Greece’s fiscal plight is escalating into a Europe-wide crisis of confidence, shaking global markets and threatening the continent’s recovery.
Concerns of international investors, anxious despite repeated efforts by European authorities to calm fears of a debt default, are spreading well beyond Greece to other debt-burdened countries such as Portugal, Spain, Ireland and Italy.
There are fears that a bailout by the European Union and the International Monetary Fund could come too late, and the spreading crisis has now prompted wider concerns of a hit to the European economy.
Markets were already worried about those weaker economies, but fears ballooned yesterday, pushing credit default swaps on some European debt to new heights. The crisis deepened after Standard & Poor’s downgraded Greek debt to “junk” status and cut Portugal’s credit rating, driving down global stock markets and pushing the euro to a one-year low.
Investors fear a default or a debt restructuring by Greece, which must raise about €9-billion ($12-billion) to pay back a 10-year bond set to mature May 19, a deadline of increasing concern. Some bond yields surged anew yesterday, sending borrowing costs to prohibitive levels for governments already struggling to finance fat budget deficits.
“The contagion is definitely spreading and spreading quite rapidly to Portugal, Spain, Ireland and Italy,” Mehernosh Engineer, a credit strategist at BNP Paribas, said in a report published Tuesday. “The market has been in a show-me-the-money mode for well over three months and the lack of guidance is slowly and steadily sowing the seeds of a double-dip.”
Investors are also closely watching developments in Germany, which would shoulder a hefty portion of the bailout.
German Chancellor Angela Merkel made it clear that the package requested by Greece last week would not go ahead unless the country produced a credible, long-term plan to rein in its monstrous budget deficit and get its financial house in order.
“If Greece is prepared to accept tough measures – and not just for one year but several years – then we have a good chance to keep and secure the euro as a stable currency for us all,” she said.
Economists said Germany’s tough talk means it has little appetite to bail out Greece and possibly no appetite to bail out Portugal or any other EU countries whose debt problems could destroy their ability to sell bonds by themselves.
Germany’s stance will make bond investors “nervous” for some time, they said.
In London, UniCredit economist Marco Annunziata said “it has now become apparent that it would be extremely difficult for the German government to ask its parliament and voters for more money – and this when we already know that Greece will most likely need additional financing for the coming years.”
No European market emerged unscathed from the spread of the Greek contagion. Most European stock market indexes lost 2 per cent to 3 per cent – their biggest fall in five months – while markets in Greece and Portugal were slaughtered. Greece’s composite index lost 6 per cent. Portugal was down 4.7 per cent. Ireland, the EU country with the widest budget deficit, lost 4.5 per cent.
“Investors are looking for the next weak link in the euro zone,” said Simon Ballard, credit analyst in London with RBC Dominion Securities. “That may be Portugal, though it’s a bad day for everyone in Club Med.”
Credit default swaps on Portuguese debt widened by as much as 395 basis points, about 80 points higher on the day. (A basis point is 1/100th of a percentage point.) That meant it cost $395,000 (U.S.) to insure every $10-million of Greek debt against default. CDS spreads in other Mediterranean countries also rose.
Italy, which has one of the world’s highest debt-to-GDP ratios, though a relatively tame budget deficit, saw its credit default spreads widen by about 10 basis points to 160 points. On Tuesday, Italy, the world’s third-largest bond market, managed to sell €13.5-billion of bonds despite the market chaos. But it had to pay considerably higher yields to get them out the door. The yield on the two-year bond was 1.753 per cent, compared with the previous effort at 1.499 per cent.
After Greece, Portugal was the biggest casualty of the selloff. For months, it has been trying to distance itself from its eastern Mediterranean neighbour. “We are not in such a critical situation,” Luis Amado, Portugal’s foreign minister, said on Monday. “We didn’t cheat with our statistics. They are reliable for a long time, and our imbalances at the macroeconomic level are not so deep.”
Portuguese finance and economy chiefs have stressed that Portugal’s deficit, while relatively high at 9.4 per cent of GDP, is considerably lower than Greece’s 13.7 per cent.
Its debt, at 77 per cent of gross domestic product, is nowhere near a high as Greece’s, which stood last year at 110 per cent. They note that, between 2005 and 2007, the country cut its budget to 2.6 per cent from 6.1 per cent – no mean feat. Its goal is to reduce the deficit to 2.8 per cent by 2012, a figure below the EU’s 3-per-cent limit.
But bond investors weren’t buying Portugal’s sale pitch. They focused on its rock-bottom growth rates, the lowest since 1999 among the 16 countries that share the euro. Portugal also suffers from labour costs that have greatly exceeded productivity growth, high household debt and overwhelming economic ties to Spain, which is in recession and whose unemployment rate is 20 per cent.
Portugal’s plans to restore competitiveness while bringing down its deficit have yet to convince the markets that its problems are not chronic. “We don’t know how Portugal’s problems will be addressed,” said RBC’s Mr. Ballard.
By last week, Portugal seemed resigned to its fate as a Greek look-alike in the eyes of debt holders. “We do not ignore that Greece’s particular situation has contagion risks and we are feeling it,” Finance Minister Fernando Teixeria dos Santos told reporters in Lisbon on Thursday. “The performance spreads in the market reveals that contagion risk.”
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