Europe: Your Rope

Europe cannot get out of its own way. The schadenfreude of a year ago has faded and the most profound crisis more than a generation is gripping Europe. Poorer families may not have qualified for low interest rate loans to purchases houses as they were in the US. The European strain of the same virus, promoted lending to weaker sovereign credits. In both cases, the orthodoxy places the onus of responsibility on the borrower not the lender. Yet what seems to be a backlash against incumbents in various countries, with the UK seemingly less decided, is partly a protest against the favored treatment given to lenders.

At the same time it is more that in Europe. When Greece first ‘fessed up to its fiscal situation, Europe said we support that country’s efforts to rein in the deficit. The market did not buy it. Greece, in the American vernacular, said to Europe, “Show us the love”. And Europe had a summit and said, yes, we’ll work with the IMF and provide a backstop facility, but sorry we won’t say how much money, discuss the terms or conditions. The market did not buy it. Greece said in effect, it is not good enough to put the gun on the table, it must be loaded. Europe appeared to load it this past weekend.

After initially believing it, the market now suspects another sleight of hand. It turns out that those ministers promised things that they might not be able to deliver. Specifically, the German, French and Irish parliaments are going to have to give their approval. France says it can secure a vote within a week. Ireland says it could take a couple of months. Germany does not appear to have even suggested a timetable.

While the UK national election rightly draws a great deal of attention, the largest German state holds an election in early May and the latest polls show Merkel’s ruling CDU/FDP slipping further behind. The CDU support has slipped 5 percentage points to 39% with the FDP polling about 6%. The opposition SPD slipped 3 percentage points to 34%, but its likely coalition partner the Greens picked up 5 percentage points to 16%. The Left Party is drawing 5% and could be represented in the state government for the first time. Germany was not permitted, by its own constitution to hold a referendum on monetary union. There is a profound gap between the political elite and the people in support for monetary union. And this gap, which extends well outside of Germany, is at risk of becoming more powerful. Articles in the local press suggests that few if any one, believe that the terms of EU/.IMF backstop facility are not really “concessionary” in that the interest rate that Greece would be charged is below market rates. That is the subject of a lawsuit in Germany. These risks are more difficult to quantify and that uncertainty alone is euro negative.

The latest polls and surveys of bookmakers seem to suggest that the Tories may be seeing a widening lead. The first television debate takes place tonight in the UK. We had previously suggested our leaning that the Tories would eventually win, but it is been hard to draw much comfort in recent weeks. The UK populous appears to be suffering from Labour-fatigue, but the Conservatives do not appear to have struck a response chord either.

Meanwhile, although the UK faces profound challenges, the recent slate of economic data has been mostly better than expected and the Continent’s problems seem even more daunting. After a 3-4 days correction, sterling appears poised to resume its trend gains against the euro. Look for the euro to re-test support near GBP0.8700 and the risk is of a break of that support.