As Eurozone leaders gather in Brussels today and tomorrow, there remain few signs of progress towards a common position to tackle the European financial crisis.
Proposals to ease the immediate funding concerns of countries such as Spain and Italy by intervening in sovereign bond markets and providing more direct help for Spanish banks are likely to continue to be opposed by German Chancellor Angela Merkel, whose country would finance most of them. For her part, Ms. Merkel believes that it would be irresponsible to engage in "quick fix" solutions, or commit Germany to joint liability, without improved controls and structural measures to prevent the same problems surfacing again.
The one area where there might be movement regards European banking supervision. This could be presented as the first step towards a banking union. In our view, however, the prospect of joint guarantees for bank deposits remains a long way off, and we share the market's scepticism about the likelihood of progress in the short term.
To break through the impasse, we need a comprehensive solution, capable of tackling failing European competitiveness, as well as restoring confidence in the banking sector and sowing the seeds of future growth. This, however, would require concessions and a surrender of sovereignty on both sides - acceptance of a lower credit rating on the part of Germany, and reduced control over national budgets on the part of all Eurozone members.
Our concern is that Germany simply isn't feeling enough economic pain to believe it has to compromise to support other Eurozone members, and other countries are still not ready to surrender control of their spending plans to a supra-national body.
In many ways, a Greek exit from the Eurozone could have provided the necessary sense of urgency to force a decision on the part of member states, and allowed the German Chancellor to get political support for a compromise by showing the cost of non-compliance by Eurozone members.
In the absence of such an event, our expectations (and the market's) are low for this summit and, indeed, for the economic outlook for Continental Europe at the present time. As we look forward from here, we repeat our concern that there is a risk that a combination of falling confidence, policy stalemate in Europe, the US fiscal cliff and Chinese interia leads to a global recession in 2013. This is not our central scenario, but the risk of it is no longer trivial.
In these circumstances, we remain very cautiously positioned across the multi-asset portfolios we manage as a firm, having decided to cut our position in risk assets and retreat to a more secure position last month. We have no direct exposure to European fixed income markets in the Baring Dynamic Asset Allocation Fund, and very limited exposure to European equities, and are unlikely to change this in the short term, absent a significant positive surprise.
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