Money markets calmer before eu summit, but greek worries remain

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* Markets await EU summit, hoping for growth measures* Some relief for money markets, but Greek worries remain* Worst case scenario could see bank deposits shrinkingBy Marius ZahariaLONDON, May 22 Speculation that European leaders will come up with growth-boosting measures brought some relief to euro zone money markets on Tuesday, but tensions are expected to pick up again as the Greek elections draw near. At an informal summit on Wednesday, policymakers are also expected to discuss the idea of common euro zone bonds. The sound of these words is appealing to markets, but many analysts warn that Germany's long-standing position against the idea of debt mutualisation is unlikely to change. Measures of money market stress have eased this week, after a speedy increase earlier this month on the back of a higher perceived risk of Greece leaving the euro zone. Three-month euro/dollar cross currency basis swaps , which reflect the cost of swapping euro rates for dollars and widen when dollars are harder to find, were 3.5 basis points tighter on the day at minus 50.5 bps. Last week, they hit the widest level in a month at minus 57.5 bps.

"This is a correction in line with the better risk sentiment across the euro zone, but it's probably a short-term respite," said Geoffrey Yu, currency strategist at UBS."I still expect them to widen but not as aggressively as last year because ... we have the Fed lines now so I don't think obtaining dollars is going to be much of an issue," he added, referring to the swap lines between the U.S. Federal Reserve, the European Central Bank and other major central banks. During a previous wave of the euro zone crisis in November, the measure reached its widest in two years at minus 167 basis points. Since then, the ECB has introduced almost one trillion euros of cheap three-year funds (LTROs) into the banking system, significantly cooling tensions in interbank markets.

Even now, when many believe Greece could eventually leave the euro and cause massive damage to the bloc's financial system, money managers are not panicking."The LTRO has been an absolute godsend," said Chris Huddleston, head of money markets at Investec. "It is certainly enough for now, euro depo rates have come right off since December as no one is worried about funding."Huddleston said a Greek exit was expected in the market, but on the other hand the ECB was also expected to clean up the resulting "mess" and stave off contagion.

IF EVER After an inconclusive election on May 6, Greeks will be heading to the ballots again on June 17. The market sentiment will then depend on how well politicians opposing the terms of the country's vital bailout agreement are going to do. At the moment, money market traders are split on whether Greece will have to leave the euro zone. If the balance tilts towards a Greek exit, the risk lies mainly in a bank deposit run, some analysts say. The flight of cash from the Greek banking sector could extend to other countries if the Greek crisis is allowed to snowball."In the event of the Greek banking sector effectively shutting down, the risk would be that Spain sees much more deposit outflows," said David Owen, chief European financial Economist at JefferiesHe said not only the overseas deposits in Spanish banks of about 445 billion euros were at risk, but the domestic deposits as well. Also, overseas deposits for the overall euro area totaling 3.2 trillion euros could shrink as well due to contagion fears."If the decision was ever taken to pull the plug on the Greek banking sector, policymakers would really have to ensure there was a sufficient firewall to stop a more general deposit flight," Owen said.