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MORNING BID: EUROPE-A daily note from our Economics/Politics Editors

Source: Reuters - Mon, 31 Mar 2014 06:54 AM
Author: Reuters
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LONDON, March 31 (Reuters) - Investors have spent months looking askance at Turkey's corruption scandal and Prime Minister Tayyip Erdogan's response to it - purging the police and judiciary of people he believes are acolytes of his enemy, U.S.-based cleric Fethullah Gulen. But it appears to have made little difference to his electorate.

Erdogan declared victory after Sunday's local elections and told his enemies they would now pay the price. His AK Party was well ahead overall but the opposition Republican People's Party (CHP) appeared close to seizing the capital Ankara.

Turkey's lira has climbed in early trade to its strongest level in two months on the basis that at least there is political continuity. But any rally could prove short-lived with the battle between Erdogan and Gulen likely to deepen and a yawning current account gap already making the economy vulnerable to any financial market turmoil, of which there has been plenty.

"From tomorrow, there may be some who flee," Erdogan declared last night.

The longer-term question is whether the premier is emboldened to run for the first directly-elected presidency in August or change party rules to allow him to run for a fourth term as prime minister in next year's parliamentary election. So far all roads still lead to Erdogan.

Local elections in France handed a drubbing to Francois Hollande's ruling Socialists and gave the far-right National Front (FN) victory in a record number of towns, a harbinger perhaps for May's EU elections where the FN is tipped by some polls to lead all other parties. The centre-right UMP polled most strongly overall.

At least another 140 towns swung from the left to mainstream opposition conservatives as voters punished Hollande for his failure to turn around the euro zone's second largest economy and tackle an unemployment rate stuck at more than 10 percent. He may now undertake a cabinet reshuffle to galvanise his team. The bigger question is whether he stalls on labour market and pension reforms already viewed by many outsiders as too timid.

Lengthy talks between U.S. Secretary of State John Kerry and Russian Foreign Minister Sergei Lavrov last night at least did no damage. Kerry said both sides had suggested ways to pull back from the brink but that for Washington, that had to include a Russian troop pullback from Ukraine's borders. Moscow says it is merely indulging in regular military exercises.

The two sides agreed to keep talking and both said the Ukrainian government had to be part of the solution.

The meeting followed a phone call between Barack Obama and Vladimir Putin last week. The West has threatened harsher sanctions if Moscow invades eastern Ukraine. Lavrov said Moscow had no intention of doing so but would act to protect the rights of Russian speakers.

For now, with an IMF bailout agreed, an uneasy settlement has developed whereby sanctions won't be toughened unless Moscow starts messing around in the east of Ukraine.

After German inflation crept lower again on Friday, all eyes are on the euro zone number today. Inflation is running at just 0.7 percent and if it falls further the pressure on the European Central Bank to act at its monthly meeting on Thursday will grow markedly.

A month ago Mario Draghi appeared to set a rather high bar to policy action, with the mood music suggesting an all-or-nothing approach - hopefully doing not much but prepared to talk about QE if deflation really took hold, which the ECB says won't happen.

Last week, the tone changed noticeably with Bundesbank chief Jens Weidmann, normally a hardliner, saying printing money was not out of the question although he would prefer negative deposit rates as the means to tackle an overly strong currency.

The euro is near $1.40 and could have further to go, buoyed by emerging market outflows but also the fact that the euro zone has pulled back from the cliff. The currency's strength is already cutting import prices in a way that will push inflation lower still.

Has this changed the mood within Frankfurt HQ? Certainly the currency seems to be focusing minds though it's probably too early for anything dramatic in the week to come. ECB chief economist Peter Praet will speak at a seminar in Athens today.

Overnight, Greece approved a contentious reform bill to secure bailout aid but the government was forced to expel a dissenting lawmaker, reducing its majority in parliament to just two seats.

Better news for ruling New Democracy was an opinion poll published on Saturday which showed it nudging ahead of the main opposition, the leftist anti-bailout Syriza party, for the first time in six months.

Dutch Finance Minister Jeroen Dijsselbloem, who heads the Eurogroup of euro zone finance ministers, is in Cyprus today for talks a year after the island was bailed out.

President Xi Jinping will become the first Chinese leader to visit the European Union's headquarters since Brussels established ties with Beijing four decades ago. Xi will seek to send a message that Beijing is ready to resolve trade disputes and is keen on a multi-billion-dollar free-trade deal that would dramatically deepen ties between two of the world's largest markets.

The EU is wary of that, first wanting progress on easing the way for European firms to do business in China. (Editing by John Stonestreet)

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