Monday, June 18, 2012

Euro Mess

Last week, bad news was good news. Indeed, Friday’s WSJ included a story titled “Bad News Sparks Blue-Chip Rally.” This week starts off with mixed news out of Europe as Greek voters gave a very narrow victory to the pro-bailout coalition. I’m putting a checkmark on my June 5 “Checklist for Optimists,” in which I wrote that the Greeks might stay in the euro zone after all.

The French voted for more socialists in parliament. That might increase tensions with Germany, making it even harder to clean up the Euro Mess. Or it might allow French President François Hollande to be a more pragmatic socialist since he won’t need any support from the ultra-left for his policies. The good news is that central banks are ready to provide more sangria and ouzo to keep the party going. Furthermore, Sunday’s NYT reported that ECB President Mario Draghi is working with other European leaders on yet another Grand Plan to “quickly quell the crisis.”

Last week started out with plenty of bad news when the market sold off sharply on Monday as investors concluded that the bailout plan for Spain’s banks would worsen Spain’s sovereign debt crisis. The news out of Europe continued to worsen over the rest of the week, and the Spanish bond yield rose closer to 7%. (It is north of that level this morning at a new euro-era high.) Late Wednesday, Moody’s downgraded Spanish government debt by three notches, just above junk. Later in the week, the news out of the US was also bad, and it got worse in Europe too:

(1) UK exports drop sharply. On Friday, the UK reported that the goods and services trade deficit soared to £4.4 billion in April, up from £3bn in March, as exports to the euro zone plunged. April’s trade gap was the highest since August 2005 and the second widest since comparable records began in 1992. The increase was driven by an 8.6% drop in exports, including a 6.8% fall in exports to the EU, the UK’s biggest trade partner. However, the decline in exports to non-EU countries was even sharper, with a 10% drop to £11.8bn as markets such as China, the US, and Russia bought fewer cars and pharmaceuticals.

(2) Merkel says "nein" again. Meanwhile, European leaders seemed intent on blaming each other for the Euro Mess rather than on working together to clean it up. On Thursday, German Chancellor Angela Merkel stated that Germany is the euro zone’s “anchor of stability and growth engine.” However, in her speech before the German parliament, she declared, “Germany’s resources are not unlimited.” She once again forcefully rejected the “apparently simple ideas about mutualization” of debt. The German Chancellor then publicly stated her concerns about the competitiveness of the French economy. Her finance minister Wolfgang Schäuble, in an interview with an Italian newspaper, criticized French President François Hollande’s decision to restore the right of some workers to retire at 60 at a time when most European countries were extending the retirement age.

(3) Deposits pouring out of Spain and Italy. May TARGET2 data came out last week for several of the euro area countries. They show that the debit balances of the central banks of Spain and Italy widened to €345bn and €275bn, while the German Bundesbank’s credit balance rose to €699bn. Over the past 12 months through May, the data suggest a total net deposit outflow of €584bn from Spain and Italy and a net inflow of €375bn into Germany. During May, the implied outflow from Spain and Italy was €38bn, while the net inflow into Germany was €54bn. April data for euro area Monetary Financial Institutions released on Thursday showed that loans to private sectors are down €103.6bn over the past seven months.

Today's Morning Briefing: More Sangria and Ouzo. (1) Greeks vote to grin and bear it. (2) French vote for more socialists. (3) Germans don’t want to pay for Greeks and French to retire early. (4) Give them some schnapps. (5) TARGET2 showing depositors fleeing Spain and Italy. (6) Merkel’s nein, nein, nein plan. (7) Extreme investing: The riskier the better. (8) Central banks ready to provide more punch. (9) Draghi’s Grand Plan. (10) Is the correction over already? (More for subscribers.)

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