Tuesday, November 16, 2010

People walk by a banner in downtown Lisbon calling for a general strike on Nov. 24 in protest against government austerity measures. - People walk by a banner in downtown Lisbon calling for a general strike on Nov. 24 in protest against government austerity measures.

German bond proposal sparks unrest in EU’s big debtors (G&M)


ROME— From Tuesday's Globe and Mail

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Germany’s tough stance on bailouts for debt-swamped European countries has plunged weaker states like Ireland and Portugal deeper into turmoil, raising the threat of a return to national currencies for the very weakest economies.
Europe’s debt crisis has spread in several directions, with Greece warning that Germany’s proposals are driving the have-not economies toward bankruptcy, pressure mounting on Ireland to accept aid it insists it does not need, and Portugal’s Foreign Affairs Minister warning the country could have to quit the euro zone.

Since last spring, when the debt crisis walloped the bond markets and pushed down the value of the euro, various economists have suggested it's only a matter of time before Greece and possibly other weak “peripheral” countries ditch the common currency and embrace their old money, which could be devalued.
A devalued currency is traditionally the quick route to making an economy more competitive. Devaluations, for example, can substantially boost exports. In the absence of devaluation, countries on the brink of financial collapse have to launch severe austerity programs, which can sloweconomic growth and trigger social unrest.
Greece’s Prime Minister George Papandreou, speaking in Paris at a meeting of the Socialist International group, said Germany’s plan to force private bond investors to share the cost of sovereign bailouts with taxpayers was responsible for creating “a spiral of higher interest rates for countries that seemed to be in a difficult position, such as Ireland and Portugal … It could force economies toward bankruptcy.”
The German effort, promoted by Chancellor Angela Merkel, last week sent bond yields soaring in peripheral euro zone countries, notably Ireland, as short sellers hammered bond prices on the expectation that bondholders would face “haircuts” – potentially severe losses on their bond principal – in any sovereign debt restructuring.
The rising bond yields triggered a fresh debt crisis, six months after Greece accepted a €110-billion ($150-billion) bailout from the European Union and the International Monetary Fund. On Monday, Portuguese Finance Minister Fernando Teixeira dos Santos said Portugal might have to seek a bailout package if only to prevent other euro zone countries from getting infected.
“The risk is high because we are not facing only a national or country problem,” he told the Financial Times. “It is the problems of Greece, Portugal and Ireland … This has to do with the euro zone and the stability of the euro zone, and that is why contagion in this framework is more likely.”
The economic outlook for Portugal is so bleak that Foreign Affairs Minister Luis Amado said his country “faces a scenario of exit from the euro zone” – the 16 EU countries that share the euro – if it doesn’t get its financial house in order.
“There has to be an effort by all political groups, by the institutions, to understand the gravity of the situation we’re facing,” he said in an interview published Saturday in the Portuguese weekly Expresso.
Portugal has emerged at the front line of the debt crisis even though its economy is expected to grow by 1.6 per cent this year, according to Deutsche Bank forecasts, and its budget deficit, at 7.5 per cent, is far less than Ireland’s and Greece’s. Still, Portugal has severe economic challenges, including an anemic growth rate, banks that depend on the European Central Bank for funding and a low private savings rate, meaning the country will struggle to fund itself over the long run.
In an interview, Jose Manuel Amor, a partner and strategist at AFI, a Madrid finance and economics consultancy, said Portugal is “likely” to seek assistance from the €440-billion European Financial Stability Facility (EFSF), which was set up by euro zone countries shortly after the Greek rescue to bail out other distressed countries.

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