Monday, December 5, 2011

The euro-zone: we want it all

The summit meeting in Brussels this week has an aggressive agenda and will focus on 3 items:
  1. IMF backed by a loan from the ECB to purchase Italian and Spanish bonds in the primary market (effectively a political cover for the ECB to keep purchasing sovereign bonds): EUR100 - EUR200 
  2. Fiscal discipline to be embedded in amendments to European treaties.  This is effectively a euro-zone "stability union" as prescribed by Germany and France.
  3. Leveraging of the EFSF x2 or x3 - not clear where the funding will come from 
The markets are now pricing in at least one, possibly two of these items being implemented soon, particularly the IMF structure. Spanish spreads have come in sharply:

Spain 5yr spread to Germany (Bloomberg)

Much is riding on this summit meeting as the euro-zone bond crisis is starting to make its way into the real economy.  Spanish PMI has taken a significant downturn.

In the next 6 months Italy will need to roll $276 bn of bonds and Spain $150 bn. That means should the summit fail to achieve its goals this Friday (and the "track record" isn't great), the sovereign bond sell-off will be rapid and violent. Global equity markets would follow.
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