No Conviction
FX markets lack strong conviction, as the barrage of headlines coming out of the EU finance ministers meeting and from various ECB officials did not offer anything materially new. There was little reaction to press reports suggesting that Spain will be granted an extra year to reach its new deficit targets – from a projected 6.3% of GDP in 2012 to 4.5% in 2013 and 2.8% in 2014. In return, the Spanish government will reportedly pledge a EUR30 bn package of spending cuts and tax hikes (of which EUR10 bn will be targeted for this year) to be announced on Wednesday. Also part of the deal could be closer monitoring of Spanish reform efforts, not to mention a ‘bad bank’ to house toxic assets from the banking sector. The proposals will be formally presented to the EU’s finance ministers on Tuesday, with the aim to have a final loan agreement hammered out on July 20. EURUSD stayed in familiar ranges on both sides of the 1.23 level, while 10-year Spanish government bond yields revisited the 7% threshold and equities lost ground – serving reminder that bolder action will be necessary to generate a bigger sense of relief in the markets. Differences of opinion clearly persist on the ultimate role of the ESM, prompting German Finance Minister Schaeuble to try to set the record straight by warning that it will “take time” to establish a European bank supervisor – and critically, only once this entity was fully in place would the door potentially open to direct bank recapitalisations. ECB Executive Board member Praet went so far as to suggest “the Eurozone crisis is now much more profound and more fundamental than at the time of Lehman”. Sovereign ratings cuts for the Netherlands and Austria by Egan-Jones underscored the risks, but also had little FX impact. Dovish comments from the Fed’s Rosengren and Evans were followed by assertions from San Francisco Fed President Williams that “if further action is called for, the most effective tool would be additional purchases of longer-maturity securities, including agency mortgage-backed securities”. Apart from another meeting of EU finance ministers, Tuesday’s spotlight will be on the German constitutional court, which will initiate proceedings on whether the ESM is consistent with the German law. A negative ruling here, though unlikely, would further damage sentiment towards the euro.
Click here to read the full report: UBS Morning Adviser Asia
UBS Investment Bank