Recap 5-23-12

Main Items:

· Canadian Retail Sales less Autos increased just 0.1% MoM vs 0.5% exp and prev

· US New Home Sales improved to 343k in Apr vs 335k exp and 328k prev

· Overnight, former Greek PM and ECB VP Papademos warned that a Greek exit would cost 0.5-1 trn.


  • BoJ kept policy unchanged as expected.
  • Italy Consumer Confidence declined to 86.5 in May vs 89.5 exp and 89 prev
  • MPC minutes showed an 8-1 vote to halt QE as expected. The decision “based on the broad shape of the economic outlook rather than the precise numerical projection,” which suggests that the MPC’s confidence in staff projection of inflation has declined. (BoE staff forecasts are for 1.7% inflation in 3 years)
  • UK Retail Sales Ex Auto Fuel declined -0.3% YoY in Apr vs +0.7% exp and 2.8% prev

Upcoming Data:

  • Wed: China HSBC Flash Mfg PMI
  • Thurs: EU PMI, German IFO, UKGDP, US DGO, Jobless Claims, Japan PMI
  • Fri: Italy Hourly Wages, UMichigan Confidence
  • Mon: US Memorial Day, Italy Business Confidence, South Korea Business Survey,


Consensus expectations for a resolution of a Grexit appears to center upon additional LTRO’s, additional SMP purchases, or EU wide deposit insurance. I am at a loss as to how the deposit insurance is feasible, given that there is not appetite for a Eurobond, and such insurance would require fiscal commitment without the ability to enforce risk taking constraints. There are also many implementation issues. What percentage of the deposit shortfall is each country responsible for? That requires a supra-country regulator to count the Euros, and take control of the insolvent bank. All the EU parliaments will also need to approve the insurance into law. Also, there are the credibility issues. Will Greeks believe that Germany will bail out their deposits? And how will the EU governments fund the deposit shortfall? Issue debt at 7% as depositors are fleeing? Will depositors believe the insurance is solvent?

The remaining options (LTRO, SMP) are in the ECB’s domain. The average 10y EU sovereign yields, ex Germany, is now trading at 4.8%, not far from levels that have triggered SMP purchases in the past. The question is whether the ECB will re-engage at the same yield levels or whether they will act at a higher yield to put additional pressure on EU governments. However, there IS a case to be made for additional LTRO’s this summer. This is because 10y EU zero coupon inflation swaps have been falling, are now not too far from levels that helped trigger the LTRO’s last November:

As a result, additional policy easing could be defended purely using the ECB’s mandate. We may need to wait a while longer as the ECB probably wants to make sure the decline in inflation expectations isn’t a one-off, but recent trends in economic data and commodity supply & demand dynamics suggest the trend is likely to continue.