Portugal
reforms not gone far enough to ensure financial solidity
Minority
Socialist government more inclined to crowd-pleasing anti-austerity
measures than deep reform
Global Insight
5 HOURS AGO by: Tony
Barber, Europe Editor
As Portugal emerged
in May 2014 from a three-year, €78bn EU-International Monetary Fund
bailout, unsentimental central bankers in Lisbon had words of caution
for the hard-pressed Portuguese people.
Despite having
escaped the disaster of crashing out of the eurozone, Portugal had
not reformed itself enough to ensure lasting economic and financial
success, they said.
Two years and four
months later, the Portuguese central bank’s assessment appears to
have been correct in every important respect. Portugal is at the
centre of a perfect storm of meagre economic growth, falling
investment, low competitiveness, persistent fiscal deficits and an
undercapitalised banking sector that owns too much of the nation’s
sky-high public debt.
Grappling with these
challenges is a minority Socialist government, propped up in
parliament by the far left. In the eyes of Portuguese business, the
government is inclined more to crowd-pleasing anti-austerity measures
than to reforms aimed at improving public sector efficiency and
encouraging investment. The question is whether Portugal’s troubles
will make a second financial rescue unavoidable.
For Portugal’s
official and private sector creditors, it is a question of the utmost
delicacy. Economists at Goldman Sachs estimate that about 46 per cent
of Portugal’s debt is held by the eurozone’s central bank
network, EU bailout funds and the International Monetary Fund.
Another 14 per cent is held by financial and non-financial investors
in Portugal.
Investors outside
Portugal own the remaining 40 per cent and would, understandably, be
apprehensive about any second bailout that foresaw an extensive
write-off of Portuguese debt. As happened when private sector holders
of Greek debt were subjected to euphemistically termed “haircuts”
in 2012, sovereign debt market contagion might spread into other
parts of the 19-nation eurozone.
Discussions about a
second Portuguese bailout would surely be fraught. Germany will hold
national parliamentary elections in 12 months’ time. Neither party
in the Christian Democrat-Social Democrat “grand coalition”
government would want to court public anger by arranging a
German-led, eurozone rescue for Portugal without IMF participation.
António Costa says
pact with left ensuring Lisbon will comply with EU’s fiscal rules
for first time
However, the IMF,
burnt by its experiences with Greece’s three bailouts, displays
little enthusiasm for joining hands with the European Central Bank
and European Commission in yet another “troika” programme for a
weak eurozone state. If Portugal were to need help, the IMF would
first demand a hard-headed analysis of whether the nation had any
chance of repaying its debt.
Portugal’s
government debt totals about 130 per cent of gross domestic product,
a clear risk for a country that in 17 years of eurozone membership
has consistently struggled to produce healthy economic growth. As the
IMF says, even moderate shocks to Portugal’s growth prospects and
fiscal balance could “easily place the government debt-to-GDP ratio
on an explosive path”.
Such language
indicates that the IMF might insist on some sort of debt write-off in
exchange for joining Germany and its eurozone partners in a rescue of
Portugal. Should this involve Portugal’s foreign private sector
creditors, the threat of contagion would loom over the eurozone, as
it did to such dangerous effect in the early years of the Greek debt
crisis.
In Portugal’s
case, the risks involve banks that cannot recover loans from
companies flattened by economic recession and are among the most
thinly capitalised in the eurozone. These banks have loaded up on
Portuguese sovereign debt, recreating the “doom loop” between
weak lenders and financially fragile governments that almost
destroyed the eurozone in 2010-2012.
The question is
whether Portugal’s troubles will make a second financial rescue
unavoidable
Moreover, only one
of four ECB-recognised credit rating agencies gives Portugal the
investment-grade rating that makes it eligible for ECB purchases of
its government debt. Even this holdout, the Toronto-based agency
DBRS, has aired concerns about Portugal’s slowing economic growth.
If DBRS were to
issue a downgrade next month, private investors may take fright at
the lack of central bank backstop. Portugal would be one step closer
to a second bailout. But financial markets would still be in the dark
about what measures the ECB, eurozone governments and the IMF would
take to save it.
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