Category Archives: Eurozone

Euro impervious to Eurozone’s political pantomime

The Euro is trading near the top of a narrow range. However, messy Eurozone politics characterised by nationalist currents are taking the shine off the region’s economic faster recovery and could ultimately act as a headwind to growth and Euro appreciation.

In Spain, Catalonia’s independence vote on 1st October has cast a shadow on Spain’s undoubted economic turnaround. In Austria, the far-right Freedom Party will likely join a ruling coalition following national elections on 15th October, re-igniting concerns about European nationalism’s ascendancy.

German Chancellor Angela Merkel’s talks with its potential coalition partner, the Free Democratic Party (FDP), have collapsed with the ruling CDU-CSU and FDP unable to agree on the formation of a majority government which would also include the Green Party.  

Chancellor Merkel, who is trying to secure a fourth consecutive term, now has four options:

  1. Return to the negotiation table in the hope of forming a majority, tripartite coalition between her centre-right CDU-CSU, the liberal FDP and Greens;
  2. Form a majority coalition with the centre-left Social Democratic Party – a repeat of the 2005-2009 and 2013-2017 governments – despite the SPD’s wish to be in opposition;
  3. Form a minority coalition government with the Greens, for which there is no precedent at a national level; or
  4. Push for a new set of Bundestag (legislative) elections.

Merkel said she would prefer new legislative elections over a minority government, a possible ploy to force the FDP back to the negotiating table which could backfire.

A recent opinion poll suggests that in the event of new elections, which could take months to secure, the CDU-CSU, SPD and Left Party would all lose seats while the Greens, FDP and far-right Alternative for Germany (AfD) would gain seats.

New elections could thus further sap Merkel’s credibility and make it even harder for the CDU-CSU to form a majority coalition on its own terms. If coalition talks once again failed, Merkel would be back to square one and would conceivably be under pressure to resign – a scenario which I flagged two years ago and now seems plausible even if still unlikely.

Option (2) may thus be the least unappealing for the normally pragmatic Chancellor, while the SPD and Schulz may have more to lose from new elections than the FDP and Greens.

If Option (2) remains off the table, the CDU-CSU and SPD could opt for a “confidence-and-supply” agreement, a hybrid of Options (2) and (3) providing some policy continuity. The SPD’s annual conference in the second week of December is one for the diary.

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Uncertainty threatens Euro’s safe-haven status, for now

The Euro Nominal Effective Exchange Rate (NEER) appreciated about 8% between 20th April and late-August and outperformed all major currencies. However, since its multi-year high on 28th August the Euro NEER has weakened an albeit very modest 1%.

The question is whether/when the Euro may again find favour and set new multi-year highs or whether a more acute correction looms.

Part of the answer lies in the confluence of inter-related factors which contributed to the Euro’s steady climb in the first place but have recently lost some traction.

Prior to its take-off in April, the Eurozone NEER had been one of the more stable among the majors. The Euro was perceived as neither a “risk-on” nor “risk-off” currency and the ECB tacitly welcomed the Euro’s underperformance versus its key trading partners’ currencies.

While the French presidential election in April-May was an important catalyst for the Euro’s appreciation, the seeds for its rally and accession to “safe-haven” status had arguably been sown in 2015-2016.

However, some of these Euro-positive factors have become prey to far greater uncertainty and lost traction in recent weeks, undermining the Euro’s relative appeal while the Dollar and Sterling narrative has improved somewhat.

Financial markets have in particular reacted negatively to Sunday’s German federal election and uncertainty it has generated, both at a domestic and European level.

The Euro finds itself at a cross-road and I see little scope for rapid and/or sustained appreciation until the ECB announces the modalities of an extended QE program and a new German government is in place, with the risk biased towards bouts of Euro weakness.

Longer-term, however, a number of factors could drive renewed Euro appreciation, albeit at a likely slower pace than in April-August.

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2017 French elections – They think it’s all over…it isn’t

Emmanuel Macron, the centrist founder of the En Marche! movement beat National Front candidate Marine Le Pen by two votes to one in the second and final round of the French presidential elections on 7th May, in line with my core scenario.

But for President-elect Macron (and arguably the other main party leaders), the hard work starts now. Macron is expected to appoint next week his Prime Minister and there has been much speculation.

I would expect Macron to pick a head of government and approve cabinet ministers who will not polarise political opinion. The appointment of a “rainbow government” would likely help his party – recently renamed “La République En Marche” – secure the largest number of deputies at the forthcoming legislative elections on 11th and 18th June.

If his party succeeds as opinion polls suggest – no mean feat for a party which is only a year old and currently has no parliamentary deputies – this would in turn help reinforce Macron’s position and his choice of Prime Minister. 

However, polls suggest that La République En Marche may fail to secure a majority of the 577 seats in the National Assembly.

If the party falls well short of that number, it would likely seek a loose coalition with either the Republican Party or less likely with the beleaguered Socialist Party, in my view.

The National Front is likely to cement its position in French politics but it will need to reform itself and I would expect personnel changes and policy tweaks.

Marine Le Pen fell well short of securing the presidency and this should have come as no great surprise as nationalist parties in other EU member states have also come up short.

This is in line with my view that while nationalist/populist parties may have greater influence on the political landscape they will in most cases fail to exercise true power, let alone dismantle the eurozone and/or EU.

Finally, opinion polls which predicted with great accuracy the second and in particular first round of the presidential elections, are back in favour – at least in France.

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7 reasons why Macron will become President and market implications

The outcome of the first round of the presidential elections which see Emmanuel Macron and Marine Le Pen through to the second round – as per opinion polls –  and the positive market reaction are in line with my core scenario and expectations.

I am also sticking to my forecast that Macron, who is leading Le Pen by 22 percentage points in the polls, will win the 7th May run-off to become President, which would in turn likely lead to a further albeit modest rally in the euro.

French opinion polls, which have historically been accurate in “predicting” the outcome of the first and second round of presidential elections, have Macron comfortably winning the second round.

Macron has broad cross-party political support, Le Pen does not.

Presidential candidates with a small number of elected-official sponsors, such as Le Pen, have never become president.

Macron has a reasonably high “positive ranking” in popular polls, Le Pen does not.

Le Pen seemingly does not yet enjoy broad political appeal even if she will likely perform better than her father did in the 2002 presidential elections.

The National Front won 27.4% of the popular vote in the second round of the 2015 French regional elections but only 18.7% of the seats as a result of mainstream parties coalescing against the National Front.

Elections in the Netherlands and Austria suggest that voters are not yet ready to elect far-right parties to the highest echelons of power.
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Renzi Referendum Frenzy – Storm in a brittle tea cup

All eyes are riveted to the Italian referendum on constitutional reform due on Sunday 4th December.

The “no” vote is still ahead in the polls, even if the past 18 months should have taught us to be weary of polls’ predictive powers.

The worst-case-scenario advanced centres on reformist Prime Minister Renzi’s resignation, the rise to power of the euro-sceptic Five Star Movement (M5S), a jump in Italian bond yields, the fragile banking sector and economy’s collapse and Italy’s eventual exit from the eurozone and EU.

The more likely political, financial and economic outcome from a “no” vote is perhaps less dramatic, in my view, and financial markets, including the euro, have been reasonably well behaved in the run-up to the referendum.

A “no” vote may well usher in a less reform-minded technocratic government and fuel support for the populist M5S and its leader Beppe Grillo but their path to the top will not be straightforward.

The banking sector, riddled with bad-loans and planning a recapitalisation of its balance-sheet, can ill afford the negative press a “no” vote may bring. But both Italian and eurozone policy-makers have a strong incentive to shore up Italian banks and the economy, even if posturing may precede an eventual solution.

The ECB may well extend its QE program at its policy meeting on 8th December in order to help alleviate any stress in eurozone markets but I don’t expect other major central banks to follow suit with monetary policy loosening of their own near-term.

Finally, while the future of the eurozone and EU has been written off many times, I don’t envisage Italy being the trigger for a break-up of either. Read more

Euro weakness, uneven eurozone exports

The growth of eurozone exports in April-May was modest, rather than spectacular, and uneven across individual euro-member states. While a cheaper euro has likely helped boost peripheral eurozone economies’ exports and this may become more obvious in forthcoming data, other factors – including weak emerging market demand – are clearly also at play. Read more

ECB wins first battle but long war ahead

It could only be a chart on the ECB’s announced QE program and hopefully the table below clarifies who will be buying what kinds of assets and in what size.

The initial market reaction – a fall in eurozone yields and euro and a jump in equities – suggests that the announcement has surpassed expectations – expectations which had admittedly been massaged over recent weeks. Read more

Draghi, get to the chopper

In the 1987 hit movie Predator, Major “Dutch” Schaefer, played by muscle man Arnold Schwarzenegger, orders his team-member to “get to the chopper” to escape the jungle creature. Markets now expect European Central Bank President Mario Draghi on 22 January to flex his monetary muscles and save the day by jumping into his metaphorical helicopter and throwing huge amounts of cash at the Eurozone’s problems. Read more

European Central Bank QE: A little late to the party

The ECB meets on 22 January and with Eurozone inflation having turned negative and growth stalling, there is a high probability it will announce a fully-fledged bond buying program. Its immediate goal will be to cap peripheral bond yields and systemic risk ahead of Greek elections on 25 January. Ultimately it will be tasked with staving off deflation and generating jobs – a tall ask for a measure of last resort which by definition has its limitations. Its effectiveness will depend on its size – likely to be around €1 trn – and modalities but will be curtailed by its late timing. For EUR/USD it likely means further downside in coming months, in my view. Read more