Euro May Fall as EU, Italy Budget Battle Heats Up
TALKING POINTS – EURO, ITALY, EUROPEAN COMMISSION, EU
- European Commission may push back against Italy on budget
- EDP trigger likely to stoke uncertainty, weighing on the Euro
- G10 currencies in corrective mode after sweeping risk aversion
European politics are back in focus for currency markets, with Italy now in the spotlight. The European Commission will report on the country’s budget, which it has said breaches the regional bloc’s fiscal rules. For its part, Rome has balked at amending its position.
This puts Brussels in a difficult position. A tough punitive stance is likely to be spun as evidence of supranational overreach and used as fodder to support the very same type of anti-establishment politicians now in power in Italy. Looking the other way might embolden others to break the rules however.
Taking the unprecedented step of activating the Excessive Deficit Procedure (EDP) may be next. That would put Italy on notice and hit it with a fine of 0.2 percent of GDP. The money may be treated as a deposit and returned if Rome cleans up its act within 3-6 months. Otherwise, escalation would follow.
Since no country has been subject to EDP proceedings before, uncertainty surrounding it is likely to spook markets and push Italian borrowing costs higher. EU authorities may be angling for just such an outcome, hoping that market discipline of this kind will inspire swift compliance without the find being permanent.
While this may be as close as Brussels comes to finding a middle path between over- and under-reacting to the Italian government’s obstinate position, the Euro is likely to suffer. Absent precedent, traders may opt to divest themselves of EUR exposure until greater clarity emerges.
G10 CURRENCIES RETRACE AFTER BRUTAL RISK AVERSION
The Australian and New Zealand Dollars corrected higher while the US Dollar and Japanese Yen retreated as a corrective mood settled over the G10 FX space. The moves mark retracement in trading patterns at work amid brutal risk aversion yesterday.
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--- Written by Ilya Spivak, Currency Strategist for DailyFX.com
To contact Ilya, use the comments section below or @IlyaSpivak on Twitter
DailyFX provides forex news and technical analysis on the trends that influence the global currency markets.