BNY MELLON: GLOBAL MARKETS

Problems Facing Euro Continue To Mount


To a degree this continues to feel like a replay of the first half of 2008. Oil prices are at almost exactly the same level as in early April 2008, FX reserves are growing at a similar pace globally and the EUR is in demand as talk focuses on what the ECB will do next. As such, much as in H1 2008, it could be argued that the EUR should continue to appreciate until a slowdown in global growth forces the focus away from currencies supported by hawkish central banks toward those where more pro-growth policies prevail.

It is difficult to feel enthusiastic about the single currency, given the crises it still faces.

There is, however, one major difference between 2008 and 2011. In the spring of 2008 the only major casualties of the financial crisis were institutions (Northern Rock and Bear Stearns) or the unfortunate victims of collapsing housing markets in the UK and US. This time around, two sovereign nations have already had to be rescued (along with a number of financial institutions) with the Eurozone proving the principal battle ground. One objective way of comparing the relative scale of the problems is to consider the size of the bailouts.

Following the run on Northern Rock in September 2007 the British government and Bank of England stepped in to guarantee all deposits held at the bank. By January of 2008 Northern Rock’s loan from the Bank of England had risen to around GBP 26 billion (EUR 35 billion at the exchange rate prevailing at the time) just prior to the company’s effective nationalization in early February. Just over a month later the action moved to the US following a collapse of confidence in Bear Stearns. On March 14 the New York Fed initially agreed to provide a USD 25 billion loan to the company in order to provide liquidity for up to 28 days. The deal was subsequently changed so that the Fed made a USD 30 billion (around EUR 19 billion at the then prevailing exchange rate) loan to J.P. Morgan, which would buy Bear. In addition, the Fed also agreed to provide USD 29 billion to a separate entity charged with buying the mortgage-related assets of Bear Stearns that were the hardest to sell.

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By Simon Derrick, Chief Currency Strategist

By way of comparison, the joint Eurozone/ IMF loan to Greece announced in May of last year amounted to EUR 110 billion, while the November 28th agreement reached between the EU, IMF and Irish state saw a loan of EUR 85 billion being extended. In other words the money lent to Ireland and Greece collectively amounts to 2.7 times the amount lent to prevent the collapse of Northern Rock and Bear Sterns. Not only that but it is apparent from the recent price action in the sovereign debt markets that Ireland and Greece (and, indeed, Portugal as well) still do not command the confidence of investors. None of this means that the EUR will not rise further. However, it is difficult to feel enthusiastic about the single currency given the sheer size of the crises it still faces.

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