A “disastrous” German bond sale yesterday (23 November) sparked fears that Europe’s debt crisis was starting to threaten even Berlin, with the leaders of the euro zone’s two biggest economies still at odds over a longer-term structural solution.
With contagion spreading, a majority of 20 prominent economists polled by Reuters predicted that the euro zone was unlikely to survive the crisis in its current form, with some envisaging a “core” group that would exclude Greece.
“The debt crisis is burrowing ever deeper, like a worm, and is now reaching Germany,” one of the more eurosceptic backbenchers in Angela Merkel’s centre-right government, Frank Schaeffler of the junior coalition partner Free Democrats (FDP), told Reuters.
Underlining how deep the euro zone crisis has become, the German debt agency could not find buyers for almost half a bond sale of €6 billion. That pushed the cost of borrowing over 10 years for the bloc’s paymaster above those for the United States for the first time since October.
“It is a complete and utter disaster,” said Marc Ostwald, strategist at Monument Securities in London.
The new bond promised to pay out a 2.0% interest rate – the lowest ever on an issue of German 10-year Bunds. The auction’s average yield was 1.98%, down from 2.09% for the previous benchmark in October.
The poor debt sale by Europe’s powerhouse economy pushed the euro down to 1.336 against the dollar and European shares sank to 7-week lows.
Bunds slumped after the auction. Ten-year yields rose 14.5 basis points to 2.056%, yielding more than US Treasury notes for the first time since early last month.
Merkel, French President Nicolas Sarkozy and new Italian Prime Minister Mario Monti were to meet in the French city of Strasbourg on Thursday for a mini-summit.
They were expected to discuss the reforms planned by former EU commissioner Monti to put Italy’s finances back in order.
Finance Minister Wolfgang Schaeuble’s spokesman told a news conference that the auction did not mean the government had refinancing problems and few on financial markets disagreed.
But it was a sign that, as the bloc’s paymaster, Germany may slowly be pressured if the crisis continues to deepen. One senior ratings agency official said it could give Berlin cause to re-examine its refusal to embrace a broader solution.
“It’s quite telling that there has been upward pressure on yields in Germany – it might begin to change perceptions,” David Beers of Standard & Poor’s told a conference in Dublin.
The borrowing costs of almost all euro zone states, even those previously seen as safe such as France, Austria and the Netherlands, have spiked in the last two weeks as panicky investors dumped paper no longer seen as risk-free.
“Bunds are starting to lose their appeal because markets have to believe the euro bonds story and Germany is very close to starting, essentially, to guarantee the debt of other countries,” said Achilleas Georgolopoulos, strategist at Lloyds Bank in London.
The crux of an acceleration of the crisis in the past month is Italian bond yields’ jump to levels around 7 percent widely seen as unbearable in the long term, despite intervention by the European Central Bank to buy limited quantities.
Determined not to be pushed around by financial markets, Merkel is resisting calls, most notably from France, to allow the ECB to act more decisively.
In a forceful speech to the Bundestag, the lower house of the German parliament, Merkel warned against fiddling with the bank’s strict inflation-fighting mandate. She also hit back at proposals from the European Commission on joint euro zone bond issuance, calling them “extraordinarily inappropriate”.
Shortly before she began speaking, French Finance Minister Francois Baroin told a conference in Paris that it was the ECB’s responsibility to sustain activity in the currency bloc.
“The best response to avoid contagion in countries like Spain and Italy is, from the French viewpoint, an intervention (or) the possibility of intervention or announcement of intervention by a lender of last resort, which would be the European Central Bank,” Baroin said.
Merkel has said the EU treaty bars the ECB from acting as a lender of last resort and printing money to buy government debt. She rejected joint “euro bonds”, dismissed a proposal to mutualise the euro zone’s debt stock, and rebuffed attempts to allow the bloc’s rescue fund to borrow from the ECB or the IMF.
Yet at the same time, she has declared that the only answer to the crisis was “more Europe” and won endorsement from her party to press for a fully fledged European political union based around the euro zone.
There is a risk that one of the euro zone’s 17 member states could leave the single currency bloc, Bank of England policymaker David Miles said in an interview broadcast on ITV late on Wednesday.
“I don’t think any of us can feel confident one way or another about whether all the countries that are currently in the euro zone will still be in it,” he said. In a Reuters poll conducted over the last 10 days, 14 out of 20 prominent academics, former policymakers and independent thinkers agreed the euro zone’s make-up would change.
A new “core” euro zone with fewer members received qualified backing from 10 economists as a possible solution, with seven of them saying Greece should be excluded from it.
“The euro zone can and should survive, but it will not survive on the current trajectory,” said Jeffrey Sachs, Director of the Earth Institute at Columbia University in New York.
The very public jousting over what to do next underscores just how divided European leaders are on how to resolve the turmoil which has accelerated to engulf big countries such as Italy and Spain, and pushed out leaders in Rome and Athens.
“We don’t know where this is going,” said Richard Jeffrey, Chief Investment Officer at Cazenove Capital Management in London. “Do not think the political leaders know where they are taking it.”
Commission proposal on Eurobonds
With time running out for politicians to forge a crisis plan that is seen as credible by the markets, the European Commission presented a study on Wednesday of joint euro zone bonds as a way to stabilise debt markets.
European Commission President José Manuel Barroso unveiled proposals for much more intrusive oversight of euro zone countries’ budgets and efforts to meet macroeconomic targets, and set out the options for introducing common euro zone bonds.
“I welcome Barroso’s proposals, which are a real step forward on many points,” Dutch Finance Minister Jan Kees De Jager said in a statement. “It will, however, still be an uphill battle, for there are those who resist further discipline.”
“Eurobonds are not a magic solution to the current crisis and could even worsen it,” he said. “We have to do first things first, and that means establishing strict supervision and enforcement of budget.”