It finally happened. There have been many insightful articles over the last decade, and indeed even preceding the inception of the euro, which have postulated that countries exiting Project Euro was a possibility and indeed a probability. The one size fits all concept for a disparate group of countries with different levels of economic development, and vastly differing cultures, was always viewed with suspicion by astute observers. But over the last decade we have seen an unstoppable expansion of the great European project with eastern expansion… until yesterday evening. The Greeks voted, and they said no! No to continued austerity, no to multi-generational penury, no to the terms of the bailout. It’s difficult to ascertain what the long term consequences for the Eurozone will be, and it is commonly accepted that the Greek situation is unique, but you can’t help but wonder if the political calculations of fringe groups within the Eurozone will be forever altered by events on the south eastern edge of the Eurozone. And who knows, whether joining the Eurozone might be less appealing to those who are not yet in.
What will Eurozone leaders do now? We will surely get a chance to see firsthand if the firewalls the ECB has put in place are as water tight as they claim. My best guess is that there is a minimal risk of contagion. Any banks who still have significant exposure to Greece have only themselves to blame, but one can’t imagine that risk sentiment will recover quickly. This morning European stock exchanges are down as one would expect. This is a tough time for the Greeks, my heart goes out to them, but it is also a time of great opportunity. Freed of the straight jacket of creditor demands, Greece could forge ahead and make its own future. This probably means a return to the drachma (New Drachma?), and the troika, ECB, IMF and the EU will suffer huge losses as and when Greek debt default follows. It would make no sense to reject the bailout without defaulting after all. But wait.. let’s look at the impact this momentous decision is having on the markets. EUR/USD is down 0.5%, and GBP/USD is virtually unchanged, more importantly EUR/GBP – a purer measure of Eurozone woes – is down about 0.4%. Markets have clearly been prepared, and this outcome has been fairly well discounted. Furthermore Asian equity markets appear to have focussed on their own domestic concerns. As one would expect, markets don’t wait for events, they anticipate. The uncertainty will focus on what decisions political leaders and monetary officials in Europe make in response to the events in Greece. I would expect that there will be efforts to ensure that Greece stays a part of the EU, even if it exits the euro. But none of this is certain yet. We will find out in the coming days.
On the other side of the world, significant events are occurring as well. Since mid-June the Chinese equity markets have fallen almost 30% to the end of last week. There was no fundamental reason for this, what we’re seeing is what happens to markets that run up with no rational reason supporting the move. Gravity will always win. The question now is whether the colossal loss of wealth will have an impact on the spending habits of the retail investors responsible for the move. Are there political consequences we should be concerned about? I’m no China watcher, and it would be foolhardy to speculate on the basis of Western preconceptions. All I can say is that this situation needs to be carefully monitored, it could have consequences that affect all of us. Who knows.. Overnight, Beijing, pledged to provide liquidity. This is the most recent of a number of moves in recent weeks designed to mitigate the fear and panic on the local stock market. As a consequence we have seen a 5% bounce in the market. Whether this will sustain is unknown, but clearly the fear is infecting the authorities as well. It is unlikely that a new buying mania will ensue, human behaviour being what it is, we should expect efforts by individuals to de-risk after this recent harrowing lesson. As we’ve have mentioned before, stocks can go down as well as up!
We continue to anticipate gentle dollar appreciation, but it’s worth noting that key equity markets hover at the bottom of recent ranges, any downside break could transmit to the currency markets. If the euro remains a funding currency as we expect, don’t be shocked if it appreciates in response to a sustained bout of negative sentiment.
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