See more short term policy action from EU summit: Unicredit

According to Marco Valli, the chief eurozone economist at Unicredit, the market should not hold high hopes for any steps towards fiscal or banking integration from the upcoming European Union summit.

In an interview to CNBC-TV18, Valli says that European leaders are once again going to provide a short term fix for the market which will help stop speculation. He goes on to say that euro bonds are not on the agenda this time because of Angela Merkel’s opposition to the same. Below is an edited transcript of his interview with Latha Venkatesh and Gautam Broker. Also watch the accompanying video. Q: We are seeing some bit of green in the equity markets and some dip in bond yields. What are they expecting at all from the EU summit? A: There is a lot of uncertainty on the actual outcome of this summit. There is a broad consensus that there will be an agreement between the European leaders on the long-term prospect and vision for the eurozone, including a banking union and more coordination in terms of the fiscal policy. But what the market’s concerned about is that there is a possibility to come up with a credible plan to stop speculation in the very short term. So now the market is focusing more towards a short term policy action which would have an immediate effect on spreads in countries like Spain and Italy rather than the long term architecture of the eurozone, on which I think the euro leaders will be able to find some constructive compromise. Obviously we also expect some formalization of the announcement that they will be a gross plan in terms of infrastructure investment for the eurozone. So pan-European infrastructure investment plan was about 1% point of GDP, which is a good amount, but certainly not enough to change around the market sentiment for the time being. Q: Do you think that Germany might continue to hold stance on euro bonds and not allow anything on that front, but they could relent a bit on the use of the European Stability Mechanism (ESM) or the European Financial Stability Facility (EFSF)? A: I think on euro bonds there is almost no possibility that we could have some concessions by the Germans, so euro bonds for the time being are probably not an option. What compromises can be reached is on the tasks and the features of the ESM. In terms of trying to use this fund in the most efficient possible way to support countries like Italy and Spain or also other countries if needed. So it’s important that that the European leaders find an agreement on how make this fund work. Remember that the statute of the ESM already says that it’s possible for it to buy government bonds in the secondary and primary market. Just this needs to be defined and then there must be a compromise which possibly does not put too heavy conditionality on the countries that request to support. On the possibility of direct bank recapitalization, on this I am a bit skeptical because currently the statute ESM forbids this kind of practice. What would be more interesting is probably whether there will be a debate on the statutes of a preferred creditor, which currently the ESM enjoys. It would be a step forward if the ESM is made pari paasu without a commercial debt and therefore the issue of subordination would be no longer in the investors’ mind when they decide whether to invest in the Euro Zone government bonds. Q: So do you think if the Euro summit manages to provide some clarity on the use of the ESM, that markets could rally? And is that a realistic expectation, to expect something out of this summit clarity on ESM? A: I am not sure markets will rally because there is a lot of technicality involved in how to make it possible for the ESM to intervene in the primary and secondary market in an effective and timely way. So the announcement should be good news, but at the same time European leaders will probably not be ready this week; they will need to come up with convincing technical details which show that the ESM is actually effective in stemming the market speculation. So an announcement would be very good news, but then we will wait for technical details on how this will actually put in place. Q: Will there be a likelihood of more bond buying by the ECB as a temporary palliative or will that happen only if markets react very violently after the summit? A: The ECB can still buy government bonds. Although they have made several statements recently saying that they are not thinking about reactivating the securities market program given current market conditions. So in order to have them reactivate the program, we really need to see bad developments in terms of financial market following the EU summit. But also the ECB will put a lot of pressure on governments in order to have the EFSF or ESM start being operational, start working properly when it comes to buying government bonds. Let’s not forget that ECB is certainly a valuable actor when it comes to short term action. But at the end of the day, if eurozone has to be seen as some sustainable framework, the eurozone itself must be able to use the tools that it already has, which is the EFSF and ESM to intervene in the primary and secondary market of government bond. So governments do have the tools to allow ECB to stop buying government bonds. The problem is that the government has not yet made this tool operation, and this is something that the ECB does not like which explains why ECB remains to the sidelines for the time being.