Greek tragedy averted, but there's no end to euro crisis

Athens/Paris: Greece’s politicians agreed on Sunday to form a unity government to approve a euro zone bailout, with Prime Minister George Papandreou due to step down to break an impasse after the European Union demanded its parties join forces to avert bankruptcy.

But worried investors are already looking beyond Greece to the next crisis hotspot - Italy - and have given up all hopes for a conclusive solution to the debt crisis.

Discussion on who would lead the new Greek government would continue on Monday, the office of the Greek president said after the European Union gave Greece 24 hours to show how it will enact its 130 billion euro emergency funding package.

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“Today was a historic day for Greece,” Greek government spokesman Ilias Mossialos told reporters. A new government would be s,worn in and hold a confidence vote within a week if all went to plan, he said.

[caption id=“attachment_124850” align=“alignright” width=“380” caption=“Bye-bye, Papandreou. AFP”]  [/caption]

The two sides agreed that 19 February would be the most suitable date for elections, said the finance ministry, where the politicians met to discuss the timeframe for the new government.Beyond that, Papandreou’s agreement with conservative leader Antonis Samaras was thin on details.

“Tomorrow there will be new communication between the prime minister and the opposition leader on who will be the leader of the new government,” said the presidency statement.

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Papandreou and Samaras - who were once US college room mates - had to bury their deep differences and personal animosity, as Greece is deep in economic, political and social crisis, its future in the euro zone is in question, and their reputations among ordinary Greeks are at rock bottom.

“The two leaders had no other choice. If elections were held now, nobody would turn out to vote for them,” said Elias Nikolakopoulos, political science professor at Athens University.

“New elections will probably be held at the end of February or early March. They have no time to implement the EU bailout deal before then,” he added, speaking before the 19 February date was announced.

Piling on the pressure

Brussels has piled pressure on Athens to approve the bailout, a last financial lifeline for Greece, fearing that its crisis will spill into much bigger euro zone economies such as Italy and Spain – which would be much harder to rescue.

Papandreou and Samaras had been scrambling to reach a deal before finance ministers of euro countries meet in Brussels on Monday, to show that Greece is serious about taking steps needed to stave off bankruptcy.

Earlier, European Economic and Monetary Affairs Commissioner Olli Rehn told Reuters finance ministers from countries that use the single currency would insist on hearing a plan for a unity government from their Greek colleague Evangelos Venizelos at Monday’s meeting in Brussels.

“We have called for a national unity government and remain persuaded that it is the convincing way of restoring confidence and meeting the commitments,” he told Reuters. “We need a convincing report on this by Finance Minister Venizelos tomorrow in the Eurogroup.”

Many Greeks, who have suffered pay and pension cuts and massive job losses in the past two years, remained distrustful about politicians of all colours.

“Elections won’t solve any of our problems now. These parties don’t represent us anymore,” said Michalis Skevofylakas, 47, a teacher.

Papandreou, who heads the socialist PASOK party, and New Democracy chief Samaras are due to discuss on Monday morning who will be the new prime minister. Greek media tipped Lucas Papademos, a former deputy president of the European Central Bank, as a possible candidate.

President Karolos Papoulias, who led the talks that produced Sunday’s deal, will summon the head of all leading parties for more negotiations on Monday.

Investors abandon hopes

Disaster may have been averted in Greece, butthat did little to calm investors, who are already looking ahead to the next problem: Italy. Italian bond yields hit a euro-era high of 6.4 percent on Friday, raising fears the country may soon need a Greece-style emergency bailout.

The Greek agreement “may spark a brief relief rally,” said Alan Ruskin, head of global G10 currency strategy at Deutsche Bank. “But it won’t last and we will soon go back to focussing on Italy.”

“At the end of the day, it does seem like a grand plan is elusive at best,” said David Ader, head of government bond strategy at CRT Capital Group in Stamford, Connecticut.

“We’ve seen one European bank and one U.S. brokerage fail. We know there are strains for French banks. We’re wondering how long it will be before Greek default worries spread to Italy and Spain,” he said. “In a situation like that, money managers are going to decide to simply take their risk down.”

Back to the US dollar

Investors are betting the market will see evidence of that as soon as this week, as flight-to-safety flows help boost U.S. Treasury debt, lift the dollar against the euro and weigh on stock markets around the world.

The biggest fear is that a disorderly default in Greece or elsewhere would ripple across the global financial market the same way the Lehman Brothers collapse did in 2008. That, investors fear, would probably be enough to plunge the global economy into recession.

“This is going to be pretty negative news for risk markets,” said Jack Ablin, chief investment officer at Harris Private Bank in Chicago. “We are going to see a continued flight-to-quality tomorrow.”

Benchmark US 10-year note yields dropped more than 29 basis points in the past week and a half as worries about Europe overshadowed signs of economic improvement in America.

Ashraf Laidi, CEO of Intermarket Strategy in London, said he expected the euro to struggle again this week after losing nearly 3 percent against the dollar last week. By year end, he said it could fall below $1.30. It was around $1.38 Friday.

“This past week really raised some tricky questions,” he said. “For the first time I can remember, the possibility that Greece really could leave the euro zone was being talked about in cafes and bars as well as on trading desks.”

The weekend deal in Greece may stabilise things a bit in that it suggests Greece will keep the emergency funds flowing while making the tough spending cuts needed to get its fiscal house in order.

“What we had been afraid of was a stalemate. Now it seems the hard cuts will be made. I think equity markets will cheer this,” said Michael Yoshikami, president and chief investment officer at YCMNET Advisors in Walnut Creek, California.The cheering may not last long, though.

“These 24-hour risk-on rallies, I don’t know how much longer people are going to be willing to do that,” said Ader. “Sell-offs are getting deeper because the rallies are only short-covering moves. People are not getting long and putting on bets that everything is suddenly OK.”

From Greece to Italy

Deutsche Bank’s Ruskin said the focus is likely to shift quickly from Greece to Italy in the weeks ahead, and that should mean more volatility and unwillingness to take on risk.

Italy’s debt-to-output ratio stands at 120 percent, second only to Greece in the 17-country euro zone, and its borrowing costs are rising.

Prime Minister Silvio Berlusconi recently refused a loan offer by the International Monetary Fund and his government may be on the verge of collapse.

“Berlusconi says Italians are not feeling the crisis but that’s because the European Central Bank has been providing high levels of liquidity at low interest rates and buying Italian bonds,” Ruskin said. “That begs the question, should the ECB stop that to show them this is really a crisis?”

“I have to believe a lot of investors like me are thinking this could be the start of Italy week,” said James Paulsen, chief investment strategist at Wells Capital Management in Minneapolis. “Italy is going to rapidly rise on investor radar screens and may be the bigger story.”

Reuters