We said earlier in the week “aim low – avoid disappointment” and that’s certainly proved to be true. Markets have been pleasantly surprised by the statement issued overnight by EU leaders, although the euro reaction (from 1.2450 to 1.260) reflects the low level of expectations, rather than the quality of the statement.
Once again, this has come about on a German (and also Finnish) U-turn. Most significantly, debt issued to support the Spanish bank rescue is now going to be ranked alongside (rather than senior to) existing sovereign debt when the EFSF is subsumed into the ESM. This is significant, because it’s a change in attitude from the EU elite, who previously wanted to the rising claims of official sector (EU, ECB, IMF) to rank above those of the private sector.
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They then wondered why investors demanded an even greater premium to hold peripheral bonds. There were other measures with regards to banking supervision and greater flexibility on bond-buying. Just remember though, that all these measures are fire-fighting. On the means by which the longer-term viability of the eurozone would be secured (some form of common bonds, greater fiscal union etc.), there were few visible signs of progress. Furthermore, deals made in the middle of the night are usually picked to pieces in the cold light of day and there are plenty of questions still to be answered with regards to this latest one. The clock is ticking on the post-summit rally.
Commentary
Japan economy stalling. The wealth of data released overnight in Japan showed an economy stalling in momentum, whilst at the same time still being trapped in the quagmire of deflation. Industrial production was down over 3% in May, with the preferred measure of inflation (ex-fresh food) back into negative territory once again. The positive from the data were the slightly better than expected jobless rate (down to 4.4%) and the stronger than expected outturn on housing starts (9.3%), but the inherent volatility in that measure precludes getting too excited about it. In other news, a survey has shown that spending on drinking by Japanese men has been cut to the lowest level for 14 years.
Soggy sales in Germany. Germany has often been singled out for not spending enough. The other side of the current account deficits in Spain and elsewhere is the surplus in Germany. But there are few signs of this happening. The May retail sales data, released this morning, shows sales falling on a monthly basis and so far this year, retail sales have declined 0.4% on an inflation adjusted basis. The GDP data also showed the wider measure of household final consumption spending running below 1%.
Month end drama. Just be aware that this is the last trading day of the month, quarter and half-year. It’s also the deadline for banks to meet EBA capital requirements in Europe. Combined with the likely dissection of the EU summit statement, it could be something of a roller-coaster of a day in markets. The US data is not top-tier, but it’s more going to be about portfolio rebalancing and window-dressing for banks.
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