European Contagion

The terminology is beginning to change in Europe. The fact that Spain's finance minister felt it necessary to say this speaks volumes about how the markets view Europe.

“Spain’s situation is not like that of Greece, not in terms of public debt nor in terms of economic strength,” Ms. Salgado said in an interview with La Cope radio.

Yields on Spanish bonds jumped today as the market demanded higher returns on the debt risk. Why did that happen? Well, some of the reason might have to do with what happened yesterday just next door.

Portuguese government bonds weakened Wednesday after the country's debt agency sold fewer 12-month Treasury bills than planned at an auction as investors required sharply higher yields than at the previous auction two weeks ago in low volume demand.

What happened with Portugal was just short of an auction failure - the kind of thing that happens to a nation right before it defaults. Of course all of this uncertainty is rattling the stock markets and showing up directly in the credit-default swap markets.

Fears of sovereign debt contagion across the eurozone sent European markets sharply lower on Thursday as negative sentiment spread to Wall Street with US markets also hit by worse than expected jobless data
European and UK stock markets fell more than 2 per cent, with Portuguese and Spanish stock markets leading the declines with falls of 5 per cent or more. Investors also sold sovereign debt in these periphery eurozone countries and sought the safety of the dollar and US Treasuries.
Reflecting those concerns, the western Europe Markit SovX index, which measures the cost of insuring against the risk of default, widened beyond 100 basis points for the first time amid heavy buying in the sovereign credit default swap market. CDS spreads on Portugal hit record highs, up 28 basis points to 222 basis points, while Greek credit default swaps rose 21 basis points to 412 basis points, heading closer to records of 421 basis points reached in January.
“The latest catalyst was [Wednesday’s] bond auction in Portugal, which was scaled back and which has reignited fears that the likes of Portugal and Greece will not be able to fund their deficits without a bail-out,” said Gavan Nolan, credit analyst at Markit.
“The euro was initially buoyed yesterday [Wednesday] by the European Commission’s endorsement of the Greek debt plan,” said Michael Hewson of CMC Markets. “However, it slipped back after Portugal cut a planned treasury bill issue and Spain disclosed that its budget deficits for the next three years will be higher than forecast. It would appear the sovereign debt problem is turning into a contagion in the eurozone.”

Regional contagion was last seen during the Asian currency crisis of 1997-98. When it happens, it tends to bounce around until it finds a weakness, sometimes in a place no one would have thought to look.

For now the markets are looking for a bailout. It isn't without precedent. The ECB bailed out Irish banks in 2009. The EU has given Greece one month to come up with a viable plan on how to cut its deficit. Meanwhile the union are planning a general strike for the end of the month to protest the exact sort of cuts that the EU want Greece to impose.
Europe could survive a default by Greece, and even Portugal, but Spain is another matter. Their economy is far too large to go down without having catastrophic effects on the European economy.

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Contagion

Wasn't Russia in 1998 also a case of contagion? I think there are 3, S. Korea, the S. Asian crisis and Russia.

I've been reading "EU will bail out Greece" and then "not" and then "labor unions in Greece to blame, yada, yada" and then "oh we're all ok".

But when I saw debt ratios Spain sure looks bad, but the UK sure doesn't look very good to me either.

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1997 Asian Currency Crisis

It went like this:
Thailand

then Philippines, Vietnam, and Indonesia (which it hit worst of all).

followed by South Korea and to a lesser extent Taiwan and Japan.

Months later it would bring down Russia, which also brought down LTCM.

What most people don't remember is that the risks continued in the system until Brazil was forced to devalue in January 1999. This caused a recession in South America which effected its largest trading partner - Argentina.

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I am not sure I would have to check but

what do they have in common - pegged currency to dollar instead of floating it.

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the problem with Eurozone

is the Euro and the fact that not countries are equal.

Having sovereign currency that floats matters.

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As Prof. Stiglitz says

Greece has been condemned by European officialdom for its huge deficits. "No government or state can expect from us any special treatment," comes the warning from Jean-Claude Trichet, president of the European Central Bank. But Trichet failed to note that there had long been a double standard – in effect two Maastricht treaties, one for the large and powerful countries, another for the smaller and less powerful. When France broke the EU edict not to let debt [sic - budget] exceed 3% of GDP, there were strong words, but little else.

A principled Europe would not leave Greece to bleed

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