One step forward, one step back on Europe’s sovereign debt crisis

Last week it seemed we had been saved from collapse as an outline deal emerged to tackle the sovereign debt crisis in the Euro zone but, at best, these gains have now been put on hold by Greece’s decision to hold a referendum on the package.

So if it was not clear before, it certainly should be now, there remains much to be done!  It’s worth noting however that the steps suggested would strengthen the European banking system and provide hope that sovereign debt would be brought under control.  A lot of the details are still to be agreed though, so even aside from the Greek dash to the polls, there was always going to be plenty of room for more grandstanding, volatility and disappointment.

The scale of the package has also frustrated some but there is a fine line to tread between putting enough commitment on the table and avoiding more moral hazard with bail outs.

With the haircut on Greek bonds for the private sector increased to 50%, this could help to stabilise Greece’s debt position fairly quickly – with the exchange of bonds planned for early 2012.  A “voluntary” write-down also avoids the dread “default” label. What’s more, with the “troika” to start continuous and on-the-ground monitoring of Greek progress, we have the first steps towards centralised fiscal control – and more is to follow with Italy under pressure for example.

Bank recapitalisation plans will also need to be in place quickly. Through support and balance sheet cuts, the 9% tier 1 capital ratio target is to be hit by next June. This will not help the flow of new finance for real estate but should help stimulate bank action and bank-forced sales.

Putting debt on a firmer footing does not mean that deleveraging in the public and private sectors can slow down. In fact it will only throw more attention on to the question of how we generate the growth needed to fund the debt we have.  Growth is therefore the next battle ground and this will require a rethink among many property investors who have been focussed of late only on income and income security.

Where will that growth be? What are currently considered “distressed” markets may have to reform most and those reforms may open the way for corporate growth and reorganisation that triggers more property demand. Longer term we also have the question of how much stronger Germany may become as the centre for a rejuvenated and stronger Euro zone?

Whilst it is too soon to judge now, taken together the measures being suggested may eventually be seen as a turning point in the sovereign debt crisis – once Greece and others accept the way forward. Indeed, an increase in risk taking by occupiers and investors could well begin quite quickly when the dust from Athens settles.  Firmer measures to finance the enlargement of the EFSF – possibly including China – could only help confidence recover more rapidly.

David Hutchings, European Research Group, London

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