and helping other troubled euro zone nations too.

Italian market test

Italy will auction three different bonds, aiming to raise 7.5 billion euros against a volatile domestic backdrop.

A sale of one-year bills on Wednesday saw yields rise, this after the Treasury asked parliament to raise the ceiling on this year’s net debt issuance to 98 billion euros from 80 billion, given the struggle to rein in public finances and a government commitment to pay outstanding bills to firms, which at least could give the economy a boost.

Parliamentarians have a bigger fish to fry in the form of Silvio Berlusconi. A cross-party Senate committee that must decide on whether to bar him from political life drew back from the brink on Tuesday but has caused growing tension between the coalition parties with some of Berlusconi’s allies threatening to pull the shaky government down.

UK unemployment — the monthly monetary policy guide

Of the week’s economic data, today’s UK unemployment stands out since the Bank of England has pegged any move up in interest rates to a fall in the unemployment rate from 7.8 percent to below 7.0. The rate is forecast to have held at 7.8 percent in July.

Bank of England Governor Mark Carney has struggled to convince markets of his contention that interest rates are unlikely to rise for three years because the jobless rate will fall only very slowly. Interest rate futures – short sterling – spiked higher after last week’s policy meeting which offered no change of direction and no statement.

There are some key imponderables:
1. To what extent UK firms have kept workers on but worked them less (its certainly true that the jobless rate rose less than expected during Britain’s recession), leaving plenty of scope to ramp up as growth returns without hiring large numbers of new staff.
2. The economy is still three percent smaller than it was in 2008 but no one is quite sure how much activity has been permanently lost during the financial crisis so the size of the output gap is uncertain and therefore so is the level of output at which price pressures start to build.
3. Most importantly, with the Federal Reserve poised to act, can a country like Britain possibly divorce itself from the world’s economic superpower as it sets the global terms of monetary policy?