Stocks, Euro to Stay Pressured by Greece: Analysts
European stocks are likely to remain under pressure, and the euro is seen breaking technical support levels, as Greece's inconclusive election results look increasingly likely to push it out of the euro zone, according to market experts and analysts.
On Wednesday, European Union leaders will meet in Brusselsto discuss how to sort out the debt crisis for the first time since the election of France's new President Francois Hollande, who had pledged in his campaign to renegotiate last year's fiscal compact requiring EU governments to balance their budgets.
Political leaders are frantically looking for a solution as Greece struggles before another election on June 17 that could precipitate its exit from the single currency area.
But some economists warn that even if Greece were to say and be bailed out once more, the crisis would not be over.
Analysts at Capital Economics pointed out in a research note that even if Greece's sovereign crisis can be contained, a sharp fall in bank deposits last week could become "a potentially more powerful and arguably less controllable trigger for a euro-exit."
"There is hope that, once the recapitalization funds are provided, confidence in the banks will return and deposit outflows will slow," Capital Economics Analyst Jonathan Loynes said. "But there is a clear risk of a vicious circle as further falls in deposits further weaken confidence in the banks and so on."
Economist Andrew Smithers wrote in his "World Market Update" note that a victory in the June 17 by Greece's leftist Syriza party would most likely precipitate Greece's exit from the euro zone, though another compromise bailout could be achieved if the conservative New Democracy party were to win.
"But bail-outs are no solution," Smithers wrote. "Greek wage costs need to fall. Falls in euro terms would exacerbate unemployment and increase private and public sector debt ratios, which are already too high. Spain has the same fundamental problem. It thus seems likely that Greece will leave the Eurozone and at some later stage will be followed by Spain."
Wages Must Fall
Smithers said that Greece combines a falling gross domestic product with a large current account deficit, which implies that labor costs are "massively uncompetitive."
"Wages must therefore fall through nominal declines or from devaluation. The former is likely to require a large rise in unemployment which already stands at 22 percent," Smithers daid. "We do not think that this will be acceptable to Greek voters."
But even if voters were to swallow the bitter medicine once more, a large fall in incomes would spark bankruptcies on a large scale, he warned.
"Spain has similar problems to Greece. Its GDP has fallen less than that of Greece, and its current account deficit is lower, but it also has an unemployment rate of 22 percent and the debt level of its private sector is even worse than that of Greece," Smithers wrote.
Citing data from the IMF Global Financial Stability Report, Smithers pointed out that Greece's government debt as a percentage of GDP was indeed 166 percent compared with Spain's more comfortable 67 percent.
But when it comes to corporate debt, the situation is reversed. Spain's non-financial corporations owe 192 percent of GDP and its financial corporations 111 percent, while the same ratios for Greece are at 74 percent and 22 percent.
"In these conditions, equity markets are more likely to fall than rise. The U.S. has the best short-term outlook, as it's likely to be supported by corporate buying. Nonetheless, as the most over-valued G5 market, it is likely to give the worst longer term return," Smithers wrote.
He said that for the long term the solution to the euro zone's crisis requires either a fiscal union or independent currencies, with the latter a "more probable outcome" than the former, as large gaps between wages in Germany and those in the periphery countries would need to be opened to make up for the disparity in competitiveness.
"Given the scale of the problem even goodrises in German nominal wages, which seem likely, would still require falling nominal euro wages in Greece, Italy, Spain and Portugal," Smithers wrote.
Euro Seen Flirting With 2010 Lows
Euro to Test 2010 Lows
Germany, which registered an export-led recovery since 2008 as the euro weakened, is now likely to see a consumer led recovery. But this will not be enough to boost stocks, as profit margins will likely be low. German corporations, unlike the U.S. ones, are not buying shares, and there are budding fears of contagion from the euro crisis, he added.
Jennifer McKeown from Capital Economics said she expects the German Ifo Business Climate Indicator, due to be released later this week, to post its first decline in seven months, confirming that the powerhouse is slowing down.
"With the situation in Greece edging close to crisis point, and demand from outside the euro-zone slowing, we expect the Ifo measures of current activity and expectations to have fallen this month," McKeown wrote.
The euro weakened against the dollar again on Monday but, with speculators cutting down slightly on extremely bearish positions taken last week, could enjoy a short-lived bounce, according to analysts.
But the overall trend is down, and the single currency is likely to break key support levels, Roelof Van Den Akker, technical analyst at ING Wholesale Banking, told CNBC.
Van Den Akker sees the euro breaking the support area of $1.262-$1.258 over the long term, as "upside potential seems to be very limited."
"For the coming months, it should have a focus on the 2010 lows around $1.1875 so I would say sell on strength towards $1.2865," he added.