What do the decisions made at the European Union Summit last week mean to you?
If the stock market and European debt markets sustain the rallies seen after the EU Summit, credit unions can rest assured that the EU Summit will have little impact on economic trends here, and they can anticipate sustained opportunity in lending, including business lending. The EU decisions alone won’t provide a huge of a boost to business confidence here and abroad, but the stock market’s positive reaction does lessen the risk of retreat by businesses over the summer.
But watch the markets next week, not today. We’ll start getting a better idea of the real read of the Summit then. Businesses aren’t going to suddenly ramp up hiring based on a few days of better markets, but the higher the stock market goes, the more likely it is that businesses will start betting on better sales. This is not a game-changer but a mood-changer.
The key decision that surprised the markets and is providing the biggest boost to equities is the decision on bank bailouts. When the EU approved the Spanish bank bailout money two weeks ago, using funds that were pooled for sovereign bailouts, the EU made the critical mistake of making those loans to banks the ultimate responsibility of the sovereign.
The loans were first in line for payment and actually worsened the debt of the sovereign. That triggered the run to 7% for the Spanish 10-year note. The EU agreed to alter the program. The EU will lend from the fund directly to banks and take the risk of repayment directly. This won’t happen overnight.
The rest of the package met expectations but provided no breakthrough movements toward a real solution. The EU did nothing to pledge more funds for a “firewall,” no move toward a fiscal union, and no mention of Eurobonds. The EU simply bought more time. The big question is how much more time? Some analysts in the Financial Times were quoted as saying this pushes any crisis out to 2013. My bet is that EU Summit #20 will be on us before the summer is over. But the markets will ultimately determine how much time the EU bought.
If the equity markets continue to rally and give the EU a lot more time, bond yields should move higher for the next few weeks. The 10-year note could see a move back to 2%. Instead of a turbulent summer, this could be a breeze.
Businesses have done very well running mean and lean. Businesses won’t suddenly ramp up hiring plans until we see how the economy performs, but this does move them away from the eject button for employees. Businesses went into a holding pattern in April as the European crisis escalated. They looked at their calendars for June and saw the Greek election, the Supreme Court ruling on health care, and the EU Summit. It made sense to wait to see how these events played out before ordering higher production levels. Whether they liked all of the results or not, they at least have some clarity and that clarity could free them to play catch-up in production of goods after the springtime slump.
The bond market is not all that impressed by the Summit. Bond prices are definitely lower but not by as much as would be expected if the decisions were truly ground-breaking. The bottom line of all of this is that rates should return to “normal” as long as your definition of normal is a 2% 10-year note, which is my definition. A positive market environment, instead of turbulence, also bodes well for the continued gradual improvement in housing over the summer.
Limited income growth will still be a drag on consumer spending, but the consumer will still be able to splurge from time to time. But make no mistake about it, this rosy-ish outlook is solely based on the stock market and European bond market continuing to play along with the European Union.