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Will The EU's Greek Indecisiveness Spell The End Of The Euro Resurgence And Start A USD Flight To Safety?
When the euro emerged as a consolidated currency over a decade ago, hopes were high that its advent would present a challenge to the USD as the default world reserve currency. Times were different (and much simpler, with shadow banking complexity a tiny fraction of the current $1 quadrillion+ behemoth) and as BofA says, "perception that the euro is well placed to rival the USD as a reserve currency has underpinned the increased euro allocation to a level much greater than the sum of the roles played by its constituent parts. This has been justified on the grounds that the unified European financial markets would offer similar breadth, depth and liquidity to those of the US." Alas one concept largely ignored was that unlike the US, where there has been one consolidated bond market reflecting the underlying marginal credit and liquidity risks behind the US currency, in Europe "there remain 16 separate government securities markets with very different levels of credit risk and liquidity." The ongoing Greek crisis has only reminded pundits of this phenomenon all too well.
What were the primary reasons for the euro's steady climb over the past decade? The key factor has likely been emerging markets central banks' desire to diversify their FX holdings away from dollars and into euros. As can be seen on the chart below, EUR reserves have grown from 20% of total in 1999 to 30% by 2009.
Another euro-benefiting trend has been the the flow diversification, once again as a result of EM Central Banks, which "sell down a portion of USD-denominated inflows in order to keep the currency composition of portfolios stable." This forms a feedback loop whereby increasing perception of euro strength led to further accumulation of euros, and constant euro-favorable rebalancing of portfolios.
As pointed out above, Central Banks are now very likely to reevaluate their €-centric FX flows, in light of the just uncovered fissures in the eurozone. As BofA 1 suggests: "the euro’s weight in global FX reserves may now begin to slip back on a trend basis, with the JPY, gold, CAD and even the USD benefiting."
Ironically, in order for Europe to regain its prior lustre and for the Euro to come out a winner of sorts from the Greek debacle, would be to follow the Fed's approach to the 2008 financial collapse in the US. Which would mean a rapid and convincing bail-out of the country (contrary to what EU bureaucrats have been posturing, at least so far) instead of a slow, disorderly "muddle through" or, worst of all, an actual default, whether orderly or disorderly.
In quantifying the implications for the Euro as a function of the four different possible outcomes for Greece (for more information on the Greek bail-out flow chart, see our thoughts from yesterday), BofA provides the following useful matrix: unfortunately for the Federal Reserve, just one of the outcomes is €-friendly.
1) Muddling through
If Greece adjusts gradually, concerns about its fiscal situation would likely linger as a euro negative over the near-term – contributing to the weakness already built into our $1.28 year-end forecast – but an escalation that drives EUR-USD rapidly into materially undervalued territory would be avoided. Fair value estimates from G10 FX Strategy and the PARS group cluster in the $1.25 to $1.30 area.
2) Last minute bail-out
A failure of the Greek government to avert further fiscal deterioration that brings the country to the brink of default would likely see the euro under increasing pressure as speculation over an eventual break-up mounts. The euro is likely to stage a relief rally once an EU bail-out is agreed. Meaningful steps toward a full fiscal union would be euro positive.
3) Orderly default
Default by Greece on its debt – even if Greece remained within the Eurozone – would likely play as a material euro negative, in our view. In this scenario the investment universe for EM central bank FX reserve managers would narrow very sharply to the government bonds of those nations viewed as irrevocably part of a core DEM zone. The portfolio allocation to EUR would therefore fall sharply.
4) Disorderly default
The FX implications of a disorderly default scenario are similar to that of orderly default except that pressure on EUR-USD would likely be exacerbated by very material safe haven demand for the USD. Global financial markets are likely to react in a highly negative fashion to a disorderly default.
One has to keep in mind that the endogenous issues now plaguing the Greek economy find parallels in all of the PIIGS. In essence, what this means is that the eurozone is starved for a devaluation of the euro, and will do anything it can to achieve it, even, as we have claimed previously, throwing Greece to the wolves. The irony is that by inducing a rush out of euro-denominated FX reserves, the ECB would be doing the only thing in its power to facilitate the growing external imbalance problem now plaguing virtually the entire periphery of the eurozone. As BofA notes:
Beyond the immediate fiscal problem, the potentially more intractable issue is that, since 1999, Portugal, Ireland, Greece and Spain have all experienced a 25% increases in unit labor costs relative to Germany. This has led to the build up of sizeable external imbalances (Chart 17). Ordinarily currency depreciation would kick in help to boost exports relative to consumption and also ease the adjustment via revaluation effects on the national balance sheet. This cannot happen under EMU. Consequently Portugal, Ireland, Greece and Spain are consigned to a period of disinflation relative to the Germanic core of the Eurozone. The market is forcing this adjustment through by inflating funding costs in the periphery relative to the core (Chart 18). The political will to bear this adjustment likely will be tested should unemployment continue to rise. The alternatives are EMU exit or very large fiscal transfers from the core to periphery. Unless and until the situation is resolved we believe the euro’s viability as a reserve currency will continue to be questioned.
Whether all the highlighted factors will finally put an end to the dollar-funded carry trade is unknown, although as more and more traders realize that the USD has an ever-increasing likelihood of becoming the "flight to safety" currency once again, we would not be surprised to see the majority of unbooked carry trade losses be realized (January was a nightmare month for carry traders as we previously pointed out), spurring a major move in the USD-higher, and further punishing the Euro (and the Fed's debt-inflation strategy). From a geopolitical perspective, the only question is whether this is indeed a transition from the old (dollar weakness) regime to the new (euro weakness), and if so, whether this has occured with the tacit approval of Ben Bernanke. If the answer is no, then the kicking and screaming rush to the currency bottom, as the Fed takes the game to an all new level, will make any UFC championship final seem tame by comparison.
- 1. "FX Strategy, Greece issue to weigh on EUR-USD, 1/29/2009, Fixed Income Strategy"
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After one removes Greece from the equation it would appear as though the only thing left for the EU to do is PIIS, into the wind.
Greek tragedy where, though the ship definitely goes down, portions remain floating as flotsam while some currencies go to davy jones' locker.
Just another subtle mechanism whereby the money masters play the extraction game from a global serfdom.
Nothing matters now but access to gov't, insider knowledge, and capital (preferably taxpayer capital) to use as leverage in a collapsing system.
Must keep the serfs gentle and docile throughout though.
After all, the Mort's must be disabused of the notion that they can build a bridge to the gods. Especially a bridge of understanding.
$100 million buys about 13,600 acres of fertile Thai farmland.
I know how to solve everything!!!! The FED should bailout Greece. A strong dollar is Bernanke and Obama's public enemy number one.
I thought the fed already had once through the ZIRP and the currency swap arrangements of late '08 and early '09. Imagine what the situation would look like if interest rates were at historical norms prior to these events unfolding.... As well may have been the case when Greece was admitted to the EU in the first place. One more can that had been previously kicked down the road looks to derail the train.
"What if."
The US PTB are planning to weaken the rest of the world to save their asses? They have enough food and weapons to thwart any disobedience.
Give me gold. Price is of no importance. If I am wrong, fine we will all prosper. If I am right those with gold will at least survive nicely.
Most of you (younger than 65 or so) have never missed a meal, (while sober that is) and can not fathom the consequences of a second depression.
sudden bout of sympathy for SQUANDERERS?
Next week, I think we'll see the Euro get crushed and the USD rocket higher - along with GOLD. That would be supportive of European equities and destructive for US markets.
did you go bullrunning by any chance? did your father take you to bullfights when you were 7 like me? then introduced to the spectacle of public executions by 9.
Tyler,
Thanks for the excellent what do you think would happen in the case of an IMF loan?
SS
Not a practicing member in the world of high finance. Can someone explain to me in layman's terms why the analogy "Greece is to the Euro what California is to the dollar" is not correct? Or is it?
Greece will never starve. The country is self sufficient and the underground economy is double the size of the GDP.
Greeks own their land and 95% of middle class own two houses outright. There were no mortgages until 10 years ago or so.
To the Hellens:
If you don't get bailed out, roll out the Drachma and play the devalue game like the rest of the world.
You guys really need to get consistent.
You are persuaded that the markets are manipulated. If this is true, THEN IT IS TRUE.
Greece will not be allowed to be disruptive to anything significant. The Euro bond market equivalent of HFT will kick in tonight and drive Greek debt values higher, along with the S&P futures, just as it has every Sunday night for months.
You can't be convinced there is manipulation and then suddenly be unconvinced.
Though central banks tend to look after one another, there is still a difference between US and European markets and the actions of the Fed in the US marketplace is not a direct and equal relationship to the Fed's actions in European markets. The focus on market manipulation by the Fed and related parties at ZH (a postulation I accept and agree with) has always been directed at U.S. markets.
Riiight, because the concept of central banks manipulating things to extract wealth from the woebegone sheeple is a COMPLETELY foreign concept to europe?
I find it intriguing your conspiracies know boundaries. Perhaps it is solely because you don't perceive to know enough.
Give it time, the zh community will have you converted soon enough.
Come on, I'm sure that the manipulation performed by ECB is written about in GERMAN. Quit your bitching and start studying German grammar - HINTS: it's like Latin, and "the verb sometimes at the end of the sentence comes".
Cute deadhead.
'Central banks don't manipulate markets successfully except in the republic'.
Alright! Good to see we do something better than everyone, eh?
So how do we arbitrage this? I mean if it is so obvious to a tiny community of bloggers in the US, wouldn't the ECB capitalize by moving the other direction and pulling the invisible pants off the emperor?
Or is everything good a conspiracy and everything bad, good? Wow, topsy turvy eh?
Imho, EUR will not make a reliable carry trade currency. If they forget about SGP completely, the whole thing will run out of control. However, a weakened EUR will remove EU opposition to further US/Chinese synchronized devaluation. GLD weakness will create an illusion of of "invisible" devaluation, but that's unlikely to last.
I don't think anyone noticed that a EUR breakdown will be very damaging for Russia (everyone thinks this market will rally forever, ha), both due to their reserves composition (these are drying up at a breathtaking speed, btw), and the effect which such development will have on the EM's, of which Russia is traditionally the most volatile.
Also, in either case (bailout or weaker currency) EU may be forced to finally re-negotiate their contracts with Gazprom. They are now paying for a fixed volume which they don't fully utilize, and if they insist on paying for actual supplies only, Russians will be hurt badly as they got used to relying on EU as an super-cashcow. They cannot diversify because China only pays 1/3 of EU price, and Russia never bothered to invest in LNG, instead focusing on bizarre energy-geo-political games.
pak, very interesting comments re Russia and the EU / Euro. I had not thought about that angle. I do not understand Russia, why is it that they want to f#*k with everyone when it looks to me like they have very big problems...?
I'm really getting tired of Russia jacking with the West. F#*k 'em, throw 'em under the bus! We do not need Russia.
Similar feelings about China. Just have to have adults ironing out any issues / problems with them (so we don't stumble into war or protectionism). China's got big problems too.
Hah! Russia and China as neighbors...
It's very simple, I guess. For the guys who run Russia, their ability "to f#*k with everyone" is what defines "a strong Russia".
But my post is mostly addressed to the people who, like GS's Jim O’Neill, think that they will see a repeat of the usual quick boom/bust cycle in Russia.
What happens in the EU may sometimes have more impact outside the union then within it.
And I really-really hate this term "emerging markets". I guess they'll keep "emerging" for another 50 years!
Pssst. (looks side to side)
Russia pumps more oil than Saudi Arabia.
That's because Saudi Arabia is underpumping due to OPEC quotas, while Russia is pumping at the very limit.
Russia didn't peak in 2007 (as many expected) due to Talakan and Vankor. But they will peak in 2010, or in 2012 latest (best case).
No need to throw Russia under the bus. It will get there on its own 10-15 years from now.
they still cover like 1/6 of the earth you dumbo, you can not throw them under the bus but they will step on you and crash you without even knowing it
Geography and population aside (there are 200m of them at europe's doors, plus ukraine and the baltics), russia is the only country which can pose a real military threat, nuclear or conventional to the USZ, either directly or via a proxy in the middle east. China can be damaged badly by trade measures, but Russia, no way the USZ can ignore them, as can be seen from the last 5 decades of US foreign policy towards russia - the US is basically toothless when it comes to russia. The reverse is not true though, whenever russia implodes (per Boris Yeltsin era) or if it explodes due to external reasons (per 1998 debt contagion spread from Asia and Latam), russia would cause everyone else in the west great pain, especially in europe. One could trace current ultra-loose US monetary policy from that era.
more damage
Another overused term next to "Bubble" is "Flight to Safety". Right. It should be called the "Flight to the Currency of Last Resort". I for one do not feel safe in dollars. I exploit the cartel takedowns and buy Gold, Silver, and Ag. Thanks for the gifts boyz. I really do appreciate it!
Ditto.
Good chance to reload on PM's lately.
Gold is becoming the global alternative currency. As wealth holders slowly discover the wealth-destroying mismanagement of central bankers as they strive to weaken their currency, make exports more attractive, and print to fund widening deficits--they go to gold to insulate themselves from the predations.
Unfortunately, the oligarchs mapped this game out much earlier and are also working the gold angle. Who purchased all of Britain's gold in early 2000's?
All the stresses which exhibited themselves earlier in the commodity, equity, bond markets have migrated to the international currency and sovereign debt markets. When the elephants fight, the grass is destroyed!
It is very like watching a fuse as it moves closer and closer to the ignition point--or that instant space when the critical mass has been reached but matter exploding into energy is not yet.
HERE IT COMES HOWEVER!
If gold was 'becoming the global alternative currency' as you say wouldn't it now be more than LESS THAN HALF ITS INFLATION ADJUSTED high?
No my friend, you WANT it to be the 'global alternative currency', big difference.
Keep rolling that boulder uphill my friend and we will see how that works for you...
only thing that matters is if it goes exponential. that takes care of the less than half. i don't care what the currency is as long as i have enough.
obviously we are far from that point, AU just fell thru 1080 as carry traders continue their exodus.... worrisome for gold bucks bunnies
but time's come to think in terms of months ... some respite but not much
+1000
For the last couple of years I have been trying to understand the terms "flight to safety" and the even more bizarre "flight to quality" to describe mass dollar buying in troubled times. This behavior seems to rest on two implicit guarantees:
1. US dollar-denominated debt will always be worth its face value in dollars, and
2. A dollar will always be worth a dollar.
I can find no flaw in this logic, yet still I am not reassured.
seven tree . have you not heard of inflation nibbling at your buck? Or doubts the world has about our debt dollar. There is the flaw, rest assured only with gold and silver.
Mere Human you may be, yet you have struck to the heart of this riddle.
I will trade even more of my bucks for silver, soon as panicked $ buyers drive it low enough.
would you pay 12,,, or less?
There's a way to fizzle out the pressure, IMO.
Greece has to leave the € but not the union (my post in the previous Greek topic). Then both the ECB and IMF can get in, cooperate and avoid stepping on each other toes while spreading the risk a little.
How to leave the € without a major political crisis in the EU? Get the Greeks to the streets (easy) chanting "we want the Drachma back!" (how easy?). Then the bureaucrats in all offices over EU can wash their hands and say they have no other option but avoid a blood bath (their blood). Feasible?
Keynes vs Hayek
http://www.youtube.com/watch?v=d0nERTFo-Sk&feature=player_embedded#
Not really. Greece in a sensitive part of Europe, it's alright for it to be only slightly wealthier than it's neighbours but it really is a major cultural part of Europe.. i is unthinkable that there could be a modern, forward-looking Europe that has discarded such a relevant plank.
On the other hand, is it likely that a long wait followed by an eventual default might actually clear the air and loose off some unnecessary baggage. In the following race to bottom that might leave the Euro valued more or less accurately.
Iceland popped leaving creditors a deep hole of principal and interest unpaid. Greece seems on deck. But the Balkan, east europe, PIIS have such severe impairments that "spreading the risk" is not really feasible. For a short time, yes, feasible...long term this is blowing up.
We are in the transition from "extend and pretend" to "send" as in send in the keys. By dribs and dabs it will come, but must and will accelerate...the world over.
Japan, Europe, USA, Latin America, Middle East, China.
All correlated, all rotten with debt, all rotten with corruption, all "in" with the global semi-coordinated default.
think of it this way. what comes out of nothing goes back to nothing.
Status quo resumes.
the olympic host city curse†
Has anyone seen this from Drudge
http://www.breitbart.com/article.php?id=CNG.44ec3a3581bd2b87b081a9614648ee11.c61&show_article=1
Off topic, but does anyone know of a decent free online day trading simulator?
Think or swim is the popular one everyone uses since signing up is free, other platforms have play money simulators you can trade with and stuff.
Oh wait, did you mean like... simulations you can run formulas through?
ODL claim no FX dealing desk. True? or not
Dealing coffe table?
Prorealtime.com
The Asian guy in the ad on the ZH home page says he turned $15k into $3.5 million with the free daytrading course.
Other than that, I can only recommend Interactive Brokers.
i talked to InterspasticBrokers today in Hong Kong. they were very polite but i soon wore through the Chinese veneer of patience. I'm an expert, years of practice pissing people off. one thing about this co is they have offices in Switz US & the Orient so you can do a sort of cultural world tour expressing your displeasure day & night as the mood takes ...
looks like paper gold longs and oil longs are going to get the blastroast next week....
UFB: From one sinking ship into another. You'd think people would have an ounce of brain and go for PMs if they wanted safety. Buying into 106 trillion of unfunded liabilities 12+ trillion of on balance sheet debt and a budget (if you can even call it that) that has a 2 trillion dollar deficit is, by definition a f*cking inferno not safety.
If the answer is no, then the kicking and screaming rush to the currency bottom, as the Fed takes the game to an all new level, will make any UFC championship final same tame by comparison.
TD, should the italicized word be seem?
My guess is that the Greek Gov't will simply continue on as always.. delay, jabber, and deny.. until one of their auctions fails. At this point, bondholders begin selling in ernest. It's at this point.. when their bond markets hit the cold pavement.. that the Greeks will ask for an IMF bailout. Riots and strikes will follow later in the year as the austerity measures are announced.
Get some wine and cheeze.. it'll be fun.
The euro will hit $1.30ish or lower by year's end.
Uhhh.wow! Discussion about the euro? Where the hell did that come from? Jeezus who EVER talks about thst? Good call andy! Prescient!
Like discussion about the euro was never 'mainstream'?
When did you start posting on blogs, last week?
.
Madcow, if the $ goes up, what makes you think gold will also go up? I just hope you are right.
CCCP
If you are asking an avatar espousing an angry bovine and you 'hope' they are right, I 'pray' for you investing logic.
Let's not be dismissive of the farm animals. We have feelings too.
The battle of the indecisive. An IMF bailout
will essentially be a USA bailout. Another
thing I have tossed around is a NATO led
bailout LOL. The decision tree chart is also
wrong - there should be arrows from the
bottom pointing back to the top - whatever
they do short of forcing austerity will lead
back to point A in short order.
It will certainly get the Euro depressed in the short term. However, the dollar's feet of clay will soon be exposed by the oncoming ARMs debacle (http://crisismaven.wordpress.com/2010/01/28/bloom-of-doom-ii-of-mortgage...). Greece will probably not finish off the Euro completely (http://crisismaven.wordpress.com/2010/01/24/will-greeces-default-bring-d...).
No worries as one of the esteemed fed governors (bullard) has declared "the deflation risk has passed". One must be shocked that this learned group of people missed the housing bubble.
US deflation no longer seen as a risk:
http://www.ft.com/cms/s/0/8f6a0622-0e94-11df-bd79-00144feabdc0.htm
know who owns this rag? some would be surprised.
Greece is small change and % wise to the Euro as compared to California is to the USA. Then there are other States about to fail in the USA too.
So what do you say about the U$D?
And most of these states are caught between constitutionally mandated balanced budgets, and legally mandated public assistance programs which are becoming more expensive just as tax revenues decrease. The only way out is an economic recovery in the next six months which is about as likely as a solar supernova.
The EU may implode, or it may not. We should worry more about the American Union.
Anon, thank you for your prayers. Now take your Prozac, say a word of prayer for Obama and go back to sleep.
CCCP
I don't understand the whole discussion, why ECB cannot go into US footsteps and print 1 Trillion or 2? Bailout all countries which need it now and wait for US to print few more trillions to help some States like California, then ECB will feel free to print some more to bailout next group of countries in deep doodoo. Hope Asia won't get whiplash from looking once to US then to ECB, back and fort. Because of all those actions gold will go down as Master B is predicting and everybody will be happy!!!!!
Yes. The Euro decline has already started, it will keep falling with an occasional retrace.
The euro will decline relative to what? The $? The Eu has nearly 500 millions of the most talented people in the world. The euro will continue to exist and remain a very viable alternative to the $. This whole discussion reminds me of the omnipresent central european banking collapse. That didnt happen either. In fact the central euro banks are now even more robust.
I lived in Greece for 24 years and worked in the financial industry there for 8 years.
It is true that a large percentage of the population own their homes without debts (in islands and the periphery many 90% or more of them), and they are not tied to expensive forms of entertainment or health care as the Americans are.
A return to the drachma will be a temporary upset, but at the end, the only ones that will suffer are 30% of public employees, that is, 12% of the working population, who will be forced to return to their parents' houses in villages.
Don't imagine anything "biblical".
The reason Greece appears to be in a bad shape right now is because their situation it compare to the Euroland standards. However, the situation in Greece is somewhat better than it was in the 90's. So, if we compare Greece to Germany, yes, they are in trouble. But if we compare it with themselves in the 90's, they're somewhat better.
No tragedy here guys... for real tragedies we should look at 10% of Americans on food stamps and it'll get worse, since Americans do not have the vast safety net of "extended families and debt-free homes" that the Greeks have. Americans are leaves in the wind... very susceptible to financial crises.
How long will Switzerland stand by and let the Greeks increase the price of Swedish exports?
Jeepers if knowledge was a prolific as opinion, we'd have no problems in the world. Look at what is happening in the euro area as a page turner, not the end of a currency. For sure, Europe will celebrate a weaker currency, and is gearing up to tackle structural issues as a result of this. (http://www.market-melange.com/2009/12/14/contrasting-greece-lithuania/).
But for all those out there mulling EURUSD, why not look under the other hood too? If the euro is in danger because it embraces a multitude of economic circumstances, how is the dollar so different? http://blogs.ft.com/money-supply/2009/12/14/greece-versus-california/
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The price level in the PIIGS is too high and wages most go down on the international level, while the budget cuts needed for these countries to remain solvent during a deflationary depression enforced on them by Germany via the Euro are so staggering that no modern democracy will be able to handle. As the riots in Greece have shown, any government in the world that will try to make public spending cuts in double digit percentage points will not survive. Not to talk about the fact that will need to lower the minimum wage during a depression, an action never done by any government.
http://israelfinancialexpert.blogspot.com/2010/01/euro-crisis-budget-cuts-are-doomed-to.html