The return of political risk
Feb 07, 2013
European markets wobbled this week as political risk returned. On Monday, Italian and Spanish ten-year bond yields hit highs for the year, the latter recording its biggest one-day jump in six months as slush fund allegations engulfed the government. Stocks fell by almost 4%.
In Italy, news that former prime minister Silvio Berlusconi was gaining in pre-election polls wiped over 4% off Italy’s benchmark MIB index. France’s president François Hollande urged Europe to join the currency wars. “We can’t let the euro fluctuate according to the mood of the market,” he said.
What the commentators said
“It would be premature to declare a new flare-up for the euro crisis”, said Economist.com. But this week provided a reminder that “the single currency is in very vulnerable shape”. When politicians such as Hollande “start blaming markets, then you know [they’re] desperate”, said Fxpro.com. With the government having to cut back and consumers subdued, the only hope for France to bolster its disappearing growth is with exports.
But the strengthening of the euro has become a headwind. France’s exports tend to be in lower-priced goods more exposed to competition than Germany’s, so France has a lower “pain threshold” for the level of the euro, said Deutsche Bank. If world demand is growing at just over 4%, France needs a euro of $1.24. It is $1.35.
Hollande’s euro intervention call puts him at loggerheads with Germany – at a time when political instability already threatens both Italy and Spain. In Italy, the replacement of the wayward Berlusconi with technocrat Mario Monti led to structural reforms and helped restore Rome’s credibility with investors. Berlusconi’s re-emergence and a likely inconclusive election are “a recipe for instability and could be a catalyst for uncertainty in the market”, said Silvio Peruzzo of Nomura, a bank.
The potential ramifications go beyond Italy, said Economist.com. Monti’s arrival was a key ingredient in winning intervention from the European Central Bank in financial markets and German political concessions to the periphery. “What if some of these reforms and political shifts are undone?” And the Spanish scandal could derail reforms and endanger the government there, reviving worries that Spain will need a bail-out.
Upheaval in Greece, which could yet lead to its exit from the single currency, is also always a possibility. When it comes to hopes of an eventual solution to the euro crisis, “the number of potential political stumbling blocks” is enough to “drive one to despair”.
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