Euro plunges as Club Med debt fears spread

Wednesday, May 5, 2010
By Paul Martin

Fleeting relief over the EU-IMF bail-out for Greece has given way rapidly to a fresh bout of investor panic across southern Europe, pulling the euro down to its lowest level against the dollar in over a year.

By Ambrose Evans-Pritchard
TelegraphUK

Yields on German two-year debt reached a record low, falling to 0.71pc on safe-haven demand in echoes of credit stress at the height of the financial crisis. This is below the European Central Bank’s short-term rate of 1pc. “This is very unusual and indicates concern about systemic risk from sovereign debt,” said Stephen Lewis from Monument Securities.

German Chancellor Angela Merkel told ARD television that banks and creditors should be forced to share the pain if further rescues are ever needed, suggesting “an orderly restructuring” of debt in future.

The words were an icy warning to investors that the €110bn (£95bn) aid package for Greece is a one-off case. Banks, insurers, and pension funds with high exposure to Club Med debt cannot count on a second rescue to protect their portfolios if the crisis spreads.

“This is dangerously ill-timed,” said Marco Annunziata, of UniCredit. Jacques Cailloux from RBS said a surprise move by the ECB to waive its ratings requirement for Greek debt amounts to monetary easing, saying the bank had moved a step closer its nuclear option of buying eurozone bonds to stabilise debt markets. “Desperate times call for desperate action. The ECB should not wait for a renewed deterioration before acting. Should contagion reappear, there will simply not be enough time. Better to break up the rulebook than to break up the euro area,” he said. Signs that the ECB is abandoning its hawkish stance drove the euro down two cents to $1.30.

Hans Redeker, currency chief at BNP Paribas, said the ECB’s move on Greek collateral horrified Germans and guarantees their constitutional court will hear a case challenging the rescue. “This is no longer the old Bundesbank. They have bent the rules under political pressure to help one country. Besides, it is causing spillover to other countries,” he said.

Yields on Portugal’s 10-year bonds jumped 28 basis points to 5.39pc; Irish yields rose 16bps to 5.27pc; Spanish yields rose 9bps to 4.11pc. Spanish premier Jose-Luis Zapatero denied wild reports that Spain would soon to tap the IMF for €280bn, describing the claims as “absolute madness”.

The Madrid bourse plummeted 5.4pc, led by falls of over 7pc in the shares of Santander, BBVA, and other Spanish banks. Data from the Bank for International Settlements shows that Spanish banks have $86bn of exposure to debt in Portugal, seen to be the weakest link after Greece.

Yields on Greek bonds spiked 67bps to 9.17pc, disregarding the rescue. “Markets are asking where Greece will be at the end of this story,” said Mr Lewis. “What the IMF data tells us is that the country will be in a worse position at the end of three years with debt of 150pc of GDP, even if it complies with every demand. The country has no way out. Most of the major IMF bail-outs involved both a currency devaluation and a debt restructuring, but neither can happen in this case because it will destroy EMU.”

It is far from clear in any case whether the Greek people will tolerate a squeeze in fiscal policy of 16pc of GDP without an offsetting cure, knowing that creditors have so far been bailed out entirely. The Acropolis was occupied by Communists on Tuesday. There will be a general strike on Wednesday.

Stephen Jen from BlueGold Capital, said the Greek rescue “kicks the can down the road” for three or six months but will not prevent a default in Greece and “probably Portugal”. “Greece’s bonds are ‘Zombie Bonds’ and can only be artificially and temporarily propped up,” he said. Italy and Spain are safe only if they “use their time well”.

Mr Jen said the handling of crisis has greatly tarnished the euro as a reserve currency. “The structural integrity of EMU, the euro, the ECB, and the IMF has been weakened, in exchange for temporary safety of Greek bonds. This is a huge price to pay to save a not-very-deserving country,” he said.

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