Debt at record highs and rising rates impose a new stress test on the euro
The elephant in the room is called debt and, in the case of the euro zone, the pachyderm has reached gigantic dimensions by exceed 12 billion euros for the first time in the second quarter of the year. It is a historical volume that is equivalent to 94.2% of the wealth of all the countries that share the currency. Facing this level of indebtedness at the same time that the European Central Bank (ECB) tightens its monetary policy is going to be a stress test for the region, especially in the face of a strong braking perspective that, as international organizations warn and does not rule out the entity, can lead to a recession. Financing is not only going to be more expensive, but it will imply greater scrutiny from the markets to countries that are in a more vulnerable situation.
What happened in the United Kingdom may well serve as an example. A first review comes next week with the monthly meeting of the ECB’s Governing Council, which takes place on Thursday. The agency has made it clear that its priority is to stop the rise in prices, not growth. Thus, and despite the fact that its president, Christine Lagardewill refer to the economic risks facing the euro zone, it seems likely that the expected rate hike of 75 basis points (up to 2%) and the balance sheet reduction measures that it eventually applies, “may have a certain upward impact on the yield curve,” they point out from the market analysis consultancy, MacroYield.
This same Friday, the ten-year Spanish bond has exceeded the 3.6% threshold for the first time since 2014. Back in January, when the invasion of Ukraine seemed only a threat, the national reference yielded just 0.605% and inflation, which was still spoken of as a temporary ‘shock’, was almost three points below the last recorded data (The annual rate dismissed the first month of the year at 6.1% and in September Statistics placed it at 8.9%). It is not an isolated case. The interest of the German Bund, reference for the debt of the Old Continent, has reached levels in which it has not moved since July 2011 above 2.5%; and that of Italian debt is close to 5%, also its highest return in a decade.
The misgivings that Germany arouses in the South
The war in Ukraine and the energy crisis have hit the region’s largest economy, Germany, which in the middle of this year saw its trade surplus evaporate for the first time in more than three decades. Olaf Scholz’s government has openly acknowledged that its economy will enter a recession next year and that activity will fall by 0.4% for the year as a whole. The Bundestag, the Lower House of the Federal Parliament, approved this Friday the so-called “defensive shield” endowed with 200,000 euros, double the aid approved jointly by France and Italy, to alleviate the impact of the rise in energy prices in families and homes.
This tax package has raised misgivings among community partners. As happened during the pandemic -also in the last financial crisis- there is fear that actions of this type by those who can pull public spending will leave behind those who barely have fiscal space. This constant struggle between the North and the South, between the frugal and the rest, has become evident at the European Council meeting this week, the last one with Mario Draghi. The former president of the ECB has made ugly those who ask countries like his to share energy but they refuse to cap the price of gas or launch stimulus programs at the community level such as those approved against the covid crisis, and that would practically imply mutualizing the debt.
They will not have it easy in a context in which, like the economies, the community currency is also suffering, aggravating the inflationary effect (the annual rate of the CPI stood at 9.9% in September in the euro zone, one point above the Spanish) and the energy bill (the main raw materials are exchanged in dollars). The International Monetary Fund and the International Energy Agency have already urged European executives to prepare thoroughly for the coming year. “The energy crisis, especially in Europe, is not a transitory shock. The geopolitical realignment of energy supply stemming from Russia’s war against Ukraine will be extensive and permanent. The winter of 2022 will be difficult for Europe, but the winter of 2023 will probably be much worse,” warned the body led by Kristalina Georgieva in its latest report on prospects for the world economy.
In the Spanish case, its low dependence on Russia and its energy diversification allow it to face winter with a little more oxygen. It is the only one of the great economies of the euro – in some cases also France – to which international organizations, managers and analysts see growing next year, albeit modestly. The calculations oscillate between the 0.4% advance granted by Goldman Sachs and the 2.1% anticipated by the Government in the General State Budgets. Weak growth and higher financial costs. The Public Accounts contemplate that the State will have to dedicate 31,275 million euros in 2023 to debt service, 6.4% more than the previous year, although this figure could fall short if the ECB is forced to step on the accelerator with rate hikes and other monetary normalization measures.
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