Portugal's borrowing costs have spiked dramatically after key political parties failed to agree on a national salvation front, raising the risk of a snap election and an anti-austerity revolt.
Portugal may have to impose losses on its own taxpayers for the first time if the country needs debt relief
Yields on 10-year Portuguese bonds jumped more than 100 basis points to 7.85pc
in a day of turmoil, kicked off by a government request to delay the next
review of the country’s EU-IMF Troika bail-out until August.
President Anibal Cavaco Silva set off a constitutional crisis on Thursday when
he vetoed a reshuffle by the two conservative coalition parties, insisting
on a red-blue national unity government with greater legitimacy to see
through austerity cuts until mid-2014.
Socialist leader Antonio José Seguro has so far refused to take part,
demanding fresh elections to clear the air. “We must abandon the politics of
austerity, and renegotiate the terms of our adjustment programme. The prime
minister must accept that his austerity policies have failed,” he said.
Some Socialist leaders have threatened debt repudiation as a way of fighting
back at Germany and the creditor powers, though that is not the party
position.
Standard & Poor’s downgraded Banco Comercial, and placed a string of banks on
negative watch. The agency appeared to endorse warnings that austerity
overkill was making matters worse, saying continued fiscal cuts “are eroding
the resilience of the private sector”. It said banks were building up a
“high volume of problem assets”.
Ricardo Santos from BNP Paribas said it was unclear whether Portugal could
withstand a further €5bn of cuts ordered by the Troika. “The bottom line is
that the policy is not reducing the debt ratio. We think public debt will
reach 130pc of GDP in 2014. The country is near the tipping point,” he said.
“Everybody has been saying that Portugal is so different from Greece but if this political crisis goes on for long, that won’t be so clear anymore.”
President Cavaco Silva has limited powers to force a deal on recalcitrant parties, but experts say it is hard to see how the current government can soldier on after such a blow to its authority. He may have to resort to the “nuclear option” of snap elections, opening the way for a fragmented parliament.
Sovereign bond strategist Nicholas Spiro said the events of the past 10 days had left premier Pedro Passos Coelho a “political cripple”, and brought reforms to a “screeching halt”. The crisis was prompted by the exit of finance minister Vitor Gaspar, the chief architect of Portugal’s crisis strategy, who stormed out complaining that he had been undercut by the junior CDS party in the coalition.
“Gaspar did make strenuous efforts to curb the budget deficit, but Portugal’s debt ratio kept on rising. There has to be a risk of another macroeconomic calamity on the scale of Greece and Cyprus,” said Tim Congdon from International Monetary Research.
Portugal has until now been held up as a poster-child of EMU austerity, praised for sticking to its bail-out terms. Failure at this stage would be a grave indictment of EU strategy itself. It would also force the eurozone to clarify its own crisis policies, exposing deep rifts. Europe’s leaders have vowed never again to force a sovereign debt haircut on banks and pension funds, deeming the experiment in Greece to have been calamitous.
This means they may have to violate the pledge or impose losses on their own taxpayers for the first time if Portugal needs debt relief. A study by Eric Dor from IESEG business school in Lille says an orderly debt restructuring by Portugal would cost taxpayers €16bn in Germany, €13bn in France, €11bn in Italy and €7bn in Spain, and twice as much in an EMU exit crisis. “There is a big probability that Portugal will need debt relief, unless you believe in fairytales,” he said.
The sheer scale of public and private debt leaves the country acutely vulnerable to deflation. Nominal GDP has fallen in each of the past two years. This has pushed net external debt to a record 230pc of GDP.
Portugal’s exports have done well, growing 5pc over the past year, with sales in Latin America, Africa and China making up for the weak picture in Europe.
Yet the International Monetary Fund warns in its latest Troika review that the debt outlook remains “very fragile”, with a credit crunch still eating away at small business. Any external shock could push the country over the edge.
The Fund said contingent liabilities of the state risk adding a further 15pc of GDP to public debt, and a growth shock could add another 7pc. A “combined shock” would push debt to “clearly unsustainable” levels.
The report was written before the latest political crisis, and before the US Federal Reserve pushed up global bond yields by 70 basis points. The shock scenario risks becoming real.
“Everybody has been saying that Portugal is so different from Greece but if this political crisis goes on for long, that won’t be so clear anymore.”
President Cavaco Silva has limited powers to force a deal on recalcitrant parties, but experts say it is hard to see how the current government can soldier on after such a blow to its authority. He may have to resort to the “nuclear option” of snap elections, opening the way for a fragmented parliament.
Sovereign bond strategist Nicholas Spiro said the events of the past 10 days had left premier Pedro Passos Coelho a “political cripple”, and brought reforms to a “screeching halt”. The crisis was prompted by the exit of finance minister Vitor Gaspar, the chief architect of Portugal’s crisis strategy, who stormed out complaining that he had been undercut by the junior CDS party in the coalition.
“Gaspar did make strenuous efforts to curb the budget deficit, but Portugal’s debt ratio kept on rising. There has to be a risk of another macroeconomic calamity on the scale of Greece and Cyprus,” said Tim Congdon from International Monetary Research.
Portugal has until now been held up as a poster-child of EMU austerity, praised for sticking to its bail-out terms. Failure at this stage would be a grave indictment of EU strategy itself. It would also force the eurozone to clarify its own crisis policies, exposing deep rifts. Europe’s leaders have vowed never again to force a sovereign debt haircut on banks and pension funds, deeming the experiment in Greece to have been calamitous.
This means they may have to violate the pledge or impose losses on their own taxpayers for the first time if Portugal needs debt relief. A study by Eric Dor from IESEG business school in Lille says an orderly debt restructuring by Portugal would cost taxpayers €16bn in Germany, €13bn in France, €11bn in Italy and €7bn in Spain, and twice as much in an EMU exit crisis. “There is a big probability that Portugal will need debt relief, unless you believe in fairytales,” he said.
The sheer scale of public and private debt leaves the country acutely vulnerable to deflation. Nominal GDP has fallen in each of the past two years. This has pushed net external debt to a record 230pc of GDP.
Portugal’s exports have done well, growing 5pc over the past year, with sales in Latin America, Africa and China making up for the weak picture in Europe.
Yet the International Monetary Fund warns in its latest Troika review that the debt outlook remains “very fragile”, with a credit crunch still eating away at small business. Any external shock could push the country over the edge.
The Fund said contingent liabilities of the state risk adding a further 15pc of GDP to public debt, and a growth shock could add another 7pc. A “combined shock” would push debt to “clearly unsustainable” levels.
The report was written before the latest political crisis, and before the US Federal Reserve pushed up global bond yields by 70 basis points. The shock scenario risks becoming real.
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