Eurozone: Another week, same questions

As another week comes to an end, the unaddressed issues in Europe remain the same: Greece and Spain. Neither a finance ministers meeting nor a downgrade of Spanish debt rating helped to the matters. If anything, the uncertainty has grown.

Even though the sense seems to be that the Spanish government should be pushed to request for aid sooner rather than later after the S&P downgrade, triggering the ECB bond-buying program, PM Rajoy seems to have no rush to do so, especially as Spanish yields remain constrained. 

"Spanish bailout hopes and rumors are likely to persist into the weekend", says the Wells Fargo team. "While the timing remains highly uncertain, we still believe an aid request is more likely than not".

Meanwhile, Greece continues to be the other weak spot of Europe. This week International Monetary Fund Head said that forcing debt-burdened countries like Greece, Portugal and Spain to reduce their deficits too quickly is counter-productive because it hurts the economy.

IMF Managing Director Christine Lagarde said in a summit in Tokyo, that countries like Greece needed more breathing space. "Given the lack of growth, given the market pressure, given the efforts that have been undertaken, a bit more time is necessary," she said.

However, Germany held firm in insisting it was too soon to say Greece deserved more time to meet its deficit-cutting goals. Germany's Finance Minister Wolfgang Schaeuble warned against actions that could undermine credibility of deficit-cutting steps. "Until we have the troika report, we must not speculate," he said.

The troika will complete a revision on Greece next month and then will decide whether the country will receive the next tranche of its €130 billion bailout.

This week German Chancellor Angela Merkel visited Athens for first time since the onset of the European debt crisis, which was interpreted as a positive sign for markets, although Merkel did no mention about easing Greece's terms after her meeting with Greek PM Antonis Samaras.

Looking ahead...

All eyes will be on the EU summit next week although, according to UBS team, it can turn out to be a non-event.

According to Rabobank analysts, over the course of the coming weeks there are a number of events that could lead to more market tensions in Spain including regional elections in Catalonia and Galicia, the likelihood of more sour economic data and an impending ratings review from Moody's which could potentially judge Spain to be in junk territory. "These events have the capacity to push Rajoy into requesting a bail-out which no doubt would come as a relief to investors worldwide", says Rabobank team.

Meanwhile, the TD Securities team comments that it remains to be seen whether the EU being awarded the Nobel Peace Prize can inject the region's politicians with a stronger sense of fraternity in order to better tackle the regions problems with more conviction. "We are skeptical", they say.

Christopher Vecchio, Currency Analyst at DailyFX, expects that an eventual Spanish bailout will result in a collective sigh of relief by investors globally, at least for a few days if not weeks, as the attention would thus turn to Italy.

S&P downgrades Spain

Standard & Poor's rating agency downgraded Spain's rating by two notches to 'BBB-' late Wednesday, leaving the country one level about 'junk status. This move boosted investors' expectations for Spain's imminent request for EU bailout. Far from weakening the shared-currency, the downgrade fueled speculations that Rajoy should request a bailout sooner rather than later.

The rating agency Standard and Poor's announced on Wednesday night its decision to downgrade Spain from to 'BBB-' from 'BBB+', with a negative outlook stating that the deepening economic recession is limiting the Spanish government's policy options. "Rising unemployment and spending constraints are likely to intensify social discontent and contribute to friction between Spain's central and regional governments. Doubts over some eurozone governments' commitment to mutualizing the costs of Spain's bank recapitalization are, in our view, a destabilizing factor for the country's credit outlook."

"The negative outlook on the long-term rating reflects our view of the significant risks to Spain's economic growth and budgetary performance, and the lack of a clear direction in eurozone policy", S&P said.

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