As EU finance ministers agree a provisional €30 billion bail-out for Greece over the next year, we take a look at the likely outcomes of the deal and discuss the ways in which concerns over sovereign debt in the eurozone might affect the financial markets.
Since February, euro-based currency pairs such as EUR/USD, major European stock indices and even commodities like crude oil have been affected by bearish sentiment triggered by the Greek crisis. But to what extent does this latest agreement draw a line under investor hesitancy?
Sovereign debt and the euro
Forex tends to be the market that is most susceptible to concerns over national debt, and euro-based currency pairs are no exception. In fact there is a specific peculiarity associated with a single currency environment that makes the euro even more vulnerable in these circumstances. While a government may ordinarily choose to devalue its currency in times of fiscal crisis, thereby reducing the overall debt burden, Greece cannot do so without quitting the euro – itself not a viable option.
The net result for markets is that while concerns over Greek debt remain, it seems likely that investors will favour the dollar over the euro due to its reassuring distance from the epicentre of this particular crisis.
On the other hand, as soon as forex desks opened after the bail-out deal was agreed, the euro rebounded to a three-week high against the US currency. And while the euro has not so far managed to hold all its gains, the deal certainly provided some immediate relief for the single currency. Even if it’s not a panacea in itself, if the safety net of the promised loan can help Greece take steps towards putting its house in order, the euro may begin to make some further headway.
The domino effect?
However, as some of the burden has been lifted from Greece’s shoulders with the €30 billion guarantee, many analysts are now looking to other vulnerable eurozone nations and predicting that the risk of default may simply re-appear within different borders.
Even as the eurozone and IMF have moved to protect Greece, other nations struggling with high debt levels or large deficits, notably Portugal and Spain, are now likely to come under fire as markets re-adjust their focus. Bearish sentiment could start to gather pace as the cumulative effect of negative headlines reduces risk appetite.
Major European indices
Since July 2009, there has been an upward trend for major European equities; the DAX30 and CAC40 are both sitting at – or near – multiple-month highs. As such, they may be particularly susceptible to selling pressures if negative headlines do indeed cause a flight towards more defensive investments.
That said, the major European stock indices have recovered from February’s sell-off (which came as news of the Greek debt crisis first broke) and there has not been any sustained selling since. However, it is interesting to note that gold, widely considered a safe haven investment, hit its best levels in the wake of the bail-out agreement, suggesting that there is still widespread caution over risk markets.
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Updated: 14/04/10