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Financial Stability Review May 2014

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Financial Stability Review May 2014

ECB,

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The European Central Bank checks the pulse of the euro zone’s economy and financial system.

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Editorial Rating

7

Qualities

  • Analytical
  • Overview

Recommendation

In its semiannual report on the euro zone’s economy and financial system, the European Central Bank sounds a note of cautious optimism, tempered with plenty of warnings about what could still go wrong with the area’s feeble recovery. Many of the troubled euro-zone nations have made good progress in addressing their fiscal problems, and the area’s banks have raised capital and shed assets, though – as the latest stress tests revealed – several financial institutions still need to do more. But the continuing fragility of the global recovery, as well as potential economic and geopolitical upsets in emerging markets, offer numerous challenges to the euro area’s prospects. Though the ECB’s report is formal in tone, getAbstract recommends this authoritative assessment of the euro-zone economic powerhouse to executives, economists and investors.

Summary

What to Watch For

Two sets of challenges confront the euro zone’s strengthening economy and could affect its financial progress: The first set derives from “legacy issues” – now moderated but still active concerns about members’ fiscal and banking problems. The second set stems from “emerging issues” – primarily the worldwide demand for higher returns. This push has increased investment in euro-area sovereign and bank debt, but it could prove unreliable if market sentiment changes abruptly.

Legacy and emerging issues combine to pose three interrelated threats of systemic risk to the region through 2016:

  1. “Abrupt reversal of the global search for yield” – A need for higher returns has caused risk differentials among European sovereign and corporate bonds to narrow to levels last seen in late 2007, reducing “fragmentation across national borders.” More foreign investors are putting their money into euro markets, particularly those who want to divest from emerging markets and gamble on less perilous possibilities. The improvements in Europe’s economic potential and regulatory condition buoy investor confidence, but this enthusiasm has a downside...

About the Author

The European Central Bank is the central bank for the euro and oversees the monetary policies of the euro zone.

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