Euro Soft As Spanish Banks Downgraded Again, Cyprus Sought Bailout

Euro remains broadly soft as continued to be weighed down by negative news flow from eurozone. Spain formally requested for bailout for its banks yesterday and is expecting to finish the MOU before EcoFin meeting in early July. The bank bailout program agreed earlier this month could give Spanish banks a lifeline of as much as EUR 100b and it's estimated it may take as much as EUR 62b in the worst case scenario. European Union Economic and Monetary Affairs Commissioner Olli Rehn emphasized that "restructuring the banking sector is key to reinforce the confidence in the Spanish economy and to restore the conditions to proper access to credit by companies and households, thus for sustaining the recovery."

Shortly after Spain's formal request for bailing out its banking sector, Moody's reduced long-term debt and deposit ratings for 28 Spanish banks and two issuer ratings. That include a cut to Banco Santander's long-term rating to BAA2 from A3 and Banco Bilbao Vizcaya Argentaria SA to BAA3 from A3. Both are Spain's largest lenders and are placed not far from junk level. Overall, over a dozen of Spanish banks were downgrade to junk status and Moody's had indeed downgraded six banks by four notches and ten by three. According to the rating agency, these banks have a link to Spain's creditworthiness which has deteriorated and will affect the "credit profile for Spanish banks."

Meanwhile, it's reported that Cyprus has asked for financial assistance from the EU/IMF to save its banks, making it the fourth country in the bloc that needed bailout. Yet, the amount and terms will still need negotiation in coming days. It's expected that the required fund will range from EUR 5-10b, compared with EUR 100b required by Spain.

On the other hand, German Chancellor Merkel hardened her stance on eurobonds ahead of the EU summit on June 28-29. Merkel said that "eurobonds, eurobills and European deposit insurance with joint liability and much more" was "economically wrong and counterproductive." Moreover, she openly stated that the upcoming summit "will be far too much about all kinds of ideas for joint liability and far too little about improved oversight and structural measures....So the goal has to be a political union in which the standard is whatever the best, not mediocrity is." These comments suggested that Merkel continued to oppose the idea of joint eurobonds. While this does not mean that she will not accept such a move even though the market situation deteriorates markedly further, the terms and conditions of any joint issuance would likely be under Germany's ruling.

In US, Richmond Fed Lacker said that monetary policy "doesn't have a lot of capability right now" to boost growth. He said that further stimulus at this point would "most likely just raise inflation." And, Lacker warned that there is a "significant fiscal adjustment" ahead that could have "a demonstrable effect on growth," referring to the so called "fiscal cliff." On the other hand, BoE miles said yesterday that UK needs a "more expansionary monetary policy," with "substantial change in asset purchases."

On the dataflow, Germany's Gfk consumer sentiment probably slipped -0.1 point to 5.6 in July. In the US, consumer confidence might have dropped -0.9 points to 64 in June while S&P/Case-Shiller composite-20 index might have contracted -2.05 y/y in April after a -2.6% drop in the prior month.