- Draft plan to be discussed at the EU summit falls short of calming markets.
- Egan-Jones cuts Germany’s sovereign rating.
- US stocks increase despite weak consumer confidence.
The latest draft of the plan for the future of the eurozone, to be discussed at the EU summit starting Thursday, scaled back some of the earlier, more ambitious proposals (see the report here). This includes the proposed rights for EU institutions to rewrite national budgets and the proposal to use the EUR 500bn rescue funds (the ESM) to directly recapitalize European banks. That said, the report still urges a closer integration within the EU, including a European supervisor to oversee banks, and suggests that national budgets should be pre-approved by the rest of the bloc before eurozone states take on responsibility for each other’s finances (i.e. before issuing eurobonds). More worrying though is the lack of a proposal for new short-term initiatives designed to stem the current crisis. Italian prime minister Monti is putting pressure on Germany to move forward with Italy’s proposal to use the bailout funds to stabilize financial markets. Italy will face the markets on Thursday when it will auction up to EUR 5.5bn in 10-year bonds.
Egan-Jones cut Germany’s sovereign rating from AA- to A+ and outlook still negative, citing the risk that the country will be left with significant uncollectable receivables due to its exposure to the eurozone.
It will be Yannis Stournaras who will take over the seat as the new Greek finance minister. Stournaras is an academic/technocrat who helped steer Greece into the eurozone in 2000 as chief adviser to the finance minister and Greek representative to the EU monetary committee.
US stocks rose from their two-week low led by consumer, energy and financial shares and the S&P500 ended the day up 0.5% despite weak consumer confidence in the US. The bad news was tempered by another encouraging data point for the US housing market as the S&P/Case-Shiller price index showed that US home prices increased for the third month in a row. The positive sentiment in stock markets has carried into Asian trading.
In bond markets the upward pressure on Italian and Spanish bond yields continued with two-year yields up more than 30bp. In US bond markets, benchmark yields were ended marginally higher on the day.
In FX markets, EUR reversed earlier losses against USD, SEK and NOK triggered by weak short-end bond auctions in Italy. Oil prices increased for the fourth day in a row but Brent oil remains below USD 94 per barrel.
Global Daily
Focus today: This will be another day with market attention centring on the potential outcome of the EU summit. In Europe the release of German inflation could attract attention as well. Inflation in Europe is likely to be more downbeat than expected just months ago after the significant drop in energy prices. In the US the main release is durable goods orders for May. After last month’s disappointing reading, we expect to see some rebound, with headline orders rising 0.7% m/m. We also expect an improvement in
pending home sales in line with the general improvement in housing data recently. Note that Merkel and Hollande will meet tonight, but no press communication is expected before the EU summit on Thursday.
Fixed income markets: Spanish and Italian government spreads against Germany continue to widen ahead of the EU summit. Given the expectations about the EU summit and the economic situation in Europe it is hard to see which actions that can turn the sentiment would not involve the European central bank. While it seems pretty clear that the ECB will lower policy rates next week, it is less obvious that aggressive non-standard measures will be introduced. The experience from last fall shows that market conditions
would have to worsen significantly before the ECB acts aggressively. Meanwhile the situation is getting increasingly desperate in Italy/Spain.
FX markets: EUR/USD continues to trade in a relatively tight range around 1.25 ahead of tomorrow’s EU summit. Even the downgrade of Germany by the smaller Egan-Jones rating agency had little effect on the cross. However, it might be silence ahead of the storm and a major breakout later this week - once the outcome of the EU summit is known - is a clear possibility. Given our view on the EU summit risk is tilted to the downside for EUR/USD but it has to be remembered that market expectations ahead of the summit are probably relatively benign. Today, business confidence from Italy could be quite interesting and of course durable goods orders and pending home sales. The latter two will be scrutinized in the light of the Fed entering into QE3 or not. In fact, as we are at a tipping point regarding QE3, weak US numbers should be dollar negative as they heighten the probability of further US monetary stimuli going forward.
Scandi Daily
Norway: After falling sharply at the beginning of the year, unemployment has now stabilised. An unchanged unemployment rate means that growth is more or less on trend and we expect this to be reflected in the LFS figures for April that will be released today at 10.00 CET. 
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