Euro crisis far from over, stock analysts warn

Even though the elections in Greece seem to favor the main conservative party and prevent an European Union exit for now, the crisis is far from over. One expert cautioned that there are still to many problems going on in Europe to expect it to be over any time soon.

By PAUL WISEMAN and JOSHUA FREED
Jun 18, 4:50 AM EDT
Associated Press

WASHINGTON (AP) -- A slim victory for the main conservative party in an election in Greece should relax fears that a country will stop using the euro for the first time and possibly unleash global financial turmoil.

But when it comes to Greek politics - and European economic policy - it's never that easy. So the bumpy ride for financial markets isn't over yet.

The conservative New Democracy party, which supports a bailout agreement Greece agreed to earlier this year, appeared to win enough votes Sunday to form a ruling coalition with another pro-bailout party.

The result forestalled what financial analysts had most feared - a victory for Syriza, a leftist party that objects to the bailout terms. That could have sped Greece toward an exit from the euro and the world economy toward an unpredictable shock.

Dow Jones industrial average futures were up 34 points early Monday morning, suggesting the market could open higher. But analysts cautioned that any surge is likely to be brief. Asian stock markets rallied Monday, with Japan's Nikkei 225 stock average up 1.8 percent. The euro rose to $1.2686 from $1.2637 late Friday in New York.

Neil MacKinnon, global macro strategist at the investment bank VTB Capital, told his clients that the election result, combined with a Federal Reserve meeting this week at which investors hope for measures to stimulate the U.S. economy, could lift stocks.

MacKinnon cautioned, however, that there are still too many problems in Europe, particularly in Spain, plus evidence that the global economy is cooling, to justify a celebration.

"I think investors should treat any sort of knee-jerk rally with caution," MacKinnon said in an interview.

Investors learned that lesson last week. On June 9, European countries agreed to lend Spain up to $125 billion to save its banks. That was a Saturday. On Monday, the Dow Jones industrial average opened up almost 100 points but closed down 142.

Borrowing costs for the Spanish government crept closer to 7 percent, the level beyond which economists say countries can no longer finance their debt, throughout the week. They also inched higher for Italy. Those countries have the fourth- and third-largest economies among the 17 countries that use the euro.

So when stock and bond markets open around the world on Monday, a Greek doomsday will have been avoided, but there will still be plenty for investors to fret about.

"How long is it going to take for people to worry about Spain again?" wondered Peter Schiff of the brokerage Euro Pacific Capital.

The next two weeks could prove critical if any grand solution to the crisis is to be achieved. The leaders of the world's 20 largest economies gather Monday in Los Cabos, Mexico, for a summit, with Europe sure to be a major point of discussion.

And on June 28 and 29, leaders of the 27 member countries of the European Union will hold perhaps the most important meeting since the body was created two decades ago.

"This crisis is not over," said John Silvia, chief economist at Wells Fargo. "The crisis will wax and wane for years. Maybe it will wane for the time being."

For that matter, the problems of Greece are far from solved.

The rest of Europe will "lean over backward" to support a coalition led by New Democracy, said Douglas Elliott, a fellow in economic studies at the Brookings Institution.

The Socialist party of French President Francois Hollande also swept that country's parliamentary election Sunday, another victory for European unity.

Polls have shown that Greeks overwhelmingly want to stay in the euro and avoid a return to Greece's old currency, the drachma, which would sink in value immediately against the euro. Greece relies heavily on imports, so costs would rise sharply and living standards sink further.

But Greeks remain outraged by the public spending cuts demanded by European neighbors, notably Germany, in exchange for a total of $300 billion in bailout loans. Greek unemployment is almost 22 percent.

Syriza, the anti-bailout party, signaled on Sunday that it wants no part of a coalition government. And while New Democracy and Pasok, another pro-bailout party, have enough seats to form one, it could disintegrate quickly.

Greek politics has become extreme and fractious, MacKinnon said, and it is not clear whether a new administration in Greece could implement the wishes of its lenders, the EU and the International Monetary Fund.

With most of the vote counted, official results showed New Democracy would win 30 percent of the vote and 130 of the 300 seats in Parliament. Syriza had 27 percent and 71 seats, and the pro-bailout PASOK party had 13 percent and 33 seats.

"Basically, all this does is keep the patient on life support, but doesn't resolve the basic problem," he said. "So whatever the reaction in the stock market in the next couple of days, I would say treat with caution."

One market strategist, Paul Christopher of Wells Fargo Advisors, said last week that a Syriza victory could have led to a 15 percent decline in the Standard & Poor's 500 index within weeks.

That is because no one is sure how bad a Greek exit from the euro would be. Greece would almost certainly default on its debt, triggering losses for European banks that own its government bonds.

The worst case envisions a worldwide lending freeze similar to what happened after the investment bank Lehman Brothers went under in September 2008, during the U.S. financial crisis.

That threat has been dodged at least for now. But another investment bank, RBC Capital Markets, warned its clients on Sunday afternoon that Europe still lacks a "grand solution" for its debt crisis, and that "domestic fixes will always disappoint."

Even if Europe finds an answer, investors have to contend with other big problems in the world economy. Job growth in the United States is slowing, and China's white-hot economic growth is cooling.

Central banks of countries around the world have signaled they are ready to step in if the international financial system comes under severe stress or if the world economy gets much worse.

That prospect was enough to trigger a 270-point rally in the Dow on Thursday and Friday. But the sentiment of stock analysts heading coming out of the weekend was still decidedly negative.

"I think investors can only end up being disappointed," MacKinnon said.

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