Eurozone tunnel darkens, after EU summit stalemate

Eurozone tensions rose again on Thursday with grim signals from business, and a flight of capital into Germany after an EU summit disagreed on solutions to the crisis. Hanging over European Union governments, and business and finance, is the possibility of Greece leaving the eurozone. An informal summit of European Union leaders overnight resulted in little apart from attempts to paper over deep cracks between France and Germany over diluting economic reforms in debt-ridden members with growth stimulus. The latest surveys of eurozone business confidence showed the worst monthly fall in May for nearly three years, to 45.9 points on the Markit PMI index from 46.7 in April, with anything less than 50 signalling slowdown. In Germany, business confidence fell to a six-month low point and in France the leading index for manufacturing activity fell to the lowest level for 37 months. At Capital Economics in London, senior European economist Jennifer McKeown said that data suggested that "the downturn has now really hit Germany" and commented: "Spreading economic downturn will further reduce the currency union's chances of survival." The euro slumped to a 22-month dollar low point of $1.2516, last reached in July 2010. It later stood at $1.2544. Stocks fluctuated and then rallied slightly. London's benchmark FTSE 100 stock index climbed 0.59 percent. Frankfurt's DAX 30 added 0.13 percent and the Paris CAC 40 won 0.38 percent. "Nothing in the data released this morning suggests that economic conditions in the UK and Europe are easing against a backdrop of policy paralysis across Europe," CMC Markets analyst Michael Hewson told AFP. "Unless policymakers come up with radical new solutions with respect to the crisis they will soon be faced with the prospect of delivering closer fiscal integration or overseeing the breakup of the euro." If Greeks vote in new elections on June 17 against the budget cuts and reforms tied to a second debt rescue, the EU, International Monetary Fund and European Central Bank, are expected to curtail drastically the funding which is keeping Greece solvent. This would push Greece from the eurozone and could cause incalculable risks for other weaker members, notably Spain. Under all these clouds, funds flowed into safe-haven German 10-year debt bonds, pushing the fixed rate of return down to a record low level of 1.358 percent from 1.383 percent on Wednesday. The French 10-year bond yield also fell to close to record levels, to 2.575 percent from 2.735 percent. EU President Herman Van Rompuy told journalists after the summit: "We want Greece to remain in the euro area while respecting its commitments." But one diplomat told AFP that officials from the other 16 eurozone countries had been told this week to "reflect" on what the departure of Greece would mean. The main point of contention at the summit, the creation of eurobonds for joint borrowing by strong and weak countries together, was discussed under a new focus on generating growth. This push was headed by new French President Francois Hollande, but German Chancellor Angela Merkel held firm to her line that structural reforms to improve competitiveness in countries with debt problems must come before eurobonds. Various other issues and ideas were talked around the table: EU project bonds for infrastructure projects, more resources for the European Investment Bank, use of existing EU project funds and the use of new eurozone rescue funding to support banks, with help from the European Central Bank, and a bank deposit insurance scheme. Britain insisted that it would fight resolutely against a proposed financial services tax, intended to fund future problems in the banking sector, which it sees as a largely France-inspired threat to the City of London. Hollande, a Socialist who displaced Nicolas Sarkozy in a French presidential election earlier this month, said: "We have to act straightaway for growth ... otherwise there will still be doubt on the markets." Merkel, who insists on structural reforms first despite waves of protests against austerity across the EU, said that eurobonds were "not a contribution to stimulating growth" and were not permitted under EU treaties. Merkel, backed by the Netherlands, Finland and Sweden, said there had been "balanced" discussion on eurobonds and that several participants had expressed reservations. A complicating factor for progress, is that Hollande's Socialists are now campaigning in elections for a new majority in the French national assembly (parliament) and Merkel, weakened by the effects of the debt crisis, faces elections next year. At Berenberg bank, analyst Christian Schulz said that Germany and its allies had rejected eurobonds as an "immediate fix", and commented that such bonds would remove incentives for reforms in weaker countries. The EU summit on June 28-29 was likely to result in a "very modest" growth initiative, and there had been no progress on controlling contagion from the crisis, the analyst observed.