Euro: Political risks weigh on common currency – Commerzbank

Commerzbank’s Thu Lan Nguyen argues that growing concerns over France’s public debt sustainability are now weighing on the Euro (EUR), after previously leaving the currency largely untouched despite bond market turmoil. She highlights the risk that the European Central Bank (ECB) could be forced into a more accommodative stance and notes that German Bunds’ safe-haven status currently limits the Euro’s depreciation potential.

Debt worries and ECB risk channels

"Concerns about the sustainability of France’s public debt are becoming more widespread. They have now started to weigh on the euro as well, which had remained more or less unaffected by the turmoil in bond markets in recent months. What has changed?"

"From an FX perspective, the problematic aspect is that the ECB plays a central role in this mechanism. In a worst-case scenario the ECB could face a dilemma between its mandate to preserve price stability and its responsibility to safeguard financial stability."

"The fact that the common currency is now coming under pressure suggests, on the one hand, that markets see a rising probability that the ECB may have to intervene after all. On the other hand, it indicates growing doubts that the tools specifically designed for such a scenario would be sufficient to contain the problem. Instead, markets appear increasingly concerned that the ECB could ultimately be forced into a more persistently accommodative monetary policy stance in order to ease pressure on long-term bond yields."

"As long as investors have access to a euro-denominated safe asset, the current problems of the French government remain a problem for OATs rather than for the euro itself."

"Early signs of contagion spilling over to Germany would therefore constitute a clear warning signal for the euro."

(This article was created with the help of an Artificial Intelligence tool and reviewed by an editor. Know more.)