As Euro Jitters Ease, British Pound Faces Crisis

The eurozone has been awash in political theatrics lately surrounding the looming Greek debt crisis. A prominent German magazine recently depicted the ancient Greek Venus de Milo statue gesturing rudely, next to the headline "Cheats in the euro family," insinuating that Greece had deceived its way into the common currency. The Greeks, meanwhile, have been quick to conjure up parallels to the German occupation of Greece during World War II, and have flung their own unflattering media barbs.

But despite the flaring tempers and public grandstanding, an outline of how Greece plans to deal with its massive maturities -- the country needs to refinance $54 billion in the months ahead -- may be materializing. Posturing and acrimony aside, most accounts suggest that German and French banks will partner with governments to purchase slabs of Greek bonds, while Greece seems increasingly agreeable to taking harsh austerity measures to rein in spending.

Even as the concerns about Greece that have rattled world markets subside, investors will have plenty to keep them busy. Spain, with a GDP of $1.6 trillion (compared to about $360 billion for Greece), is a eurozone member with problems that in many respects are even more massive than those of Greece. And while the $2.3 trillion Italian economy may face similar issues as well, putting more pressure on the euro, another currency faces even bigger challenges: The United Kingdom's pound is seeing record bets against it.

Soon We'll See the Benefits of the Euro Again

Even as paranoia about a Greek bond default wanes, much tougher times are likely in store for the Mediterranean nation. The chances of a sharp recession are rising rapidly, some commentators have pointed out, as reduced government spending compounds already weak demand in a European economy teetering on the brink.

The situation is even more complicated when it comes to Spain. On the plus side, "Spain fares better in terms of its levels of fiscal deficit, public debt and private savings as shares of GDP," analysts at Roubini Global Economics wrote to clients on Friday. "Also, most of the deterioration of Spain's fiscal balance was due to the 2009 recession and housing market bust, rather than longer-term or structural problems."

But Spain already has an unemployment rate of 20% compared to Greece's 10%, and the country's spectacular housing bust means that Spanish banks could be in for massive losses despite attempts to shore up their balance sheets, the analysts wrote.

Potential Political Gridlock in Parliament Worries Investors

While the problems with the euro are well known -- unifying so many disparate economies under one currency creates major tensions, and German Chancellor Angela Merkel says the currency is facing its gravest test yet -- the less obvious benefits of a deep and liquid currency may soon be on display as well. Speculators, who spent much of last year betting against the U.S. dollar, have now started to descend on the British pound; concerns about a run on the currency are growing.

The pound's slide against the dollar to lows not seen since last May followed a surprising rebound for the governing Labour party in a poll released over the weekend. Labour pulled to within 2 percentage points of the opposition in the poll, indicating that while the Tories are still likely to win the next election, they are unlikely to pick up a majority in the Parliament. This dims the chances that a Conservative government would be able to rein in spending, and some investors are now bracing for a further drop of as much as 30% in the pound as the markets react to the prospects of a hung Parliament unable to make any headway on the nation's annual budget deficit, now more than 12% of GDP.

All of which is making the dollar, surprisingly enough, a darling of the investing community once again. Less than six months ago, analysts were forecasting a terminal decline for the dollar as central banks shifted records amounts into alternative currencies such as the soaring euro, and investors were seen as having finally tired of American deficits.

But in finicky foreign exchange markets, investors seem to fixate on one currency's shortcomings only until another one's seem even more dire.