Today there was some ease in the Italian bond market as the country successfully auctioned off intermediate term debt without any issues. This was good to see a drop in yields for the country but also a rise in the Euro, which has been highly correlated to the conditions coming out of Italy. This is welcome news as the perception of immediate danger to Italy (and the Eurozone as a whole) are put into perspective. Longer term there are still dangers that exist and need to be addressed for a true reversal to take place.
The issues with Italy have just started to spread to the global markets and this relief of pending doom was much needed. In order for it to last the Italian government will need to change their tone on the need to stay within the Euro and build a strong coalition that believes in carrying out existing contracts with Europe. This prospect might be too much to ask without another round of elections to (hopefully) show the people's discontent with the League and Five Star's abilities to manage a coalition. This is not something that will happen overnight, but steps in the right direction as the coalition scales back their rhetoric in order to form a government will go a long way.
Another important factor that needs to take place is to have the rest of the Eurozone acknowledge this issue and start to be more vocal about further integrating the currency bloc. By showing a willingness of other major countries to go in the right direction, and build a more stable monetary union, markets will keep the contagion of the Italian election to Italy. Positive news of better monetary integration would help to defang the message that the far right used to get elected, forcing them to change tact.
Amid the Italian elections and other geopolitical factors that are causing investors to run towards the dollar, there is some potential for good news coming out of Europe. First there is the news that Brussels will shortly be unveiling a plan to create sovereign bond-backed securities. While the acceptance among all countries will be a key factor in the success of the plan becoming reality, the rollout will show if the Euro countries will be ready to start talks about a tighter monetary union.
This leads into June where a summit will take place to reform the union. Much of this will be about Security, migration, and innovation, but also include Jobs, and long term budgets. It will be important to see how the countries come together on all of these issues. Showing a willingness to grow tighter together or continue to put their countries first. This will be important in the bond market in terms of spreads as fears of a slowdown start to form. During the first Eurozone crisis the political will was there for countries to make decisions that saved the union. This time the political landscape in the southern countries and nationalism exacerbated by migration in the north, will not make a second round of ad hoc measures works as well. Unity needs to start before the cracks start to form.
The dollar rally has been causing headwinds in emerging markets, with Argentina and Turkey being the noticeable victims at the moment. This rise in the dollar seems to come from two major factors, monetary policy and divergence in growth. We know that the Fed is moving into a tightening phase while many other major central banks are still easing. There is also signs that the global economy did not perform as well in the 1st quarter with the exception of the US, which is still maintaining its rosy outlook. Among advanced economies we see an example of the Euro being singled out as performing poorly.
Over the past month the slowing growth in Germany has caused capital to move out of the bloc. Italian politicians are still trying to form a government from the March elections, and with concerning results as news of the coalitions agenda are being revealed. Germany is resisting Macron's agenda for more economic unity within the region as Angela Merkel tried to keep their coalition happy. This is the issues that has made the Euro fall to the dollar from its really last year, slowing growth in the region and no real unity among the countries to do so. This needs to be watched because the disunity, while not the cause of these issues, could prevent the necessary steps to support growth from being enacted.