A D&B Special ReportJuly 2011The Euro Debt Crisis,One Year OnRisk Insights1• The euro debt crisis continues, over a year since the first serious concerns were raised about debt problems in some of the euro-zone economies (especially in the PIIGS: Portugal, Ireland, Italy, Greece, and Spain). More economies have started to receive EU/IMF support in order to meet their growing debt obligations.2• Concerns over the Greek government’s ability to repay its substantial public debt have increased following the renewed political crisis in May/June 2011.3• Large household and corporate indebtness in Ireland and Portugal pose a risk to financial sector stability.4• The necessary adjustment process to reduce domestic and external imbalances implies much weaker prospects for exporters to (and potential foreign investors in) the most vulnerable countries.5• Contagion risks remain a source of concern, particularly relating to financial sector stability and economic growth prospects.6• We recommend increased vigilance, especially with regard to payment and exchange rate risks.Contents13 Recommendations23 Background: The Crisis, One Year On33 Outlook: What Will Happen After a Greek Default?43 Implications for D&B Customers
A D&B Special Report Country Risk July 2011 Services 10-year Government Bond Yields % 20 Germ any Greec e 15 Irelan d Portug al Spain 10 5 0 9 r y l p v 0 r y l p v 1 r y a a u o a a u o a a 0 J e 1 J e 1 Ireland’s debt - M S N - M S N - M problems stemmed n M n M n Mfrom troubles in the a a a banking sector… J J J Sources: Eurostat; D&B Irelan d Irish public debt rose from 40.6% of GDP in 2008 to 96% of GDP in 2010. This was driven by a crisis in the country’s banking sector (which suffered from unsustainably high household indebtedness: 211% of household income in 2009) and rising levels of non-performing loans (over 11.0% of total loans were in the non- performing category in Q1 2011). As a result, the authorities had to inject capital into all the major banks (Allied Irish Bank, Bank of Ireland and Anglo Irish Bank), effectively nationalising almost the entire banking sector. However, the cost of rescuing the Irish banking system has far exceeded the initial esti-mates of EUR25bn, and in November 2010 the government had to secure EUR80bn in bailout funds from the EU and IMF in order to help finance rapidly-rising public debt. The EU/IMF funds were partially fi-nanced from the EUR750bn European Financial Stabilisation Mechanism (EFSM) set up in May 2010, and partially from bilateral financing from the UK; all this took the form of a three-year package of loans with an interest rate of 5.8% (about 260 basis points lower than the interest rates demanded by private in-vestors at that time). Positively, according to the stress tests carried out by the central bank of Ireland in May 2011, the two most troubled banks (Anglo Irish Bank and Irish Nationwide Building Society) are unlikely to require more than the EUR34.7bn already received from the Irish government in 2010, bringing the total bill for rescu-ing the banking sector to EUR70.0bn (less than the previous estimates of EUR80.0bn). However, the cen-tre-right government …but the country is hopes to rescue some of the capital by imposing a degree of burden-sharing and losses on creditors (so-called better placed to ‘haircuts’). In early June 2011 the government announced that under the most recent plans, not only will juniorgenerate growth and bondholders have to face losses, but the burden-sharing may also affect senior bond holders (who traditionally repay its debt as it ranked above junior debt holders and on the same level as depositors). matures Positively, the amount of unsecured senior debt has been reduced and (as of February 2011) stood at EUR3.1bn for Anglo Irish Bank and EUR600m for Irish Nationwide, according to figures from Barclays Cap- ital. That said, the risk of Irish default remains high (we expect the spill-over effect from the potential Greek
A D&B Special Report Country Risk July 2011 Services Government Debt Forecast % of GDP Greece 200 Ireland Italy Portuga 160 l Spain 120 80 40 0 20 2008 2009 2010 2011f 12f Political Sources: Eurostat; D&Bturmoil forced PortugPortugal to seek alinternational The debt crisis in Portugal has been exacerbated by political turmoil; in mid-March 2011 the Portuguese Primefinancial support Minister Jose Socrates resigned from office after the country’s parliament rejected his govern-ment’s austerity measures (which were intended to avoid a bailout). As a result, the caretaker Socialist administration had no choice but to secure a bailout package from the EU, as emergency external fund-ing was needed to meet the costs of redeeming and refinancing Portugal’s external debt obligations. A EUR78bn bail-out programme was agreed in early May, which focuses on three pillars of the economy: fiscal adjustment; strengthening the solvency of the banking sector; and improving competitiveness. Positively, the centre-right coalition government that emerged after the general election on 5 June) is committed to the EU/IMF programme. With a healthy parliamentary majority, the government is likely to improve financial market confidence in Portugal and avert the country’s economic and financial col-lapse. However, the challenge is substantial: the EU bail-out plan sets a budget deficit-reduction target of 3% of GDP (by 2013, from more than 9% in 2010), via implementing another set of tax hikes, spend-ing cuts, labour market reforms, bank recapitalisations, and an accelerated privatisation programme. The reforms enjoy broad political support, but we expect the risk of labour unrest to increase in coming months, particularly given that the coalition’s Social Democratic Party does not have close links to trade unions. Moreover, a weak economic outlook will remain the country’s biggest challenge (overall we ex-pect the economy to contract by an average of 1.9% in 2011-12), while high corporate indebtedness (see Debt Levels in the PIIGS chart) poses the risk of increased bankruptcy levels. Debt Levels in the PIIGS (2010) Public sector External sector Non-financial corporations Household debt (% of GDP) (% of GDP) (% of GDP) (% of GDI) Greece 142.8 183.8 71.5 84.8* Ireland 96.2 1,093.5 283.7 211.3** Spain 60.6 162.7 197.9 125.3 Portugal 93.0 229.3 147.3 133.7 Italy 119.0 116.9 116.1 71.6 Notes: GDI = Gross Disposable Income; * data for 2008; ** data for 2009.