Once again, ee has taken the words out of my mouth :0) .. "Of course the possibility is a serious one that the Euro project is (and always was!) fatally flawed...and the only solution is one of:
a) full fiscal union (v unlikely)
b) formal defaults by Greece, Italy, Spain etc (also unlikely as Eurozone banks would need to take large haircuts and make substantial provisions - as RBS has already done with Greece, incidentally)
c) dividing the euro into a hard euro and a soft euro....or just chucking out those who don't pass the test. (the trouble with that approach is that markets will continue to pick off the weak until the Eurozone consists of Germany and France ;-))
But Merkel has already indicated she stands behind the euro. But she hasn't understood the scale of commitments that this implies. IMO they have to do a very much larger deal - and, for Merkel, it will probably cost her the next election....but it has to be done".
One thing seems certain: the euro cannot continue as at present indefinitely. The global economy and hence our investments are fundamentally affected by instability in Europe. I was at the first AGM of the JP Morgan Brazil Investment Trust (LSE:JPB) last week and was surprised and interested the learn that Brazil's largest trading partner (for exports) is not the US (9.5%), nor China (15.3%), but the EU (21.5%)!
So ISTM that it would be worth creating a place to discuss this topic.
My own view is that the most likely ultimate outcome is some sort of breakup of the euro, i.e. c) above - or even a complete breakup where each country reverts to their own currency. I take this view because I cannot see the German electorate being prepared to accept a German underwriting of PIIGS debt. Equally I cannot see countries being prepared to accept the loss of sovereignty that full fiscal union implies.
It may be quite a while before we reach the point where something dramatic and decisive happens. Maybe sticking plasters can continue to be applied for some time to come - maybe not!
A particular aspect of this that I am curious about is the impact on contracts that are written in Euros. There are many types of contract written in Euros. Some that occur to me are:
- Trade contracts between customers and suppliers
- Mortgages, loans and credit card agreements
- Insurance contracts
- Corporate bonds and sovereign debt
The first of these seems relatively straightforward to me, as many contracts can simply be renegotiated. However, this is more complex and troublesome where the subject of the contract is a long-running project of some type. There could be a hiatus whilst the the two parties thrash things out. This takes me back to a conversation I had with HG Capital Trust (LON:HGT) 's manager earlier this year about this topic, as HG Capital is heavily exposed to the Eurozone (but mainly Germany and northern Europe). I imagine that contracts with customers in less indebted and more stable countries can be renegotiated relatively straightforwardly, because the supplier will have confidence in the value of the customer's currency. However, contracts with customers in the PIIGS could be more troublesome. Those customers will want to stick to their own currency at whatever exchange rate prevails when that country decouples from the "old euro", but suppliers will not have confidence in that currency and will either want a more favourable exchange rate (to compensate for the risk which they can then hedge), or for the contract to be rewritten in a more stable currency. It could take rather longer to renegotiate those contracts.
Medium/long term this could be good news for banks, as there'll be more requirement for FX and FX derivatives, between parties that formerly were using the same currency as each other but now cannot.
Thoughts on the practical implications, or if you disagree with my analysis, would be particularly interesting to me.
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