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*This blog was printed in Professional Adviser and available online http://www.ifaonline.co.uk/professional-adviser/feature/2179192/rocky-eurozone

The Rocky Eurozone Show

The French Presidential elections resulted in voters taking “a jump to the left”, as President Sarkozy failed to win a second term without the support of those “taking a step to the right.” Francois Hollande is the first socialist president of France since Francois Mitterrand swept to power in 1981. Mitterrand was elected on a promise of change and remained in power for the next fourteen years. Hollande has campaigned in a similar tone, with change being more economic growth and less austerity. With French unemployment running at 10%, clearly the majority of the population have decided it is time for a different approach and rejected President Sarkozy. However, the options for change maybe fairly limited for the new president as France continues to face up not only to domestic economic challenges but also those of the Eurozone too. Hollande will soon be able to judge the size of the challenge with his first official engagement with German Prime Minster Angela Merkel.  

A resounding message of change was also delivered in the Greek parliamentary election - a further protest and rejection of tough austerity. The vote was always expected to be fragmented with neither of the major political parties, the conservative New Democracy nor the socialist PASOK forecast to gain a majority. The expected, and the most market friendly, result would have been if the two major parties, which have dominated Greek politics for many years, had been able to form a coalition with a sizeable majority. Both these parties have fully signed up to the conditions of the second bailout and remain committed to keeping the Euro. With smaller parties, from both political extremes, winning such a large majority of the vote this coalition hasn’t been possible. Therefore leaders of the New Democracy party have attempted to form a wider coalition with the common goal of realigning the bailout conditions. After much negotiation these attempts have failed, and fresh elections will be held at some point next month. In the interim Karolos Papoulias, the President, will oversee the forming a caretaker government.

The future of Greece in the Euro is uncertain, which is unsettling financial markets. The Euro has weakened to a four month low against the US dollar and government bond yields are rising again. Increasingly investors’ attention will turn to the other periphery nations of Portugal, Ireland and particularly Spain. The cohesion of the Euro lies in the fact that there is no provision for any member state to leave or be pushed out. Once investors believe this is a possibility this is likely to lead to a capital flight to safety without massive intervention by the ECB. Nothing has changed for all these countries and others, a brutal adjustment is needed to restore public finances and competitiveness whether they remain inside or outside of the Euro. Structural reform particularly around labour markets is urgently required, not an even more bloated public sector or increased infrastructure spending. We have been here before and the long term solution hasn’t changed. It seems the new political cast of The Rocky Eurozone Show will be singing “The time warp” before too long.

John Husselbee

16^th May 2012