G20, political risk and central banks on the agenda in June
Looking ahead, the month of June will be very busy for investors. Elections are back on the agenda in Europe, with snap elections by the end of June in Greece, in September in Austria and the start of the Leadership Campaign in the UK on June 10 following PM May’s effective resignation on June 7.
In our view, the ongoing political process in the UK makes its exit from the EU scheduled for the end of October very improbable. The new Tory leader will be elected at the end of June and might call for snap elections in September/October as he or she will be looking for popular legitimacy. It is getting clear that a new exit deadline will need to be negotiated with the EU.
In other part of Europe, following its strong performance at the EU elections, the Italian Northern League could seize this opportunity to call for early elections in order to get rid of its bulky coalition partner, the Five-Star Movement. Tensions about the Stability Pact between Brussels and Roma are also likely to increase as the European Commission will probably start disciplinary steps against the country on June 5. We see Italy-Germany 10-year bond spread to further move towards 3% in the near term.
Another consequence of the EU elections is that EU leaders will announce in coming weeks the name of the successor of Mario Draghi as president of the European Central Bank. In a perfect world, the best candidate based on monetary policy knowledge, academia and government experience and charisma would be Benoit Coeuré but he lacks the support of his home country, France.
A more realistic and consensual option would be Finland’s Olli Rehn who is quite aligned with Mario Draghi’s dovish stance. However, experience and knowledge will not be the first and main criteria and still other options are on the table, including Jens Weidmann and Klaus Regling. It is not certain that Draghi’s successor name will already be unveiled when the ECB next meets on June 6.
There is little doubt about the outcome of the meeting in terms of monetary policy: the ECB has no other choice than to adopt a dovish stance as the economy is slowing down, fears of lower activity are spreading to Germany’s services (as pointed out by Markit: “the surveys highlight that fears of a slowdown may have started to spread to services, where confidence is now at its joint-lowest since 2014”) and market-based inflation expectations are uncomfortably low. The 5y5y euro inflation swap is running slightly below 1.30%, for the first time since September 2016, and core inflation that will be released on June 4 is set to collapse to 0.8% according to consensus.
The only direction for the ECB is to be more dovish and, no matter who will be the next ECB president, he will need to stick to economic reality and the need for central bank life support.