European Union (EU) leaders rocked the markets last week with a set of plans designed to put an end to the euro zone’s debt crisis. Word through the grapevine is that top EU officials stayed up all night just to put their differences aside and come up with potential solutions for their economic problems.
Among these proposals are plans to allow financially troubled banks to receive bailout funds directly instead of doling them out to governments and increasing their debt burdens in the process. Another proposal involved combining the ESM and EFSF in order to bail out bond markets. EU leaders also decided to create a 120 billion EUR economic growth pact aimed at supporting euro zone economies and preventing a rerun of the debt crisis later on.
Markets took the news positively as most major pairs skyrocketed by nearly a couple hundred pips. But did traders simply overreact to the announcements? Here are four reasons why the EU Summit euphoria might not last:
1. Traders set the bar so low.
Traders have been so used to hearing nothing more than vague plans from EU leaders during their previous meetings, and it didn’t help that German Chancellor Angela Merkel seemed unwilling to yield to other EU leaders’ demands prior to the recent summit. Because of that, market participants were bracing themselves for the worst and were expecting either more bickering or further inaction this time around.
Although traders were initially overjoyed about the announcements made after the recent EU Summit, they could realize later on that the results weren’t that much different from the previous summits. Once that happens, the rallies could reverse quickly as traders might grab the opportunity to reenter their short positions at better prices.
2. No concrete steps were taken at all.
Taking a closer look at the EU leaders’ announcements would reveal that, at the end of the day, no concrete action was taken and that all they came up with are plans.
For one thing, the decision to grant financially troubled banks direct access to bailout plans is still dependent on the creation of a centralized banking authority, which the EU leaders plan to put in place at the end of this year. At the rate the debt crisis is escalating, the euro zone can’t really afford to wait another six months!
On top of that, EU leaders didn’t make any commitments to provide adequate funding to the debt-ridden nations. Bear in mind that the combination of the emergency funds would only amount to 500 billion EUR, which is barely enough to meet Italy’s and Spain’s debt needs.
3. Germany barely budged.
Italian Prime Minister Mario Monti might have gotten Merkel to agree to direct funding to Spain and Italy, but she’s still far from being completely on the bandwagon with the rest of the EU.
Apparently, Germany still isn’t sold on the idea of being the lender of last resort, which was basically what most EU nations were hoping for.
Also, you’ll notice that while many topics were touched upon in the summit, there was no talk whatsoever of Eurobonds. In the past, Merkel hasn’t been shy about voicing her anti-Eurobonds sentiment, so the lack of progress on debt mutualization after a supposedly productive EU summit is certainly concerning.
4. EU leaders simply bought more time.
In a nutshell, the plans that European leaders ironed out basically involve funding debt with more debt, which is merely a band-aid solution instead of a long-term fix. In other words, the EU is simply buying itself more time.
Don’t even get me started on the 120 billion growth pact that’s supposed to enhance the region’s long-term growth prospects. Not only is it PEANUTS, but most of it has already been set aside and budgeted! Think about it: if this same 120 billion looked tiny when it was first proposed, what more now?