The tiny Nordic country had the power last week to put financial markets into panic mode, writes Jeff Sommer.
LAST Wednesday the eyes of the financial world turned to Finland. Finland? For all its virtues, that small Nordic country hasn't grabbed much global attention lately. But thanks to the quirky political and economic structure of Europe, last week Finland had the power to send financial markets into a tailspin.
As it turned out, the Finns didn't throw a wrench into the financial works. But that they were in a position to do so provided yet another reason for shaken investors to hide in the nearest bunker.
How did it come to this?
The euro zone has been a source of global instability for months.
In the latest episode, Finland, which has an impeccable credit rating, was asked to approve a measure that would aid its improvident southern neighbour, Greece.
The Finnish parliament had grave reservations it is already contemplating writing off some of its direct loans to Greece. But mindful of the possible consequences, the Finns voted to strengthen a European bailout fund, the inelegantly named European Financial Stability Facility.
That got world markets through Wednesday, but it hardly ended the European financial crisis even this phase of it. The next day, it was Germany's turn. After weeks of fierce debate, parliament passed the measure in a 523-85 vote.
On Friday Austria gave its approval. And between now and October 11, Cyprus, Estonia, Malta, the Netherlands and Slovakia will all have their say.
After that, if all 17 euro zone countries have granted approval, the newly empowered ?440 billion fund ($A609 billion) will be available to give Greece some succour.
"There are a lot of moving parts and a lot could go wrong," said David Kostin, the chief US investment strategist for Goldman Sachs. "And these macro issues are dominating micro ones like whether a particular company in the S&P is having a strong quarter and many of them are."
For months now, investors have been putting money in a traditional haven the US Treasury market, whose appeal has been burnished by the accommodative monetary policies of the Federal Reserve.
For stocks, though, a vicious circle has developed.
The global economy is weak and stocks worldwide have trended downward.
"The direction of the markets is being determined by geopolitical uncertainty on three continents," Kostin said. China's possible slowdown, the disappointing economy in the US and the European financial crisis are all weighing on the markets, he said, with the European predicament likely to be front and centre over the next several weeks.
In the case of the European Financial Stability Facility, political leaders and central bankers involved in the rescue effort already appeared to know it wouldn't be enough to resolve the crisis.
A vastly greater financial commitment is needed to prevent the crisis from spreading, many analysts say.
The European Central Bank may use some of the fund's money as collateral for making larger loans, effectively "leveraging" the fund and giving it more firepower, but the bank's powers are circumscribed. Any further fundamental changes must also be approved, one by one, by each country in the monetary union.
That is because the euro zone is not a fiscal union or a sovereign state and its founders didn't prepare for the eventuality that one of its members might be unable to pay its bills threatening the stability of banks, countries and markets worldwide. Furthermore, as things stand, it's not clear that the European Union is capable of achieving even the level of governance some would call it dysfunction that has lately characterised the US. This helps explain why the European crisis has, if anything, been even harder to resolve than the still-simmering one on the other side of the Atlantic, and why these linked crises are not about to disappear any time soon.
For now, though, uncertainty reigns, not only in Europe and the US but also in the Chinese economy, where efforts to curb inflation may also be throttling growth. Still, Kostin said, the profit outlook remained strong among the global corporations that dominate the Standard & Poor's 500. He expects that the index will rise in the fourth quarter closing modestly higher at 1250.
But in today's global economy, many little things can easily go wrong. If they do, he said, investing in stocks, particularly in individual stocks, is likely to be very difficult.
"The macro story is dominant," he said. And it hasn't been a very upbeat story.
Frequently Asked Questions about this Article…
How did Finland’s parliamentary vote affect the euro zone rescue deal and global markets?
Finland’s parliament was in a position to block a measure to aid Greece but instead voted to strengthen the European Financial Stability Facility (EFSF). That approval helped calm markets on the day, because a Finnish “no” could have sent financial markets into panic. The article notes Finland’s decision bought time but did not end the wider European crisis.
What is the European Financial Stability Facility (EFSF) and how much money was made available in the rescue package?
The EFSF is the euro zone’s bailout fund that was being strengthened to help troubled members such as Greece. If all 17 euro zone countries approved the measure, the newly empowered fund would have about €440 billion (about $A609 billion) available to provide support.
Which euro zone countries had approved the rescue measure and which countries still needed to vote?
According to the article, Germany had passed the measure in a 523-85 vote and Austria gave approval. Cyprus, Estonia, Malta, the Netherlands and Slovakia were scheduled to vote between then and October 11 to decide whether to join the approval.
Will the EFSF alone be enough to resolve the European financial crisis?
The article reports that political leaders and central bankers already anticipated the EFSF wouldn’t be enough by itself. Many analysts said a much larger financial commitment would be needed. The European Central Bank might use some of the fund’s money as collateral to leverage larger loans, but the bank’s powers are limited and further fundamental changes would require approval from each euro zone country.
How did investors respond to the European crisis — where did money go?
Investors sought traditional safe havens, notably the US Treasury market, which benefited from the Federal Reserve’s accommodative policies. Meanwhile stocks worldwide trended downward as geopolitical and economic uncertainty weighed on markets.
What are the main macro risks the article says are driving markets right now?
The article cites geopolitical and macro uncertainty on three continents: a possible slowdown in China, a disappointing US economy, and the ongoing European financial crisis. Goldman Sachs strategist David Kostin said these macro issues are dominating corporate-specific (micro) stories.
What did Goldman Sachs’ David Kostin say about the S&P 500 outlook amid the crisis?
Kostin said the profit outlook remained strong for the global corporations that dominate the S&P 500 and he expected the index to rise in the fourth quarter, closing modestly higher at about 1250. He also warned that many small things could go wrong, making investing in individual stocks difficult while macro uncertainty dominates.
What practical takeaways for everyday investors does the article highlight from the European rescue episode?
The article’s key takeaways are that macroeconomic and geopolitical uncertainty is dominating markets, the EFSF’s strengthening provided temporary relief but may not resolve the crisis, investors have been favoring US Treasuries as a safe haven, and that in such an uncertain global environment investing in individual stocks can be especially challenging.
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