Last week's European leaders summit will produce neither fiscal union, nor eurobonds, nor quantitative easing, nor anything "to address the fundamental imbalances in the euro area," according to Kames Capital's head of strategy.
Last week’s European leaders summit will produce neither fiscal union, nor eurobonds, nor quantitative easing, nor anything “to address the fundamental imbalances in the euro area,” according to Kames Capital’s head of strategy.
William Dinning (pictured) said: “We are not going to get to fiscal union from this summit, nor, in my opinion, anytime in the next several years.
“In my view, this means we are not going to get a genuine eurobond either.”
He draws this conclusion because “logically, a eurobond cannot be issued by anything other than a sovereign entity senior to existing sovereign states in Europe”.
While Germany, a successful Federal government, may be “happy to move in that direction without any political angst particularly on its own economic terms”, the rest of Europe would be slow to follow, and Great Britain’s leader David Cameron would not, Dinning added in research published by Kames Capital today.
“The creation of such an entity cannot be done without democratic approval, so I am deeply sceptical we will see it. It’s one thing to tinker with the workings of an existing compact between government and its citizens. It’s totally another thing to abrogate sovereignty to another entity without seeking democratic approval of the new compact.”
Dinning noted last week’s meeting did produce some good results.
A €500bn European Stability Mechanism that will now take over from the €440bn European Financial Stability Facility in July 2012, rather than in 2013.
ESM policy decisions only needing an 85% majority – though Finland still wants unanimous ballot.
The EU gives the IMF €200bn of funding – 75% from eurozone central banks, the other €50bn from non-euro EU central banks – to encourage external investors to join in.
Cyclically adjusted deficits being capped at 0.5% of GDP, with only countries having debt:GDP levels under 60% able to run larger budget deficits.
And independent reviews of national budgets by the EU.
Dinning added also, the ECB may support eurozone debt markets in coming weeks, and pointed out Draghi widening collateral eligibility for national central banks last week, to include bank loans, “allows the ECB to fund the entire banking system. That it has to do this underlines how desperate and widespread the situation is in the eurozone, and how it is still deteriorating.”
Expect eurozone banks to de-lever as quickly as possible – “not good for the economy”.
With the ECB supporting their banks, Dinning is positive the bloc’s indebted nations will survive their required debt refinancings through to April.
But ECB printing much more money to buy up debt will prove a step too far, he said. ECB president Mario Draghi and German chancellor Angela Merkel both agree on this.
“Quantitative easing involves buying something that investors want to own, and urging them to go and buy something else instead. The only way the ECB can be said to be engaging in QE is if it comes into the market and buys German Bunds.”
Even after investors shunned 35% of €6bn of German debt at November’s Bund auction, Dinning said the situation would have to be “a hell of a lot worse than they are at the moment for Germany”, for Merkel to allow the ECB to soak up her country’s sovereign borrowings.
“We have to be realistic about what we can expect from the ECB. Interest rate cuts? Yes. Buying of peripheral debt? Yes. Support for the financial system? Yes. QE? No.”
But the bloc’s key underlying problem in Dinning’s view – and a dilemma Friday’s meeting did too little to address – is one of “fundamental eurozone imbalances [that] the current policy mix is doing nothing to address.
“For one thing, all the focus is on debtor countries to engage in austerity. There is no sign of creditor countries participating by offering to boost domestic demand and help provide an outlet for the debtor countries.
“Without this being a genuine ‘we’re all in this together’, it is simply unsustainable,” Dinning said.
“The best we can hope for in my view is a return to acceptance that we can muddle-through in Europe with no great systemic collapse.
“So, support provided to Greece to prevent it leaving the euro area even if it has to revalue its debts.
“We will also see support for the rest of peripheral Europe through ECB purchases of its government bonds.
“And the ECB has already showed willingness to provide considerable support to the banking system.
“But, although there may be some relief that we avoid some of the worst case scenarios, the cyclical backdrop is going to be very challenging indeed.”