November 9, 2012

After 3 bumpy years, Europe turning corner

Threats remain in Greece and Spain, and Europe's economy is forecast to get worse before it gets better. But an imminent breakup of the euro now seems unlikely, analysts say.

David McHugh and Don Melvin / The Associated Press Writers

FRANKFURT, Germany — The worst of Europe's financial crisis appears to be over.

click image to enlarge

German Chancellor Angela Merkel, center, speaks with European Central Bank President Mario Draghi, left, and Italian Prime Minister Mario Monti during a round table meeting at a EU Summit in Brussels in June.

AP

European leaders have taken steps to ease the panic that has plagued the region for three turbulent years. Financial markets are no longer in a state of emergency over Europe's high government debts and weak banks. And this gives politicians from the 17 countries that use the euro breathing room to fix their remaining problems.

Threats remain in Greece and Spain, and Europe's economy is forecast to get worse before it gets better. But an imminent breakup of the euro now seems unlikely, analysts say.

"We are probably well beyond the worst," says Holger Schmieding, chief economist at Berenberg Bank in London. He says occasional flare-ups in financial markets are likely, but "coming waves of turmoil will be less severe."

Evidence that Europe has turned a corner can be found in countries' falling borrowing costs, rising stock markets and a slow but steady stabilization of the region's banking system:

— The interest rates investors are demanding to lend to struggling countries such as Spain and Italy have plunged — a sign that investors are less fearful about defaults. Spain's two-year bonds carry an interest rate, or yield, of just under 3 percent — down from a July 24 peak of 6.6 percent. Italy's bond yields have dropped just as sharply.

— The Stoxx 50 index of leading European shares has surged 26 percent since June 1, while the euro has risen from $1.26 to $1.29 over the same period.

— After months of withdrawals, deposits are trickling back into Greek and Spanish banks, signaling that fears of their imminent financial collapse are abating. And U.S. money market mutual funds loaned 16 percent more to eurozone banks in September. That was the third straight monthly increase in short-term funding to European banks, and follows a 70 percent reduction since May 2011.

More proof the crisis is easing: Gatherings of European financial ministers no longer cause global stock and bond markets to gyrate with every sign of progress or a setback.

As financial-market panic recedes, euro leaders have more time to try to fix the flaws in their currency union. Among the challenges are reducing regulations and other costs for businesses in order to stimulate economic growth, and imposing more centralized authority over budgets to prevent countries from ever again spending beyond their means. That's important because a major cause of the crisis was Greece's overspending during the calm years after the euro's introduction in 1999, and Italy's failure to cut the high levels of debt it joined with. Other governments — such as Spain and Ireland — were saddled with debt piled up by banks and real estate developers during boom years.

Much of the credit for easing Europe's financial crisis goes to the European Central Bank, which has become more aggressive over the past year under the leadership of Mario Draghi.

The ECB said Sept. 6 that it was willing to buy unlimited amounts of government bonds issued by countries struggling to pay their debts. The ECB's pledge instantly lowered borrowing costs for Spain and Italy, which earlier in the year had faced the same kinds of financial pressures that forced Ireland, Greece and Spain to seek bailouts.

"Financial market confidence has visibly improved," Draghi said Thursday during a press conference.

German Chancellor Angela Merkel has also helped ease financial tensions across the region by speaking more forcefully about the need to hold the euro together.

Merkel's support is critical because Germany, the eurozone's largest economy, has the most at stake financially in any bailouts. Merkel has backed the ECB's bond-buying plan and has made conciliatory statements toward Greece. That has paved the way for the so-called troika of international lenders — the ECB, the European Union and the International Monetary Fund — to allow Greece more time to meet deficit-reduction targets. The Greek Parliament took a big step Wednesday toward securing its next batch of rescue loans from the troika by approving a new round of tax hikes and spending cuts.

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