MacroScope

Goldman thinks market’s disappointment with ECB is premature

Financial markets on Thursday were starkly disappointed with the European Central Bank and its president, Mario Draghi. He had promised recently to do everything in his power to save the euro and yet announced no new bond-buying at the central bank’s latest meeting. Riskier assets sold off and safe-haven securities benefitted.

But Francesco Garzarelli of Goldman Sachs, Draghi’s former employer, has a different take on the matter:

We see a material change in the central bank’s approach to the crisis, and a coherent interplay between fiscal and monetary policy. The underwhelming part of today’s announcements lies in the lack of details on the asset purchases and other measures to support the private sector. But it appears that these will have more structure around them than the SMP (Securities Markets Program).

Since June 29, Garzarelli has recommended long positions in five-year Italy, Spain and Ireland bonds. He reiterated that stance going into the ECB meeting.

Garzarelli said the conditionality associated with European Financial Stability Facility (EFSF) procedures seems “inevitable given the trend towards more intrusive cross-country scrutiny” over fiscal and structural policies.

Breaking up is hard to do – even for stoic Germany

German Bund futures have just had their second straight week of losses. This has left many scratching their heads given the timing – right before Greek elections that could decide the country’s future in the euro and the next phase of the euro zone debt crisis. That sort of uncertainty would normally bolster bunds, which are seen as a safe-haven because of the country’s economic strength.

To explain the move, analysts pointed to profit-taking on recent hefty gains, and to a bout of long-dated supply from highly-rated Austria, the Netherlands and the European Financial Stability Fund this week. They also noted changes in Danish pension fund rules as an additional technical factor reducing demand for longer-dated German debt.

The losses, however, have also prompted some debate about whether contagion is spreading to Germany, the euro zone’s largest economy.

Is Germany the next domino?

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Throughout Europe’s financial crisis, German government bonds have been seen as a safe-haven for those seeking protection against the troubles of southern Europe. However, the confidence of financial markets in Germany’s finances may finally be starting to falter as the cost of a festering financial crisis rises – and the country is seen as ultimately holding the bag.

Demand at the latest government bond auction remained solid. However, the slide in German bunds continued into a second day and, worryingly, it was driven in part by worries about contagion after Spain’s poorly-received 100 billion euro bank bailout.

According to Capital Economics:

The last few days have brought clear signs that bunds are finally losing their safe-haven status.

Spanish bailout blues

100 billion used to be a big number. These days, it barely buys you a little time.

Euro zone finance ministers agreed on Saturday to lend Spain up to 100 billion euros ($125 billion) to shore up its ailing banks and Madrid said it would specify precisely how much it needs once independent audits report in just over a week. 

A bailout for Spain’s banks, struggling with bad debts since a property bubble burst, would make it the fourth country to seek assistance since the region’s debt crisis began, after Greece, Ireland and Portugal.

Eurobond or bust

Many market analysts consider a deeper fiscal union the only way to hold together a troubled euro zone. And while Germany continues to loudly reaffirm its long-standing opposition to shared euro zone bonds, the region is in many ways already headed towards implicit mutual responsibility for national debts. Berlin will likely come under increasing pressure to succumb, especially now that “core” European countries are entering the crosshairs of speculators .

The region’s complex TARGET2 payments system, which hosts payment flows between euro zone member states, suggests there is already a good deal of risk-sharing implicit in regional structures, not to mention the exposure the European Central Bank has to peripheral debt. That shared liability may fall short of the kind of joint risk-taking foreseen for a common bond, where one country is responsible for the non-payment of debt by another.

But analysts say the build-up of imbalances in the system – as the ECB replaced private sector lending which dried up for peripheral countries – reflects the latest in a number of crisis-fighting steps that have increased regional integration.

Euro zone may struggle with its own Lost Decade

Additional Reporting by Andy Bruce and polling by Rahul Karunakar and Sumanta Dey.

As Europe’s crisis drags on, the prospect of a Japanese-style lost decade of economic malaise is becoming increasingly real, according to a new poll. Half of the bond strategists and economists surveyed by Reuters are now expecting just such an outcome.

Many market participants have dismissed the fall of two-year German bond yields below their Japanese counterparts as being merely a result of a crisis-fueled flight to quality bid. Two-year German yields are now close to zero, offering returns of only 0.02 percent. By contrast, equivalent Japanese bonds are yielding 0.11 percent.

Greek political poll tracker

Greece faces another election on June 17.  Although they reject the austerity required by the bailout, most Greeks want their country to stay in the euro. However Frankfurt and Brussels say it is impossible for Greece to have one without the other: no bailout means no euro and a return to the drachma. Whether the Greek people believe these warnings could have a big impact on the election result.

First place comes with an automatic bonus of 50 seats, meaning even the slightest edge could be pivotal in determining the makeup of the next government.

Click here for an interactive chart showing the latest polls:

 

Risk of contagion if Greece exits euro: WestLB

What happens if Greece leaves the euro? No one can say for sure. But John Davies at WestLB, finds it difficult to envision a benign outcome.

Greece’s economy, at around $300 billion, is very small compared to the euro zone as a whole. The problem is if other countries follow suit – or are pressured in that direction by stubborn financial markets.

Such a scenario doesn’t bear thinking about because it is so horrible.

There is a good chance that the market would immediately trade Portugal towards pre-debt swap Greece levels. The next in line would certainly be Ireland and Spain.

“There are human beings involved” in austerity debate

The inventors of democracy and its greatest 18th century champions both go to the polls this weekend. Greek and French voters will try to elect governments they hope will help release their economies from the grips of the euro zone debt crisis.

While exercising their democratic vote, Europeans will also be contemplating another key issue: their basic economic survival.

That is why the debate about austerity versus growth has become so important.

Financial markets see fiscal discipline as crucial to get the euro zone’s debt burden back to sustainable levels. They are going into the Greek elections favoring triple-A rated bonds over peripheral counterparts.

Dr. Doom goes to Beverly Hills

When it comes to predicting a dark future, Nouriel Roubini – the NYU economist who earned the moniker Dr. Doom after he correctly predicted the financial crisis – is not about to let anyone get in his way.

Even if it’s his host. And even, or maybe especially, when there are 500 witnesses.

That’s precisely what happened Wednesday morning, when Michael Milken – the former junk-bond king – shared the stage with Roubini at Milken’s Global Conference. What was billed as an interview in one of the Beverly Hilton’s grand ballrooms had the feel of a pitched battle.