1. QNB Economics
economics@qnb.com.qa
The EU Summit has Eased Tensions for the Time Being
The Eurozone crisis continued to unnerve investors Spanish government, leading to an increase in public
during June in the run up to an EU leaders’ summit at debt. Worries about higher debt levels drove up
the end of the month. Despite a positive market sovereign bond yields.
reaction to the summit, underlying issues remain and
are likely to lead to a re-emergence of tensions, Also prior to the EU summit, European leaders
according to a report from QNB Group, prompting EU appeared to be divided on how to tackle rising bond
leaders to take more focused and concrete action. yields for Spain and Italy. Germany was insisting on a
focus on fundamental long-term issues, such as giving
During June, in Greece, anti-austerity parties more control to EU institutions over national budgets
threatened to derail Greece’s bailout programme, but and economic policies. This led to little optimism that
elections returned a majority for the pro-bailout agreement on short-term crisis measures for Spain and
parties. Following these elections, the focus of Italy would be reached at the EU summit on June 28th-
concerns shifted to Spain and Italy. 29th.
After months of speculation, the Spanish government However, in fact, leaders at the EU summit did
was finally forced to call for a bailout for its banks, succeed in reaching an agreement on a short-term fix.
which are suffering from large exposure to a Spain and Italy were able to force action by refusing to
worsening real estate market. These stresses and a discuss anything else until crisis measures were
generally worsening outlook for the European agreed.
economy, led to concern about Italian sovereign debt,
driving up bond yields. During June, the yield on Consequently, at the summit it was agreed that
Spanish and Italian sovereign debt reached levels that Spanish banks could be recapitalised directly, reducing
are generally regarded as unsustainable in the long projected government debt levels by 6%-10% of GDP.
term, breaching the 6% mark in Italy and 7% in Spain. It was also agreed that the European Stability
Mechanism (ESM) could purchase sovereign bonds
Ten-Year Government Bond Yields without an accompanying monitoring programme.
(Mar-July 2012) This cleared the way for the Italian government to
(%) request assistance in its bond market.
7 The surprise positive result led to the largest daily drop
Spain in Spanish and Italian ten-year bond yields this year,
Italy from 6.95% to 6.33% for Spain and from 6.20% to
5.84% for Italy. It wasn’t just bond markets that
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reacted positively, the Euro Stoxx 50, an index of
leading European companies, gained 4.96% for the
day and the Euro rallied 1.77% against the dollar to
5 €1:US$1.2662, also the largest daily gains this year.
Despite the positive reception in financial markets, it is
likely that tensions will re-emerge in the near future.
4 While the summit was successful in making some key
01 Mar 12 01 Apr 12 01 May 12 01 Jun 12 02 Jul 12 decisions, the agreement did not outline the details of
implementation, making it potentially problematic
Source: Bloomberg and QNB Group analysis with potential treaty changes and parliamentary
approvals. More details should be revealed around a
Prior to the summit, European leaders were able to meeting of EU finance ministers on July 9th.
pledge up to €100bn for the bailout of Spanish banks,
considerably more than the initial estimated The recapitalisation of Spanish banks was agreed on
requirements of €40bn. However, this was insufficient the basis that a Eurozone-wide banking supervisor, run
to allay market concerns, according to QNB Group, as by the European Central Bank (ECB), would also be
the money would initially be lent to the banks via the created, consolidating 17 different organisations into a
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2. QNB Economics
economics@qnb.com.qa
“banking union”. This is complex and will take some an economic boost to EU countries. However,
time to implement (the intention is to have it in place according to QNB Group, this involves tackling the
by the end of this year), possibly leading to delays and symptoms of a weak Eurozone economy, not the
doubts about when recapitalisation loans will be structural debt issues that are driving the crisis.
transferred from sovereigns to banks. The change in
mandate for the ESM to be able to recapitalise banks The ongoing debt crisis is having a harsh impact on
directly may also require a change in EU treaties, the real economy, according to QNB Group. Data
potentially creating complications. released on July 2nd indicated that Eurozone
unemployment had risen to a record high in May of
Furthermore, the summit has not changed the 11.1% and a manufacturing activity survey was close
resources available to EU institutions to tackle the to 2009 lows. Manufacturing surveys last week
region’s debt issues, according to QNB Group. The pointed to weakening economies around the world,
combined Eurozone bailout funds have about €500bn suggesting the Eurozone crisis is having a wide
of new lending available to them, or €400bn with the ranging impact.
Spanish bailout deducted. With around €600bn of
refinancing needs falling due for Spain and Italy in Should the European and global economies weaken
2013, should these countries lose access to debt further, this would be likely to lead to greater stress in
markets, the bailout funds would soon be exhausted. the EU banking system and sovereign debt markets
Current rescue funds are therefore insufficient to and would necessitate more drastic actions from the
protect the Eurozone system in the event that the crisis authorities.
worsens, and this alone is likely to be sufficient to lead
to investor concerns re-emerging. The key measures that could be taken are further long-
term refinancing operations (the provision of cheap
Additionally, little progress was made at the EU loans to banks), increasing the size of the rescue funds
summit on addressing the fundamental issues to (the ESM), a Eurozone bank deposit guarantee scheme
resolve the crisis in the long term. Germany gained a that also protects against the risk of redenomination
commitment for the European Council President to into new currencies and making the ECB and
develop a time-bound roadmap for the achievement of European Commission more democratically
a genuine economic and monetary union, which would accountable as tighter union will strengthen their
include EU institutional oversight of budgets as well authority. An alternative means of bringing down
as economic and monetary policies. However, a borrowing costs in the Eurozone periphery, issuing
roadmap to stronger union does not bode well for swift jointly guaranteed debt, or Eurobonds, has been firmly
action on the controversial issue of sovereign powers. rejected by Germany.
A “growth pact” was also agreed to use €120bn of
potentially available funds for investment to provide
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