Tense week ahead PDF Print E-mail
Monday, 11 June 2012 23:59
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Even before Grexit, Italy faces tough mid-week test

Though global markets have rallied on news of the 100 bn euro ($125 bn) recapitalisation package for Spanish banks (the Sensex was also up 174 points before the S&P report on the possibility of India losing its investment rating), the next crisis is likely to come up even before Sunday, when the Greek polls will determine whether or not that country is on its way out of the euro or not. On Wednesday, Italy will be in the market to sell 6.5 bn euros of treasury bills—while Italian bond yields were down 11 bps to 5.64% on news of the Spanish package, it’s important to keep in mind that Spain asked for the bailout only after it found no takers for its 19 bn euro bonds to recapitalise Bankia. With Italy’s debt more than twice Spain’s, the odds on an Italian crisis have risen again. Indeed, with Spain’s debt likely to rise 10% following the bank package, Spain is also likely to find it more difficult to raise bonds, worsening the crisis. Going by the IMF’s projections which could already be out of date given how fast the crisis is spreading—in September last year, IMF expected a 1.1% hike in Europe’s GDP but this was changed to a contraction of 0.5% by January 2012!—between European governments and their banks, the refinancing needs add up to around 23% of GDP this year itself. In other words, it’s safe to expect a new crisis to succeed the one that’s being dealt with at any point in time.

Clearly no real solution can be found till, to paraphrase Economist's headline, Angela Merkel gives a signal to allow Europe to ‘start the engines’. What is required urgently is a European banking union, where the deposits of each bank are guaranteed by the European Central Bank—Economist cites a Nomurra report saying a severe recession in Europe could see the region’s 90 biggest banks needing 420 bn euro of recapitalisation, with 50-60 bn euro each required in safe economies like the UK, France and Germany—but with Merkel displaying a policy paralysis that makes the UPA look good, Germany’s Chancellor still thinks Germany can escape the crisis spreading from Greece to Spain to Italy…

For India, as chief economic advisor Kaushik Basu admitted over the weekend, Europe has far greater implications than anything in the US, including Lehman, and it isn’t just because of Europe's much higher share in India's exports. As compared to India's forex reserves of $290 bn, loans from European banks were around $133 bn in December 2011, or around double those from the US—indeed, European banks have already begun to withdraw part of this. While loans to Indian entities from European banks fell to $118.1bn by the end of Q4 2008 following the Lehman crash, they rose to $152bn at the end of Q1 2011—they have been falling since, to $148bn at the end of Q2 2011, $146.6bn at the end of Q3 and, even faster, to $132.8bn by December last year. Chances are the results of the Greek elections, on Sunday, will overshadow the RBI policy on Monday.


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