EU leaders meet with Merkel’s political future hanging in the balance – Forex News PreviewPosted on June 27, 2018 at 3:20 pm GMTMarios Hadjikyriacos, XM Investment Research Desk
Although typically not a major market mover, this week’s EU summit promises to deliver several headlines that could well impact financial markets. Multiple subjects including migration, Brexit, and trade are on the agenda, with the fate of German Chancellor Merkel’s coalition government seemingly hanging in the balance of whether an immigration deal can be reached. Beyond these, any proposals from Italy’s new government will be scrutinized following the recent turmoil.
EU leaders will face a tough balancing act when they meet for a two-day summit in Brussels on Thursday. Issues ranging from migration, to structural EU reforms, to Brexit, to trade frictions with Washington, will all be up for discussion. While all of these are interesting in their own regard, most of the focus could fall on immigration – at least from the market’s perspective. The stakes may be higher on that subject, as Angela Merkel’s job as German Chancellor could be in jeopardy should she return home without a deal to appease the immigration-hardliners in her government.
Migration and Merkel’s fragility
Merkel has been under severe pressure lately from one of the parties in her coalition government, the CSU, to limit “secondary movements” of asylum seekers within the EU. Migrants should not be allowed to take asylum in, say Spain, and then look to relocate to another state, like Germany. While it is already illegal for asylum seekers to do so while their applications are being processed, it is quite difficult to stop such movements in the border-free Schengen zone and Merkel will be looking for commitments from her EU partners to do more on this front.
However, support for such a deal may be scarce. Hungary, for instance, opposes any mandatory distribution of asylum seekers. Meanwhile, Italy seeks a more equitable allocation of refugees between member states. Unless an agreement can be reached, there is a real risk that Merkel’s coalition collapses, leading to another bout of elections in Germany that could throw Europe back into political disarray. The euro will likely be sensitive to such developments, potentially rising in case of a deal that helps Merkel keep her position, or declining on anything suggesting Europe’s biggest economy may head to the polls again.
EU reforms and Italy’s uneasiness
Staying on domestic EU issues, the topic of structural Eurozone reforms will be closely watched as well. Making the euro area more resilient to future shocks has been a key theme in recent years, though the pace of reforms has been excruciatingly slow. While Macron and Merkel appear to have agreed on the need for a Eurozone budget, there are still rifts on the size; France seeks a relatively large budget while Germany a smaller, more symbolic one. Completing the Banking Union and strengthening the European Stability Mechanism will also be high on the agenda.
Then there is Italy. The new Italian Prime Minister, Giuseppe Conte, expressed disagreement with some reforms proposed by France and Germany, such as creating a European Monetary Fund if it forces nations “towards pre-defined restructuring paths”. He also advocated far larger risk sharing, something his German counterparts have persistently rejected. Against the backdrop of the recent market turmoil – with Italy at its epicenter – any proposals by the Italian leader also have the capacity to influence positioning on the euro, particularly any regarding debt restructuring.
Taking a technical look at euro/dollar, immediate resistance to advances could come near the 1.1625 area, marked by the inside swing low on June 25. Further up, the June 26 high of 1.1720 would come into view, before the attention shifts to 1.1850, the peak of June 14.
On the flipside, a declining pair could encounter support near the 10-month low of 1.1506 posted on May 29. Even lower, declines may stall near 1.1450, the top of 29 June, 2017. If the bears pierce that barrier too, the 1.1370 area would be eyed, defined by the lows of 13 July, 2017.Brexit: No meaningful progress yet
Those looking for an EU summit that highlights progress in the Brexit talks are likely to be left disappointed. The EU and UK published a joint statement a few days ago, which outlined progress on issues such as customs and VAT, but also noted “serious divergences” on Northern Ireland. The two sides have failed to agree on a solution to ensure the Irish border remains open and tariff-free, with the EU rejecting the UK’s proposal as “unworkable” and Theresa May saying that “no British PM would agree” to the EU solution.
A deal must be reached by October for the negotiations to move on, and given that the two sides currently appear nowhere close to one, the most likely outcome appears to be a statement that kicks the proverbial can down the road. Other things equal, a reminder for the markets that progress in these talks remains painfully slow could work against the British pound.
The EU has held a firm, “we will not be bullied” stance amid escalating trade tensions with the US so far. After the US introduced levies on steel and aluminum, the EU responded with counter-tariffs on iconic US products such as Harley Davidson motorbikes and bourbon whiskey. A few days later, the US President threatened to introduce 20% tariffs on cars from the EU, to which European officials replied they will retaliate again if enacted. While it is unlikely this summit will bring any major trade announcements, the overall tone the leaders adopt on the subject (whether confrontational or peace-seeking) could affect broader market sentiment and thus, may hold implications for risk-sensitive assets like European equities.EURUSD
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