The significance of yesterday’s events is historic. Even before the start of the single currency, it was presented as irrevocable, with no way for a country to leave once it is a member. That has also been part of the problem. Without the ultimate sanction of expulsion, member states have been free to ride roughshod, binging on low interest rates and easy credit. Of course, Greece was not the only culprit.
But yesterday, the French and German leaders recognised that the Greek referendum, even if not worded that way, was ultimately a choice of whether to remain in or leave the euro. Whilst this is a monumental shift away from doing all they can to support Greece, there is also an air of inevitability around it. Since the crisis started, the choice has always been a degree of fiscal integration or some sort of break-up. Germany has vehemently opposed the former, so we are now seeing the latter.
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Not surprisingly, the EUR 8bn EU/IMF loan tranche payment has been halted (was due to be paid in the next week or so), so if there is a no vote, then Greece will default by the end of December, unable to pay the EUR 8.2bn of bond redemptions or rollover the EUR 4bn of maturing t-bills. Before then, there’s a confidence vote tomorrow in the Greek parliament and today’s ECB meeting.
Commentary
The ECB has nothing to gain from waiting. Today is the first meeting of the European Central Bank with Draghi as President and it boils down to a choice. The case for a rate cut is pretty overwhelming. Indeed, the rationale for rate increases in April was fairly weak in our view and non-existent in July. But it’s whether Draghi wants to wait a month, settle in and steer markets towards a move – ‘Trichet style’ – or cut rates at his first meeting and risk being seen as impulsive. We strongly believe that rates should be cut today. The one lesson of the crisis that Europe should have taken on board is that there is no value in waiting. Indeed, there are huge costs, as we have seen in the past 12 hours. The same holds true for central banking. There’s no gain in waiting and it was clear from Trichet’s choice of words last month that there were those that would have preferred to cut rates then. Trichet described the decision as being reached by “consensus” rather than being ‘unanimous’ as has nearly always been the case previously.
EFSF strife. The European Financial Stability Fund yesterday cancelled a planned EUR 3bn bond sale, delaying it “due to market conditions”. But waiting could be costly, because the price that the EFSF has to pay to borrow in the markets has risen dramatically in recent days. At the end of June, the EFSF could borrow at 80bp over the cost of German borrowing. It’s now 150bp, having increased 30bp over the past week. This comes at the same time that roadshows are being held in Asia to pull in investors for further issuances to cover the bailout agreed last week. Overnight, China’s Vice Finance Minister said it was “too soon” for China to discuss further bond purchases from the EFSF. Just as the EU/IMF have suspended payment of their next loan tranche until after the early December Greek referendum, it’s difficult to see the EFSF being able to raise any more funding until the referendum as well.
Fed meeting has further stimulus on the table. The FOMC meeting yesterday was overshadowed by the G20 and Greek events, but Fed Chairman Bernanke stated that additional stimulus “remains on the table”. The statement in the wake of the meeting outlined that there were “significant downside risks” to their outlook for growth. The pledge to keep rates on hold until mid-2013 remains in place, so long as inflation remain high and inflation subdued.
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