So much for the idea that the only way for the eurozone to get of its hole is through a depreciation of the exchange rate. In a world in which central banks have all hit the zero bound, it is very hard to drive down your own interest rate. The combination of some positive headline news, plus a new programme of bond purchases in the US has return us to a position where we were before the eurozone crisis turn ugly. This morning we registered an exchange rate of $1.3026 after yesterday’s statement by the FOMC, which unlike the OMT, is a real bond purchasing programme, of an additional $40bn per month, plus rollover of existing purchases, while the OMT is conditional on rescue applications that may never be forthcoming. If you compare the policy stance across the two central banks, the eurozone has again the tighter stance. A question that will weigh on investors’ mind to which extent to the OMT and the newly appreciated euro will make it harder for the eurozone periphery to turn around.

Draghi says he will defend his programme in front of the Bundestag

Mario Draghi told Suddeutsche Zeitung an interview that he is ready to defend the Outright Monetary Transaction in the Bundestag, if invited. He said that would be a good way to explain the ECB’s thinking. Draghi made clear that the goal of the programm is not to fund government, but to ensure that consumer and companies in the periphery have the same market interest rates as consumers and companies in the core of the eurozone. If countries failed to meet the conditions, the bond purchases would stop, he said, and the governments would be held responsible for taking away this benefit to consumers and companies. Draghi said the progamme already brought a return of confidence, as investment managers are return to the eurozone.

ECB lists four transmission mechanisms of OMT

FAZ reports, disapprovingly, on the ECB’s monthly report, which gives a solid defence of the OMT programme. The article feigns surprise by the fact that Mario Draghi does not seem to be impressed by the German constitutional court, which after all has no jurisdiction over the ECB. In the monthly report, the ECB outlined four transition mechanism that lead from high sovereign debt yields to high interest rates for companies and consumers. The first is the expectations channel – if a state is deemed to be heading into difficulty, expectations change about finance conditions for the private sector. The second is the direct competition between bank debt and state debt; if the yields on sovereign debt rise, so must the yields on bank debt; third, the secured inter-bank market uses government bonds as collateral; and fourth is the balance sheet effect for banks through a reduction in the value of sovereign bonds.

More on the constitutional court and the ECB: Wolfgang Janisch says don’t expect this to have legs

Wolfgang Janisch writes in Suddeutsche Zeitung that the German constitutional court has so far refused to take matter to the ECJ, for fear of losing its own influence. He writes the court is no longer wedded to this principle, and the ECB’s OMT programme may well prove a casus belli. And it would have to do itself, since the government is not going to do it for them. Janisch quotes a well-known European lawyer as saying that the court is unlikely to make much headway in this issue. First of all, the ECB has designed the OMT in such a way that it cannot be accused of funding states; the purchased bonds would continued to have a secondary market value. Furthermore, it is hard to see how the court can actually get the case to the ECJ? It will be very hard to argue that the ECB violates German constitutional law. The so-called democracy-principle can hardly apply to an independent central bank. And the ultra-vires rules also do not apply in this case. His conclusion that the reach of the courts will ultimate not extend to the ECB.

(We could not agree more.  The idea that the German constitutional court is dictating policy to the ECB is completely absurd.)

Greece poised to agree on lifting retirement age to 67

In an effort to conclude an agreement on the €11.5bn austerity package with the troika, the Greek government is poised to accept a rise in retirement age in Greece rising from 65 to 67, Kathimerinireports. The new retirement age rise would lead to savings of €1bn per year. The government believes this measure is a less damaging step than seeking the savings elsewhere. Nevertheless, the government still faces some tough choices to settle on the €11.5bn of cuts with the lenders. One of the options being considered is the scrapping of the tax-free threshold, which is currently at €5000 euros after being lowered last year. The troika has proposed that as part of an overhaul of its tax system, Greece should introduce just four brackets, with those earning up to €22000 paying 18% income tax, those earning between €22000 and €45000 paying 35% in tax, incomes between €45000 and €100000 are to be taxed by 40%, and those over €100,000 by 45%.

Greek government denies reports about third bailout programme

Greece’s Finance Minister on Thursday denied a report citing the country’s representative to the IMF as saying Athens would need a third bailout package. “The country’s positions are formulated by the Prime Minister and the Finance Minister,” Yannis Stournaras told Reuters.

Angry reactions to Portugal’s tax hike plans, Socialists threaten to vote against budget

Anger at new tax rises in Portugal gathered steam on Thursday with the main opposition Socialists threatening to end a cross-party backing for an EU/IMF bailout by voting against the 2013 draft budget unless the government backs off on taxes, Reuters reports. Polls show that Socialists are ahead of ruling Social Democrats for the first time. Last Friday, the government said it planned to raise social security contributions by all workers to 18% from 11% in 2013 and lower the levy for companies to encourage them to hire more workers.  Criticism of the tax hikes from unions and opposition parties grew louder this week after Portugal’s lenders, the European Union and IMF said on Tuesday they had agreed to scale back the country’s fiscal goals under the bailout. The head of Portugal’s biggest employers group launched an unusually strong criticism of the centre-right government’s tax increase, saying the “pillar of social stability” had been shaken by the move, even though companies would pay less to social security.

Irish think tank: More austerity needed if Ireland wants to meet targets

The Irish Fiscal Advisory Council, said more austerity is needed in the years ahead if the Government wants to be confident of meeting its targets, the Irish Times reports. The think tank, which was set up at the troika’s behest to offer independent analysis of the Government’s policies, suggests that an extra €1.9bn in taxes or cuts in 2014 and 2015 would be required because the economic situation is so fragile. The situation overseas and at home makes it exceptionally difficult, so some sort of buffer needs to be built into calculations,.goes the argument. The council also took a swipe at the government’s plans for a €2.25bn stimulus package, which was announced with great fanfare over the summer. The plan has not been properly costed and is not transparent, the council said.

Belgium needs to find €4.6bn for the 2013 budget

Several Belgian newspapers including Le Soir report that the Belgian government is to make extra efforts to make sure they stay on track with its deficit reduction. The Belgian economy is  forecasted to grow only 0.7% in 2013, according to the National Planning Bureau, rather than 2%  assumed in the 2012 budget . Without additional efforts the deficit would reach 3.35% of GDP. The government would thus need to find an extra €4.6bn in spending cuts or higher taxes.

Spain’s regions on track to meet deficit targets, says government

Spain’s Minister for Finance and Public Administration, Cristóbal Montoro, presented a quarterly report of budgetary compliance in the parliament on Thursday, covering the first half of the year, reports El Pais (English edition). The target for the year had been set at 1.5% of GDP, and the deficit in the first two quarters added up to 0.9% altogether. The minister admonished those who claim the regions will not meet their deficit targets or that the public finances are out of control. At the same time, he reassured government providers that the central government would ensure bills are paid, as quoted by Expansion, to avoid “financing through not paying providers”. In some regions.

Regarding the financial rescue of Spanish regions, Montoro said that it cannot be guaranteed that the funds will be available before the Conference of Regional Presidents to be held on October 2nd, according to La Vanguardia. The fund is sized at €18bn, of which the Treasury will contribute €4bn and the national Lotteries administration €6bn. Europa Press reported Thursday that the government had entered into an agreement to borrow the remaining €8bn from financial institutions.

In other state finance news, the government announced Tuesday a reform of the income tax, applying to capital gains realized within a year the taxpayer’s marginal income tax rate rather than the current flat rate of 21%. Thursday it emerged that the change will affect also capital gains from real estate transactions, reports RTVE. Since the change applies to income tax, SICAV collective investment schemes will continue to be taxed on their capital gains at 2%. El Economista explains that the intent is to reverse a reform by Zapatero in 2007 which is claimed to have led to higher short-term speculation. Montoro is also exploring other taxes on financial transactions, though he opposes a Tobin Tax, RTVE writes.

Bank of Italy says productivity a very big problem

Bank of Italy governor Ignazio Visco addressed productivity, considered a “very big problem” for Italy and its competitiveness, La Repubblica reports. Visco said productivity “does not mean squeezing workers for all they are worth, it means investing and leveraging law-abidance, human capital and doing away with unnecessary red tape.” According to latest OECD data, salaries increased 0.3% in Q2 2012 on a monthly basis and 0.8% on an yearly basis. Meanwhile, Italy is the 15th of Eurozone countries for productivity, according Italian statistical agency ISTAT. Talking about the latest ECB decisions, the Italian central banker said he thought the ESM for highly indebted Eurozone countries alone was insufficient to tackle the current economic and financial crisis.

Confindustria warns about deep recession and calls for a ESM programme

The Italian business lobby Confindustria reiterates that Italy risks a deep recession, Il Sole 24 Ore reports. “Up to now the consequences of the crisis on Italian GDP, down 6.9% since its peak in the third quarter of 2007, had worse effects than the First World War,” Confindustria’s Study Centre said. Despite that, the lobby said Italy will run balanced budget in 2013, when the deficit is expected to drop to 0.2%. According to the country’s economic outlook released by Confindustria’s Study Centre today, the public deficit will be 0.7% of GDP this year and 0.2% next year. The primary surplus is estimated at 3.1% of the GDP in 2012, and is expected to rise to 4% in 2013, slightly lower than the June forecasts of  4.3%. Excluding the cyclical component, it will be 4.5% for 2012 and 5.2% of GDP for 2013. Unfortunately, Confindustria confirmed its June forecasts that 2012 GDP would dip by 2.4%, but revised 2013 figures to a drop of 0.6% from previous 0.3%. Meanwhile, the labour market remains vulnerable to economic shocks. According to Confindustria data, in the second quarter of 2012, unemployed people increased by 758,000 as compared to 2011.

Reuters reports on a comment by Girogio Squnizi, head of the Italian employers association Confidustria, who said that to cement Italy’s reform agenda, he recommended that the Italian government makes the leap, and sign for a programme before the spring elections.

Anatole Kaletsky says expect the crisis to continue

He was also more optimistic than most of the other commentators, so please take note when former Times and now Reuters columnist Anatole Kaletsky writes that he expects the crisis to continue. He notes that the ECB’s OMT programme and the ruling by the German constitutional court had created some optimism, but this will probably prove as temporary as all the previous outbreaks of euphoria. He argues that Draghi’s promise to spend unlimited resources is logically undermined by the conditions the ECB has attached to its support. This is the mechanism as he sees it:

“The upshot is that every debtor country in Europe is now a sitting duck for currency speculators. Italy, Spain and other debtor countries can expect no support from the ECB until their economies deteriorate to the point where they will submit to ESM (European Stability Mechanism) austerity programs. And once debtor countries do agree to such programs, they will face speculation about the loss of ECB support whenever they appear to be missing their fiscal or reform targets. That in turn will force them either to abandon the euro or to tighten the fiscal screws even further and suffer more deflation.”

	10-Y Spreads, Forex, ZC Swaps and Euribor-Ois
	The main change is the overshooting euro.
10-year spreads
		Previous day	Yesterday	This Morning
France		0.620	0.625	0.657
Italy		3.454	3.525	3.545
Spain		4.064	4.087	4.191
Portugal		6.631	6.626	6.852
Greece		19.246	19.257	-1.55
Ireland		3.832	3.726	3.945
Belgium		0.992	1.011	1.038
Bund Yield		1.588	1.567	1.547
Euro Bilateral Exchange Rate
		Previous	This morning
Dollar		1.291	1.3026
Yen		100.360	101.16
Pound		0.802	0.804
Swiss Franc		1.209	1.2163
ZC Inflation Swaps
		previous	last close
1 yr		2	1.97
2 yr		1.78	1.75
5 yr		1.91	1.89
10 yr		2.19	2.17
Euribor-OIS Spread
		previous	last close
1 Week		-7.643	0
1 Month		-5.743	-3.343
3 Months		6.757	6.657
1 Year		62.571	63.271
Source: Reuters