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Euro´s Arm Wrestle

The last few days have been dominated by discussions over the restructure of the Greek debt. Greece´s prime minister, Alexis Tsipras, and its Finance Minister, Yanis Varoufakis have been touring Europe searching for new supporters.

On Monday, Mr. Varoufakis uncovered a proposal to swap Greece’s maturing debt for two new debt instruments; perpetual and growth-linked bonds. Markets seemed to react positively after the announcement; Greece was already abandoning its demands for a write-down on its debt and looking for more constructive solutions.

But the good mood did not last long in the Eurozone. The ECB nor Germany seemed amused by Mr. Varoufakis´ proposal. The ECB has announced that it will stop accepting Greek Bonds as collateral for new credit if Greece does not comply with the bailout terms, a measure which effectively closes an important line of credit available to Greek banks. This, together with the withdrawal of around 11 billion Euros from Greek deposits in January alone has not helped financial institutions in the Hellenic country. Nevertheless the European Central Bank will allow the Greek central bank to provide as much as 59.5 billion euros in emergency funding which will help alleviate the situation.

Each side is playing its cards. Germany knows that the longer they avoid sitting at the table with the Greeks, the more desperate Tsipras will be to strike a deal; (Greece could run out of cash by the end of the month) in the end, a vast majority of the Greeks want to stay in the Euro.

On the other hand, the conflict between Greece and its creditors is polarizing the Greek public, which has suffered considerably since the first bail-out in 2010. On Thursday 5^th some 7000 Greeks demonstrated against the “European blackmail”, backing its government. After all, there is nothing like an external enemy to unite a nation behind its leader.

It is in the interest of both the Greek government and its international creditors to get to an agreement, but differences seem large and time too scarce; a Grexit cannot be ruled-out at this point.

Uncertainty will surely reign the markets in the coming weeks. Now it is the time to expect the unexpected. If pushed enough, Tsipras could for example hold a referendum on the proposed deal or look for other unconventional solutions; what if he asks the Chinese for the financing Greece needs? Germany´s position looks easier than Greece´s at the moment, but if a Grexit actually happens, Greece will subsequently not pay its debt and that would be ugly for the Germans too.

 

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Syriza In… Greece Out?

Following Syriza´s victory during the long awaited Greek elections on Sunday 25^th, we were able to witness a sharp increase in the value of the Euro. This outcome seems counter-intuitive, considering that these last few weeks many things have been said and some went as far as to openly discuss the possibility of Greece being pushed out of the Eurozone.

Taking this into account, two key events could be seen as the main cause.

Firstly, on Thursday 15th the European Central Bank (ECB) announced its substantial QE program, which was larger than expected. It caused the Euro to strongly depreciate; the single currency was trading as high as 1.1651 on Thursday before dropping as low as 1.1114 per US Dollar on Friday. It was to be expected that the EUR would slightly recover after having been under such bearish pressure.Some traders may have decided to close in some profits and lighten their short EURUSD positions.

Last week some high-ranked officials from Greek creditor countries were talking about the possibility of a Grexit if Syriza came to power. This was seen by many commentators as an attempt to interfere and influence the Greek electoral process towards pro-austerity parties.

Creditors´ “threats” may have made sense before the election (leaving moral and democratic considerations aside) but now that Syriza´s victory has been concretized the situation is quite different. An actual Grexit will leave Greek debtors worse-off than if a restructuration of the debt was to be put in plan.

On the other hand, a vast majority of Greeks want to stay in the Eurozone, thus Syriza has also strong incentives to engineer a deal. The new Greek government will have to leave aside some of its most radical demands but the creditors will also have to be flexible and renegotiate some of the terms of the bail-out, as Syriza´s victory was cemented on its anti-austerity program and will not renounce to some kind of concession. After all, Greek events are not as dramatic as they have been pictured lately.

Bulls left the marketplace for two days last week, however, it seems that they are fighting the bears back now, even though they still seem weak. Nonetheless, what seems certain is that volatility is back and will remain for a while. Once again the markets have proven that in order to be a respectable trader it is not enough to be a good statistician or economist, you also need to have an adequate understanding of political science and sociology.

 

Will QE save Europe?

The ECB will unveil its QE program tomorrow, but will it work?

The QE program is aimed at kick-starting the Eurozone economy by injecting money into the economy. The ECB will buy assets hoping the credit will flow again which would in turn reactivate economic activity, employment and consumption. This seems to have worked in the US, so why not in Europe? Many articles have been written on the perks of adopting a QE program by the ECB, so let´s take a look at the reasons why it may not.

Big corporations dominate in the USA, SMEs do in the Eurozone. Two thirds of workers and more than half of the value-added created comes from small and medium-sized enterprises (SMEs) in the Eurozone. In the US, SMEs account for less than half of the jobs, and also less than half of the GDP creation. Furthermore, the definition of SME is different, in the US a SME is an enterprise with less than 500 employees; in the EU less than 250, so this difference is in fact higher.

During its QE program, the Fed bought large amounts of corporate bonds, therefore helping big corporations to borrow cheaply and directly helping in the job creation. The action of the ECB in the corporate bond market will be much more limited. Draghi can only hope for credit to be made more readily available to SMEs, who do not have the possibility to access the corporate bond markets and rely on retail banks for funding. Even at record low interest rates (the ECB actually charges for deposits) banks have been reluctant to lend to SMEs; capital requirements of such loans are greater and SMEs risks (in theory) harder to measure than those of, for example, government bonds. This leads as to our last point; QE will lower borrowing costs of Eurozone governments further, which can lead to complacency and push-back of required but politically costly reforms by politicians.

Let´s hope the ECB gets it right this time.

 

Misleading Guidance

January 15, 2015 4 views Share on google_plusone_shareShare on facebookShare on twitterShare on linkedinShare on emailMore Sharing Services
On 15th January 2015 the Swiss National Bank (SNB) shocked the currency markets by removing the cap on the Swiss franc that did not let it appreciate further than 1.20 francs per euro. Just last month the SNB declared to defend the cap with the “utmost determination”.

Swiss stocks tumbled and the franc appreciated as much as 41% against the Euro according to Bloomberg. The main exporters of the nation were taken by surprise and expressed their concern about the consequences. The question that many may be asking themselves is: why has the SNB taken such a radical measure? After all we are in a time when every central bank tries to smooth volatility, where “forward guidance” is the ultimate tool in the central bankers’ toolbox.

A reading that many economists are giving to this measure is that a full blown QE by the ECB is imminent and the SNB is getting ahead, as is not ready or does not want to expand its balance sheet as much as it would be necessary to maintain de 1.20 cap.

It is too early to tell what will be the price level of the franc in the next weeks, but what it is certain is that you should have bought your watch and chocolates at Christmas.

 

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