EU on the Rocks in un-nerving global seas

Posted on February 7th, 2017

An index of news articles covering economic and political uncertainty suggests that global uncertainty has never been higher.  The rise in this measure of uncertainty is highest outside of the USA, suggesting that Trump’s America First policy, tense relationship with the EU, tough talk against Radical Islamic extremists and Iran, overtures towards Russia, threats against big trading partners, and lack of respect for cooperation with the G20 on financial stability and climate change is unsettling the rest of the world.  Such heightened uncertainty has in past episodes been associated with a deep correction and volatility in global equity markets.  European political risk is on the rise, especially in France.  The French Presidential election in April/May is coming into view.  A victory by National Front’s Marine Le Pen has the potential to severely disrupt global financial markets, posing perhaps the biggest threat to the survival of the Eurozone since the height of its crisis in 2012.  Le Pen is expected to make it to a second round run-off election and has similar odds of victory as given both Brexit and Trump before their polls.  EUR is surprisingly steady, but is underperforming other alternative safe havens (JPY and Gold).


Elevated Economic and Political Uncertainty

An interesting index that measures global economic and political uncertainty was at a record high in January since data available in 1998.  That is even higher than in the 2007/09 global financial crisis and at the height of the Eurozone financial crisis in 2010/12.  As the chart below suggests, such heightened uncertainty is normally associated with much higher stock market volatility.


This “GEPU” index shown above is a purchasing power parity (real) GDP-weighted average of 16 country indices.  Each national EPU index reflects the relative frequency of own-country newspaper articles that contain a trio of terms pertaining to the economy (E), policy (P) and uncertainty (U). In other words, each monthly national EPU index value is proportional to the share of own-country newspaper articles that discuss economic policy uncertainty in that month. (


USA Relationship with the EU on the rocks

Much of the spike in the GEPU news index is coming from the controversial and rapid policy actions of US President Donald Trump and his combative commentary towards his critics.  Trump is also taking relationships with other nations in a new direction and unsettling the global order.

On several grounds, rifts are opening up between the USA and Europe; including on attitudes towards Russia, US demands for the Europeans to pay more for defense, questions raised over the US commitment to NATO, claims that Germany has taken an unfair trade advantage from the USA, criticism of the EU over its immigration policy, Trump’s strong support for Brexit and lack of support for the EU.

ECB President Draghi was questioned in his address to the EU parliament on comments made by the Director of the US National Trade council, Peter Navarro, reported last week, accusing Germany of unfairly benefiting from a weak EUR exchange rate, and Trump’s plans to roll back a significant amount of Dodd-Frank legislation (regulation on the financial sector) in the USA.

Draghi naturally argued that the EUR has not been manipulated.  He described the US government plans to roll back Dodd-Frank as “very worrisome.”  He said, “Frankly I don’t see any reason to relax the present regulatory stance which has produced a stronger banking and financial services industry than before the crisis.”

As EU faces challenges from elections in France, Germany, the Netherlands and possibly Italy this year.  And Greece faces renewed pressure from the IMF over its debt relief austerity program, Trump offers no friendship to incumbent leaders and appears to prefer to see a shake-up that may weaken cooperation in the EU.




 Trump war on Islam breeds global distrust

Trump is emphasizing a new focus on fighting Islamic extremism, but he is hardly building a coalition of willing governments to support his possible actions. He is polarizing opinion abroad, and much of it is negative.  A lack of popularity will limit the willingness of traditional allies to support any possible actions to fight ISIS.

His travel ban on 7 Muslim countries, while currently facing legal challenge in the USA and at least temporality removed, has drawn no support and mostly condemnation from other nations.  Many will distrust his motives to tackle ISIS and fear over-reach to cover an alt-right agenda, creating unnecessary degrees on distrust and conflict with Muslim countries and communities.

The USA has traditionally been a leader in global forums such as the G20, driving global cooperation on financial regulation, exchange rate policy and financial stability.  The capacity for global cooperation appears to be greatly diminished with Trump promoting an “America first” policy and if anything is promoting division and competition.


French election uncertainty weighs on European assets

The potential victory of alternative-right candidate Marine Le Pen in the French Presidential election can drive global uncertainty to levels that will see a major bout of global risk aversion.  She is widely expected to make it to the final run-off in the Presidential election.  And while currently seen as likely to come in second, there is a significant risk she wins, emulating the unlikely election of Trump in the USA.

Le Pen is a nationalist that is threatening to pull France out of the single-currency.  Many would doubt the Eurozone could survive the retreat of one of its two core countries.

Le Pen has also called for the government to take control of the central bank, allowing it to essentially print new French francs to fund government spending.  Her radical policy direction would generate intense financial uncertainty in France, the Eurozone, and global economy.

The first round of the election will be held on 23 April. If no candidate wins more than 50% of the vote in the first round, a run-off election between the top two candidates will be held on 7-May.

Betting market odds currently rate Le Pen’s (National Front) chances of winning at around 30%, roughly similar to that given to Brexit and Trump before their polls.

The favorite is currently Emmanuel Macron (En Marche) with odds of around 45%.  Coming in behind Le Pen is Francois Fillon (The Republicans) with odds less than 20%.  Benoit Hamon (Socialist Party) is given little chance.

The UK’s Brexit would begin to look like a good move to distance itself from an imploding Eurozone should Le Pen come to power.  A Le Pen victory may well be far worse for global financial markets than Brexit was last year, with more long-lasting effects.

The rising political uncertainty in France has pushed yields higher in France and other Eurozone periphery bond yields over Bunds, tending to undo the some of the effective policy easing achieved by the ECB’s QE bond purchase program.  European equities are also somewhat under-performing.



The EUR/USD exchange rate appears not to be reacting negatively to increasing Eurozone stability risks.  However, EUR is under-performing other alternative safe havens – gold and JPY – as the French/German bond yield spread widens.