Markets Brace For Potential Euro Crisis – Trustnodes

Markets Brace For Potential Euro Crisis


An economic armageddon might be on its way this summer especially in Italy where they have stagnated for the past decade and saw almost no growth in 2019.

This August they are to face the market potentially without any help by the European Central Bank (ECB) following a decision by Germany’s Supreme Court that a proportionality assessment has to be presented to the German parliament by ECB.

A proportionality assessment that is most political for they have to state out the effects of central bank government buying on “public debt, personal savings, pension and retirement schemes, real estate prices and the keeping afloat of economically unviable companies.”

Germany’s supreme court in addition has limited ECB’s purchasing power to 33% of total government debt, which in Italy currently stands at 135% of their $2 trillion economy.

This proportionality assessment has to be given within three months, meaning by August 5th, with a number of bond auctions to happen afterwards in that month of August.

Italy 10 year bond yield, May 2020
Italy 10 year bond yield, May 2020

Froth in bond markets back in January led to “record demand,” making it stupendously cheap for Italy to raise money despite its near zero growth and massive amount of debt.

Red Monday however sent it spiking following the curfewing of Milan, with a natural dead cat so giving way to now it costing close to 2% for the Italian government.

That’s far higher than Germany, where the market is happy to pay them to give them money, and pay them 0.5% a year.

It is also a lot higher than any other euro country, except Greece, with these bonds usually issued in the national currency.

Gov 10Y bonds, May 2020
Gov 10Y bonds, May 2020

These bonds are bought by commercial banks who then upsell them to the public and more and more often to the European Central Bank which buys them by just printing the money.

That ECB ‘guarantee’ makes these a ‘safe’ investment to the point people are happy to pay frugal Germany to take their money, a Germany that is frugal because of their experience with hyperinflation last century.

Even with this guarantee however the markets want quite a lot from Italy, mindful perhaps that 1,000 lira went for around one euro about two decades ago, hence showing clearly Italy can be prone to overspending in recent times.

Without this ”guarantee’ it is not clear how much trust the market will have on the Italian government’s ability to repay them, hence setting forth the potential for a new euro crisis.

EUR/USD, May 2020
EUR/USD, May 2020

The euro has significantly fallen against the dollar, now to near parity, with obvious tensions starting to develop regarding who exactly will pay for all this ‘free’ money that europeans have been getting for the past two months.

Back in March politicians and bankers were keen to say this is not a time for ideology or to consider how exactly any of this is paid for, with the ECB thus effectively engaging in continental wide economic policy that amounts to Germans and other northern countries paying for Italians through the devaluation of the euro by ECB printing it to give it to governments through the purchase of bonds from commercial banks.

That’s until the German constitutional court said the German central bank can’t do so without basically presenting all this up for debate to the German parliament.

As it is the German central bank bearing the highest burden of buying these bonds, it can potentially translate to the ECB being unable to ”guarantee’ demand for Italian debt in August.

In extremos that can translate to bankruptcy, or Italy crashing out and hyperinflating, or the rule of law is subverted by ignoring this court judgment and the euro gets massively devalued, or Germany exits the monetary union, or political frenzy leads to some sort of a bureaucratic union as well as the monetary one where there’s an effective continental civil service, or these politicians sit down and weigh their decisions within the ordinary constrains of what measures they can afford and for how long.

Meaning if spring was tough, we should be bracing for an even tougher summer, as the economic repercussions of all this have not even began.


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