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business newsEurozone Watch: Italian-Inspired Market Panic Pauses, Awaiting Thursday's Greece Summit
By
Matthew Mallon
Jul 19, 2011 11:15 am
But this is a temporary moment of calm, with chances slim that the emergency meeting can halt European contagion.
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Italian and Spanish bond yields, which on Monday had been creeping up inexorably past record highs on their way to the red-line 7% mark -- at which point all bets are off and contagion will have well and truly spread to Europe’s third and fourth largest economies -- slowed their ascent. The euro itself recovered slightly, while gold (reaching $1,607 an ounce) and the Swiss franc are still seeing plenty of safe-haven action, and global stock markets eked out some gains.
But this is a fragile and temporary moment of calm. Too much currently rides on the unlikely hope that European leaders will emerge on Thursday with a bold, definitive statement on Greek Bailout II, one that will reassure markets enough to stop the contagion after months of infighting, mixed messages, and general kicking the can down the road.
So far all other measures have failed, with last Friday’s bank stress test results roundly dismissed as irrelevant to market fears, mainly because they did not include the almost certain factor of Greek default. Even the remarkably swift passage of a new austerity program by the terrified Italian parliament -- which raised cuts from 47 billion euros to 79 billion -- has done nothing to ease investor nerves.
And there is still little sign of real progress on the infighting, despite sprightly words from all officials involved. At the core of the dispute is an argument over private-sector involvement in the rescue, with Germany (and Finland) committed to the idea that the private sector must bear some of the burden, while the European Central Bank remains equally adamant that any private-sector involvement that runs the risk of being defined as a default is off the table.
Among the varied possibilities being discussed as Thursday rolls closer: a transformation and expansion of the European Financial Stability Facility (EFSF), the European rescue fund -- introduced with great fanfare last year -- which recent events have rendered virtually useless. Increased to 2 trillion euros from its current 440 billion, the fund then would be used to buy Greek sovereign bonds from overexposed financial institutions.
This secondary market solution would face considerable opposition from elements such as Germany’s Free Democratic Party, the junior member of Angela Merkel’s ruling coalition, and would entail a state-by-state rewriting of current legislation. It also still runs the risk of being declared a default by credit agencies. To avoid that painful, parliament-by-parliament crawl, another spin on the EFSF solution is simply to allow it to lend Greece the funds to buy back its own debt at less than nominal value but more than current market value. Also being discussed: a controversial bank tax, which might be able to raise 30 billion euros over three years, while satisfying German desires for private sector involvement.
But it is unlikely that there will be any definitive agreement on such convoluted measures by Thursday. Expect strongly worded statements of unity and commitment to the euro at worst, and an extension of the current bailout loans to Greece, Ireland, and Portugal, with interest rate cuts on those loans, at best. The next couple of days should see much backroom maneuvering in an attempt to lower expectations for Thursday’s summit.
Meanwhile over in Ireland, as the Wall Street Journal points out, despite stellar performance and economic good news since its bailout, the failure of the markets to relieve that country’s debt costs -- “instead of falling, the yield on Irish government bonds has surged” -- emphasizes an uncomfortable truth: None of the bailouts so far have worked. The problem is no longer with the PIIGS. It’s with the entire zone.
If underwhelming results on Thursday kick the panic back into full swing, it’s hard to see a safe way out of the crisis. Look at the following list to see a quick snapshot of just how terminal Italian contagion would be:
- Irish state debt: 148 billion euros
- Portuguese state debt: 161 billion euros
- Greek state debt: 329 billion euros
- Spanish state debt: 639 billion euros
- Italian state debt: 1843 billion euros
No positions in stocks mentioned.
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