Forget Greece, China Key for Euro: Analyst

Those fearing the effects of Greece’s parlous economic state on the euro shouldn’t worry as long as the currency has support from China, according to a currency analyst.

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“It is a measure of the relative forces at play within the currency markets that, despite the fact that the euro zone has spent much of the past eighteen months seemingly trying to pull itself apart, all it has ever taken to restore investor confidence in the euro (albeit not necessarily in the underlying debt markets) has been some reassuring words of support from China,” Simon Derrick, chief currency strategist at Bank of New York Mellon, wrote in a research note Friday.

The possibility of a ripple effect across Europe if Greece defaults on its debt repayments has worried the markets this week.

The prospect of Greece having to leave the single currency and returning to the drachma was raised on Thursday by a senior Greek politician, Maria Damanaki.

Last year, a statement from the Chinese State Administration of Foreign Exchange (SAFE)emphasising the importance of the euro to its investment strategy helped kick-start the euro’s recovery, according to Derrick.

“China is a responsible and long-term investor in the investment of foreign exchange reserves and we always follow the principle of diversification … Europe was, is and will remain one of the major investment markets for China's foreign exchange reserves,” SAFE said last May.

When Xia Bin, an academic advisor to the People’s Bank of China, reiterated that the current debt crisis did not damage the long term strategic position of the euro in January, as concerns about Portugal reached fever pitch, the euro began to recover within days, according to Derrick.

“Even more significantly, he argued that the global financial system would benefit from reserves that were balanced between the US dollar and the euro rather than current dollar dominance,” Derrick added.

“In light of this it is important to note that fresh signals of Chinese support for the euro zone began to emerge on Wednesday of this week when Klaus Regling, chief executive of the European Financial Stability Facility (EFSF), told reporters that Beijing is 'clearly interested' in the Portuguese bail-out bonds that the fund will begin auctioning next month,” he said.

“Nobody would pretend that China has any illusions about the risks inherent within the European debt markets,” Derrick continued.

But, he added, “given the political benefits of lending into Europe, it could be argued that the EFSF is a dream come true for China given the fund’s triple-A rated status. Perhaps it’s time to start becoming bullish on the euro after all.”