Investors are under siege. A growing proportion of bonds in Europe and Japan offer negative yields. The German and Japanese curves are negative out 15-years, while one cannot find a positive yield among any tenor of Swiss government bonds. Despite a string of robust data, US Treasury coupon yields are at record lows.
The UK referendum hit an already vulnerable banking system in the eurozone. Italian banks are on the front burner, but the temperature is rising in Portugal, and this is not to mention the slow boil at some of the largest European banks, specifically singled out by the IMF as posing the greatest systemic risks.
Politics add an additional wrinkle. Both of the two main parties in the UK are divided. The leader of the UK's Independent Party resigned. If Labour was not doing a fine job of destroying itself, Cameron, in among his last acts as Prime Minister, will give it a helping hand. He will have parliament vote on the renewal of the UK nuclear deterrent (Trident), and it will further split Labour. Corbyn has been long opposed, while the Labour MPs typically favor. There is an attempt by the Labour MPs to block Corbyn's name from even appearing on the leadership ballot.
The US political parties hold their conventions over the next few weeks, though it is possible that Trump announces his vice-presidential running mate in the week ahead. Indiana Governor Pence appears to be edging out former Speaker of the House Gingrich. Perhaps to prevent the Republican Party to dominate the news cycles, it would not be surprising if Sanders were to endorse Clinton either in the week ahead of the following week.
The Economic Minister in France may declare his candidacy to challenge Hollande in the coming days. Meanwhile, Hollande is going to make a rare television address to the French people next week. Italy is on its third unelected Prime Minister, and even before the next parliament election, the country's political outlook is deteriorating. If the Italian constitution referendum, scheduled for October, would be held today, it would likely lose, which incite a political crisis is Renzi resigned a promised. Polls suggest that the anti-EMU (but less hostile to the EU) Five Star Movement is has replaced Renzi's.
Meanwhile after its second election in six months, Spain still does not have a new government. There are several configurations that could work, but the personalities and programmatic demands are deterring the formation of a government. The political stalemate is paralyzing reform efforts. Austria will have to run its presidential election over due to voting irregularities.
Abe's Liberal Democrat Party and its coalition partner have expanded their majority in the upper house of the Diet. However, it did not appear to secure a super-majority (2/3) that ostensibly would have made it easier to change the Constitution, as Abe desires. Yet the situation is more complicated as the junior coalition partner is opposed to Abe's stronger military thrust. The election is unlikely to have much market impact, and expect Abe's immediate focus to be on solidifying plans for a large economic stimulus package.
There are two decisions next week, though they will not be made by politicians, they will have serious implications. The first decision will be made by the eurozone finance ministers. They will decide if Spain and/or Portugal should be sanctioned for the excessive deficits the EU judged.
The sanctions could include fines and the suspension of some regional funds. If the rules are not enforced, they lose credibility. If they are enforced, it appears discretionary and selective. Consider that despite repeated violations and expressions of concern; the German external imbalance has not been addressed. In European political theatre is might be best to sanction Spain and Portugal, and then suspend the judgement when the countries appeal under “exceptional circumstances” and make a “reasonable request.”
The second important decision will come from a five-person panel at the Permanent Court of Arbitration at The Hague. At issue is a territorial dispute between the Philippines and China. It is the first case of its type. China has refused to participate. The Philippines want rulings on three aspects. First, what is the dispute over; islands, reefs, low tide elevations, etc.? An island (not man-made) comes with certain rights. Second, the Philippines wants the Court to specify what is rightfully the Philippines under the UN Convention on the Law of the Seas. Third, it wants the Court to determine if China has violated its rights. The ruling is expected July 12 near midday at the Hague.
