Market impact
S&P’s report is the most honest, politically incorrect report on the Eurozone debt crisis I have seen in a long, long time. It could increase the focus on how the policymakers continue to throw liquidity at a solvency issue and also underline how focus on austerity can leave us all worse off, as we can not save ourselves to prosperity.
In practical terms this means the European Financial Stability Facility is 90 percent dead – its leverage is now so small it makes no sense, hence the European Stability Mechanism will be moved further forward on the agenda in the March EU Summit, but it will also mean huge pressure on Germany to pay more, and to increase the EUR 500 bn. limit in place for the combined EFSF/ESM.
This will not go down well in German domestic politics and it will create an even bigger gap in the Franco-German alliance.
The downgrade of France changes the relationship from one of equals to one of older sister to younger brother. The dynamics could mean Sarkozy has to fight harder in the upcoming French election. I could easily imagine Marie Le Pen gaining momentum in the next few months on a strong anti-EU and anti-Sarkozy platform.
EUR/USD should open lower on the uncertainty and everything being equal (the favourite economist speak): it will put upward pressure on yields in Spain and Italy.
The main effect though could be more honest dialogue about the real reasons for the crisis in Europe and hence leave us better off as talk finally centres on reality rather than hope. Effectively S&P did what it was supposed to do: It ignored the “Powerpoint presentations” from the EU and looked only at the accounts. The accounts speaks clearly for temselves – no progress, no real plans and only savings making the board meetings.
Some headlines from me:
* A deepening of the crisis – (We believe it remains a real one as long as uncertainty about the bond buyers at primary auctions remains… i.e: only one buyer – the European Central Bank)
* Further risk from Greece restructuring deals which broke down: http://www.bbc.co.uk/news/business-16553532). “We do not believe that private-sector involvement will necessarily be a one-off event in the case of Greek restructuring and would not be sought in possible future bail-out packages in the future case of sovereign insolvency or prolonged loss of market access.”
* EU Summit in December: “In our opinion, the political agreement does not supply sufficient additional resourcesor operational flexibilty to bolster European rescue operations, or extend enough support for those Eurozone sovereigns subjected to a heightened market pressure” – I.e: Nothing new, more of the same…
* EU Summit also underline how one-sided the approach is from policy makers: “..as much a consequence of rising external imbalances and divergences in competitiveness between EMU’s core and the so-called “periphery”. As such we believe that a reform process based on a pillar of fiscal austerity alone risks becoming self-defeating, as domestic demand falls in line with consumers’ rising concerns about job security and disposable incomes eroding national tax revenues” – i.e: You can not save yourselves to prosperity and too much focus on austerity only increases the short-burden of society.
* Financial solidarity among member states appears to us to be insufficient to prevent prolonged funding uncertainties. (Ouch Germany/Holland/Finland – Either you are in a club or not! Then they move on to point out this is a crisis of solvency not liquidity)
* Spain and Italy are more likely than not to deteriorate despite good efforts on their domestic agendas. That’s being diplomatic for: They are trying, but fundamentals are clear….On ECB intervention in bond markets: “Recent Italian and other primary auctions suggest to us, however, that banks and other investors may still only be willing to lend longer term to governments facing market pressure if they are offered rates that, all other things being equal, will make fiscal consolidation harder to achieve” – Wow – classic Catch-22. The price of getting financing bigger than benefit!
* A 40 percent chance of deep and prolongued recession in Europe and GDP reduction of 1.5 percent for 2012 is likely (But hang on my “friend” Draghi who has just been telling me and the media that all is fine??????). S&P is below consensus which is -0.2 pc and ECB @ +1.0 percent.
* Then they move onto pointing out the risk of social tension by pointing to “powerful national interest groups, whose restistance could potentially jeopardise the reform momentum and impede the recovery of market confidence.
* EFSF: We are currently assessing the credit implications of today’s Eurozone sovereign downgrades on those institutions and will publish our updated credit view in the coming days. Note how Brussels’ officials already know the score of that: http://www.firstpost.com/fwire/sp-downgrades-to-cut-efsf-firepower-boost-firewalls-in-march-181809.html
* EFSF: “We believe that the prospect of subordination to a large creditor, which would have a key role in any future debt rescheduling, would make a lasting contribution to the rise in long-term government bond yields of lower-rated eurozone sovereigns and may reduce their future market access”. Extremely valid point. The preference status of the ESM and the ECB is likely to make it harder to finance…
Steen Jakobsen
SAXO BANK