Central Banks Warn Greek-Led Euro Stress Threatens World

Central Banks Warn Greek-Led Euro Stress Threatens World

By Simon Kennedy - Jun 15, 2012 2

Central banks intensified warnings that Europe’s failure to tame its debt crisis threatens to roil the world’s financial markets and economy as Greece’s election in two days looms as the next flashpoint for investors.

Monetary policy makers from the U.K. to Japan and Canada sounded the alert about potential fallout from the single currency bloc’s troubles. They spoke as Group of 20 leaders prepare to meet in Mexico next week amid the weakest international economy since the 2009 recession.

A victory by Syriza, the party that promises to renege on Greece’s end of the bailout deal, could speed the nation’s exit from the euro. Absent a quick fix from divided European governments, central bankers may have to engage in fresh crisis- fighting of their own to ensure markets operate and their economies grow if the election jolts investors. Spain’s 10-year bond yield vaulted to 7 percent yesterday in a fresh sign of the stress that has plagued the region for two years.

The crisis has created a “large black cloud of uncertainty hanging over not only the euro area, but our economy too, and indeed the world economy,” Bank of England GovernorMervyn King said in London late yesterday.

‘Major Shock’

Canada faces a “major shock,” and global financial conditions could deteriorate significantly if Europe’s crisis worsens, the country’s central bank said yesterday. Bank of Japan (8301)Governor Masaaki Shirakawa said June 13 that the euro area poses the biggest challenge to the world’s No. 3 economy. The BOJ today kept monetary policy unchanged, while saying it will be giving “particular” attention to global market developments.

A week after opening the door to an interest rate cut, European Central Bank President Mario Draghi said today that while there are “serious downside risks” to the economic outlook, political choices take precedence over monetary policy. He reiterated the ECB “will continue to supply liquidity to solvent banks where needed.”

“It will be very important for central banks over the next few weeks to articulate what their role is,” said Lawrence Goodman, president of the Center for Financial Stability inNew York, a research group focused on financial markets. “The key goal will be to provide sufficient liquidity in the event of a freeze.”

Global Efforts

U.S. stocks advanced yesterday after Reuters reported that central banks are prepared to coordinate actions if needed to boost liquidity in financial markets, citing officials linked to the G-20 nations. The Standard & Poor’s 500 Index added 1.1 percent to 1,329.10 at the close of trading in New York.

Central bankers have been at the forefront of efforts to insulate their economies from the financial crises that began to rage in August 2007. In October 2008, they cut interest rates in unison, and at the end of last year, six of them made it cheaper for banks to borrow dollars in emergencies. Dollar swap lines have been repeatedly augmented since the 2008 collapse of Lehman Brothers Holdings Inc.

Investors want global leaders to take action on reviving economic growth, Institute of International Finance Managing Director Charles Dallara said in a letter yesterday to the G-20. He said markets “will be looking expectantly for evidence of a globally coordinated policy response targeted to revive growth prospects.”

Spanish Aid

Europe’s turmoil this week forced Spain to ask for a bailout of its banks that may run as high as 100 billion euros ($126 billion), making it the fourth and largest euro-zone economy to seek aid. The record yield on Spanish bonds has fueled speculation the world’s 12th-biggest economy may need a full rescue.

Attention is turning to Greece, which votes a second time in six weeks after a May 6 ballot failed to yield a government. The Syriza party, led by Alexis Tsipras, is vying for first place in the opinion polls with a promise to abrogate the terms of the 240 billion-euro bailout from the European Commission, ECB and International Monetary Fund. That’s drawn warnings that it could cost Greece the aid it needs and ultimately its place within the euro.

Monetary policy makers are already leaning toward greater stimulus a week after China cut borrowing costs for the first time in four years. King said yesterday that more aid may be needed in the U.K., and a new plan to spur bank lending may be in place in a few weeks.

Coordination Chance

Federal Reserve Chairman Ben S. Bernanke says U.S. policy makers will discuss next week whether to do more to spur growth. Both have pointed to the limitations of repeated monetary support. The Swiss central bank yesterday pledged to keep defending its franc cap and left borrowing costs at zero to offset “exceptionally high” risks from the euro area.

Shirakwa said today a strong yen could also hurt his economy and has said the central bank is watching its effect.

While the G-20 could consider coordinated monetary stimulus, it’s unlikely given neither the U.K. nor European central banks acted when they had a chance a week ago, Andrew Kenningham, an economist at Capital Economics Ltd. in London, said in a report yesterday.

“In fact, we think the central banks which matter most are unlikely to agree to further significant policy stimulus this year unless and until the crisis in the euro-zone deteriorates further,” he said.

Mexico Summit

G-20 governments are also indicating they will use the June 18-19 summit in Los Cabos,Mexico, to again demand Europe pursue fresh measures. It’s the fourth consecutive such meeting at which Europe’s strains have topped the agenda and comes seven months after talks in Cannes, France, were dominated by the prospect Greece could be forced from the euro.

Canadian Finance Minister James Flaherty said June 13 that “a disruptive moment” could occur if Greeks back anti-bailout parties, which may end up costing the country membership in the euro. U.S. Treasury Secretary Timothy F. Geithner said the same day that European leaders “recognize they’re going to have to do a bunch more.”

“Countries outside of Europe have been consistent in calling for bolder, less incremental measures to stem the crisis,” said Daniel Price, who organized the first G-20 summit for President George W. Bush in 2008 and is now managing director of Rock Creek Global Advisors, a Washington-based consultancy. “They are losing patience with the apparent inability of Europe to implement reforms all recognize as necessary.”

German Pledge

Chancellor Angela Merkel, leader of Europe’s biggest economy, said yesterday Germany is willing to help resolve the regional strains though cannot tackle the global fallout alone.

Acknowledging that Germany, as “the engine of growth and anchor of stability in Europe,” will be asked to do more in Mexico, she said the nation would do so because “we are convinced that Europe is our destiny and our future.”

Merkel still rejected all “seemingly easy” solutions, such as issuing joint debt.

European leaders are preparing for their own summit in Brussels on June 28-29 aimed at devising ways to better integrate the euro area. They will press for new efforts to boost the economy and improve lending conditions as well as seek “more specific building blocks” to link budget and banking policies, according to a draft document prepared for those talks.

Draghi said a blueprint he is working on with European Union President Herman Van Rompuy, Luxembourg’s Jean-Claude Juncker and European Commission President Jose Barroso will be published “very soon.”

“Markets and people need to be reassured that we are still travelling together,” Draghi said.