Since European Central Bank President Mario Draghi’s speech in late July promising to do “whatever it takes” to preserve the euro, followed by the announcement of an ECB program to buy short-dated peripheral government bonds under some circumstances, euro area markets have rallied and the single currency zone has faded as a source of concern for markets in the U.S. and elsewhere. Investors who earlier in the year were closely following the ins and outs of Greek coalition politics have turned their focus to other topics, in particular fiscal cliff negotiations in the U.S. While it no longer represents an imminent threat to global risk assets, however, the euro area crisis continues to unfold, and sooner or later it will return to the headlines. Indeed, bad news about euro area growth and renewed tension about Greece have likely contributed at the margin to the U.S. equity market sell-off in the past few weeks.
The coming months will likely bring a mixture of good and bad news about the euro area. The improvement in financial conditions achieved in recent months, if maintained, should help generate somewhat stronger growth for the region in 2013. That pickup in turn may represent part of a broader narrative of improving business cycle conditions outside the U.S. By contrast, the euro area’s institutional progress likely will remain fitful at best, leaving the region vulnerable to bouts of political disturbance and worsening sentiment.
For now, three moving parts within the euro area story deserve investor attention: ....