Italy and Ireland have more
incentive to quit the euro than Greece, while Germany may have
limited room to prevent departures from the currency union,
according to Bank of America Merrill Lynch.
Using cost-benefit analysis and game theory, BofA Merrill
Lynch foreign exchange strategists David Woo and Athanasios Vamvakidis concluded in a July 10 report that investors “may be
underpricing the voluntary exit of one or more countries” from
“Our analysis produces a few surprising results that even
readers who may disagree with our conclusion are likely to find
interesting,” the strategists wrote.
Italy, the euro area’s third-largest economy, would enjoy a
higher chance of achieving an orderly exit than others and would
stand to benefit from improvements in competitiveness, economic
growth and balance sheets, they said.
While Germany is the nation deemed able to leave the euro
zone most easily, it has the least incentive of any country to
quit because it would face weaker growth, possibly higher
borrowing costs and a negative hit to its balance sheets, the
strategists said. Austria, Finland and Belgium also have little
reason to quit, they said, while Spain has the weakest case for
leaving among economies most directly affected by the crisis.
The analysis is based on a framework which ranks eleven of
the 17 euro-area nations on criteria such as how orderly their
exit from the bloc would be and how it would affect economic
growth, interest rates and balance sheets. Ireland and Italy
received an average ranking of 3.5, while Greece was at 5.3 and
Germany had the highest score at 8.5. The lower the number, the
more there would be to gain from leaving.
Woo and Vamvakidis employ game theory to suggest that while
Germany could “bribe” Italy to remain in the bloc and avoid
the fallout from an exit, its ability to do so is limited.
That’s because Italy has more reasons than Greece to leave so
any compensation could become too expensive for Germany and
Italians may be even more reluctant than the Greeks to accept
the conditions for staying.
“If our inference turns out to be correct, this could have
negative implications for markets in the months ahead,” they
* * *
The scarcity of water means countries that have it enjoy a
trade advantage over those that don’t. That’s the conclusion of
University of Virginia professor Peter Debaere in a paper
published by the Centre for Economic Policy Research.
“Water systematically affects countries’ trade patterns in
a manner consistent with international trade theory,” said
Those with less try to protect their scarce resources by
exporting fewer water-intensive goods. That means those with a
lot of it enjoy a comparative advantage.
Because water is necessary for life, Debaere found prices
are often distorted and regulated by governments. Still, it
contributes less to exports than factors such as labor, so
climate change and changing precipitation patterns may only
cause moderate disturbances to future trade, he said.
* * *
Millions of jobs are being lost in the U.S. and Europe
because countries from China to Switzerland are manipulating
their exchange rates, according to Joseph Gagnon, an economist
the Peterson Institute for International Economics.
By restraining their currencies, governments are distorting
capital flows by about $1.5 trillion a year, Gagnon estimated in
a study this month. That drains demand from economies that allow
exchange rates to float freely.
“In other words, millions more Americans would be employed
if other countries did not manipulate their currencies and
instead achieved sustainable growth through higher domestic
demand,” said Gagnon, a former Federal Reserve economist.
Gagnon identifies Japan, Switzerland, Israel, Singapore,
China and Russia as among the countries massaging currency
values. To force a change, he suggested those countries face
taxes on their purchases of U.S. and euro area financial assets.
* * *
Even as forces such as Europe’s (SXXP) debt crisis and global
monetary easing appear to affect currency values, Marc Chandler
of Brown Brothers Harriman Co. suggests U.S. stock markets may
still hold sway.
Over 30 days, returns on the euro follow those of the
Standard Poor’s 500 Index (SPX) 59 percent of the time, Chandler,
global head of currency strategy at Brown Brothers in New York,
said in a July 10 report.
“The general take away is that despite a number of other
drivers and influences, the correlation between most of the
currencies we looked at and the SP 500 has increased in the
recent period,” he said.
Chandler links the closer correlation to investors shifting
between favoring risk and avoiding it. That explains why the
Australian dollar is among the most correlated currencies with
the SP 500 Index. Its 30-day correlation suggests it tracks
U.S. stocks about 90 percent of the time.
“It’s really risk-off, risk-on with the SP a proxy of
risk,” said Chandler.
* * *
Two-thirds of cash-strapped euro area governments are
falling behind their own projections for cutting budget deficits
in 2012, according to JPMorgan Chase Co.
In a sign the region’s debt crisis may continue to smolder,
JPMorgan’s Malcolm Barr and Raphael Brun-Aguerre in a July 6
report cited skepticism that Italy, Spain, Ireland, Portugal and
Spain can reach their goals, and predict “widespread target
As a group, the governments are forecasting their budget
deficits will fall an average 2.7 percent of gross domestic
product this year from 2011.
The data suggest Italy will fall short of its goal even as
its fiscal position improves this year, the economists said.
Greece’s primary deficit will narrow while its overall gap
won’t, and Ireland will deliver less this year than in 2011,
they said. Portugal and Spain are running wider imbalances.
* * *
Money matters when it comes to securing success in some
A study by Goldman Sachs Group Inc. (GS) (GS) economists found an
increase in gross domestic product per capita tends to boost a
country’s chances of winning Olympic medals in cycling, judo,
rowing and swimming. Weaker income effects apply to archery,
canoeing, sailing and Taekwondo, the economists said in a report
published July 11.
The London Olympics begins July 27 and the U.K. may benefit
from playing host because doing so tends to have a positive
effect on local athletes competing in cycling, gymnastics,
rowing, sailing, swimming and wrestling. The hosts would be
expected to see 1.5 to 3 more medals in each of these sports,
the economists said.
To contact the reporter on this story:
Simon Kennedy in London at
To contact the editor responsible for this story:
Craig Stirling at [email protected]