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Euro steadies ahead of Greek elections
Tuesday, 12th June 2012 07.13am

The euro struggled to make much headway today as worries over Spain's hasty bank bailout were compounded by jitters about the upcoming elections that may determine Greece's future in the euro zone.

Initial euphoria over Spain's weekend deal quickly waned as investors feared the bailout-related payments could come ahead of regular government debt in the queue for repayment, adding to its high borrowing costs.

The lack of clarity about where the funds would come from also weighed on the single currency. Traders worried existing bondholders could incur losses in any debt restructuring if the euro zone's permanent bailout fund was used for the rescue.

These concerns saw the euro trade at $1.2499, well below its Monday high of $1.2672, but also a safe distance from the two-year low of $1.2288 hit earlier in the month.

"We know very little about the Spanish deal. The interest rate and the period of the loan is a big unknown, not to mention the source of the funds, so I'm not surprised the market doesn't quite know how to respond to it," said Daisuke Karakama, market economist at Mizuho Corporate Bank in Tokyo.

"In the end, the euro failed to rebound after the deal, so I think there is almost no chance it would gain on short-covering ahead of the Greek poll," he said adding that the euro is most likely to stay tethered to the 1.23-1.25 band this week.

Parties that support and oppose Greece's international bailout and the harsh austerity measures accompanying it, are neck-and-neck in opinion polls ahead of the election this weekend.

European officials have discussed limiting the size of withdrawals from ATM machines, imposing border checks and introducing euro zone capital controls as a worst-case scenario should Athens decide to leave the euro. The options market fully reflected the skittishness among traders with 1-week euro/dollar implied volatility spiking to a six-month high at 14.9 percent as quoted by ICAP, up from 10.8 percent last Friday. The situation in southern Europe has been aggravated by an outflow of money from the region. Capital flight from Spanish banks hit a record for the euro period, with a net outflow of 66 billion euros in March, the most recent month for which figures are available. That was before Spain's fumbled nationalisation of teetering lender Bankia. Some market players, however, were already looking beyond the euro zone's fourth largest economy, and eyeing debt-ridden Italy as potentially next in line for a bailout, which the euro zone could ill afford. Economists at Citi said Italy faced rising debt for a prolonged period and "will most likely require some form of intervention from the ECB (which has already supported Italy twice), the EFSF/ESM (euro zone rescue funds) and the IMF at some point". "If it came to saving Italy, then the whole euro project would be in grave danger and everyone would look to Berlin to save Italy," said Michiyoshi Kato, senior vice president of forex sales at Mizuho Corporate Bank in Tokyo. Rome faces a test on Thursday, when it plans to offer up to 4.5 billion euros of fixed-rate bonds at its mid-month auction. ( C) Reuters

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