The Hall of Mirrors - FX Solutions Market Update, 17th June 2011

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Date: Fri, 8 Jul 2011 Time: 10:26 AM
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Joseph Trevisani is Chief Market Analyst at FX Solutions (http://www.fxsolutions.com/). Calling on 20 years of experience in FX trading, he frequently provides Forex traders with an overview of currency market activity and news. Here, he takes an overview of Angela Merkel's retreat on Greece's sovereign debt and the effect it could have across Europe.

"In the currency market and in equities the entire week was prelude to Friday and Angela Merkel's retreat on Greek debt. Despite German bold and forceful statements of the past fortnight that bondholders must bear a "substantial" share of a new Greek bailout, presumably through accepting term extensions of maturing bonds, the Germans chose, in the end, to paper over the Greek fault yet again with a new layer of euros. There was little choice.

The German insistence that bondholders roll existing positions into new debt was grounded in the political needs of Merkel's shaky coalition government in Germany and not in the reality of the international credit markets. It completely and conveniently ignored what default would mean for the euro, the ECB and the European Union.

It was never at all likely that Germany would push her rollover position to completion. And, having milked as much domestic favor from their hardliner stance as possible, Schaeuble and Merkel caved on Friday. "We would like to have participation of private creditors on a voluntary basis. This should be worked out jointly with the ECB and there shouldn't be any dispute with the ECB on this." Considering that Jean Claude Trichet had never wavered from his assertion that a rollover would be a momentous mistake and that the ECB would not under any circumstance roll its own holding of Greek sovereign debt, the Merkel statement was surrender, however couched.

There should be some suspicion that the entire charade was orchestrated by Paris and Berlin in advance, knowing that Germany would have to reach an 'accommodation' with France and the ECB. German and French banks are some of the largest holders of Greek sovereign debt. Was Angela Merkel about to force a continent wide banking crisis by demanding default from Greece? The idea is preposterous.

There is no change in the European approach to Greece. The EMU, ECB and IMF will provide yet more billions in the hope that Greece will reform its political and economic structures, collect taxes, end corruption and develop an electorate that participates in the government in Athens rather than opposing it. The hope will be forlorn.

The European Financial Stability Facility exists in a hall of mirrors where the only sight is an endless reflection of the original image. The Europeans cannot officially admit that Greek default is the answer. So they conceive austerity programs that reflect only the need to provide Greece with more funds to forestall default. The purpose of the austerity program it to facilitate the bailout, it is not to permit Greece to exit its debt trap.

The longer the Europeans stay in their hall of default denial, the more difficult will be their exit and the more painful the consequences."

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