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Europe's Debt Crisis: Forgotten But Not Gone

Sunday, 15 May 2011 05:45 PM

The euro zone debt crisis is a story that just will not go away, a drip-drip water torture that investors and financial markets cannot ignore.

So while investors may want to focus in the coming week on issues as diverse as UK interest rates, highly volatile global commodity prices and U.S. capital flows, they are likely instead to find Europe's debt conundrum forcibly distracting them.

The week brings with it a series of meetings that will be dominated by the question of Greek bond restructuring and the overall problem of out-of-control debt in euro zone economies including Ireland and Portugal.

Euro zone finance ministers meet on Monday before a gathering of the full European Union contingent on Tuesday.

These are followed a day later by an economic forum attended by a gaggle of the debt saga's key players -- including European Commission President Jose Manuel Barroso and German Finance Minister Wolfgang Schaeuble.

An unexpected complication for financial markets will be the arrest on sexual assault charges of International Monetary Fund chief Dominique Strauss-Kahn.

A Greek official told Reuters that Strauss-Kahn's arrest "might definitely cause some delays in the short term" but would not change the IMF's policy on Greece.

Even such short-term delays risk causing some jitters in financial markets, increasing the steep premium that Greek bond yields offer over German ones and raising the cost of buying protection against default.

David Buik, senior partner at London-based inter-dealer broker BGC Partners, said Strauss-Kahn's arrest could have a short-term negative effect on the euro but added that the IMF's economic restructuring work may not be impeded much.

"It may rattle the market's cage a little bit and the euro may come off a cent or two, but organisations such as the IMF have got a pretty deep infrastructure in place," said Buik.



Even before Strauss-Kahn's arrest, it was an odds-on bet that the crisis -- which essentially comes down to near-bankrupt countries sharing a currency with exporting giants like Germany -- would not be solved at any of the meetings scheduled for the coming week.

It is in the nature of water torture, after all, that the drip-drip continues.

But the whole process of trying to bring Greek, Irish, Portuguese and other debt under control is a slow one, involving long-term austerity programmes, guarantees that need tweaking from time to time and the agreement of 17 euro members, all 27 EU members and some outsiders like the IMF.

Nowhere is this clearer than in the current debate over whether Greece should restructure its debt -- either through extending maturities, lowering promised interest rates on bonds, or just reneging on the repayment of the full amount borrowed.

A Reuters poll in the past week showed the vast majority of fund managers and economists believe Greece will restructure, although very few expect it soon.

European politicians, in the meantime, often seem to be saying one thing publicly and briefing something else privately.

The result is that markets are haunted by what rattles them most -- uncertainty.

"It almost seems as if it needs a disaster before the policy makers take a decision," said Sanjay Joshi, portfolio manager at London & Capital. "It makes it extremely difficult for the market to get a clean slate and move forwards."



Market reaction to the crisis so far has been relatively contained to the debt of a few weak economies on the euro zone's periphery and the odd euro wobble.

This is possibly because the core euro zone economies have been doing so well -- Friday's data showed roaring performances by Germany and France in the first quarter.

But investors argue that the uncertainty does add to the strength of other brakes on investor sentiment.

The latter include concerns about central banks shifting from plentiful-money policies towards higher interest rates.

Minutes from the Bank of England's last meeting should give some notion in the coming week of how close Britain is to following the European Central Bank in tightening.

U.S. TIC data for March -- figures for capital in- and outflows -- will also be released, giving a new snapshot of the demand from China and other for U.S. Treasuries and other paper.

With the Federal Reserve set to end its own quantitative easing (QE) bond buying in late June, the data may be even more pertinent that usual for what it says about demand after QE disappears.

Investors will also be keeping an eye on commodity prices, following recent bursts of volatility, at least partly brought on by efforts in China to cool its economy.

Commodity prices have fallen sharply twice so far this month, followed by a rebound -- a sign that what had been a one-way bet may no longer be one.

© 2018 Thomson/Reuters. All rights reserved.

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The euro zone debt crisis is a story that just will not go away, a drip-drip water torture that investors and financial markets cannot ignore. So while investors may want to focus in the coming week on issues as diverse as UK interest rates, highly volatile global...
Sunday, 15 May 2011 05:45 PM
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