by Frank Schnittger
Fri Feb 5th, 2010 at 06:22:18 AM EST
Goodbody Stockbrokers - News and Comment - Morning Meeting Wrap
The markets keep picking off the countries where sovereign debt risks are perceived to be real one by one. After Ireland last year and Greece over recent months, attention seems to have moved on to Portugal. In fiscal crises, contagion leads to countries being guilty by association, which is why the PIIGS acronym (Portugal, Ireland, Italy, Greece and Spain) is a somewhat unfortunate association for the countries involved.
It is also an association that is difficult to shake off, although Ireland has done a pretty good job over the past twelve months, as it is has shown real political will to tackle the problems in the public finances. There is no doubt that all of these five countries have issues to deal with at the current time, but there are also a few important features that differentiate them.
The similarity is that all of the countries, bar Italy, will experience budget deficits in the range of 8%-11% of GDP in 2010. Starting debt levels differ though with Greece already well over 100% of GDP, while Ireland stands at 65% and Spain at 55%. These two variables are often cited as the main gauges of sovereign risk, but they ignore the wider balance sheet for the economy as a whole - the balance of payments. The balance of payments records transactions with the rest of the world, while within this one can look at the private sector and public sector balances. This is where the differences really become apparent between the countries mentioned above. Portugal will run a current account deficit of 10% of GDP in 2010, while Ireland may run a small surplus, according to the latest estimates.
For Ireland, this means that the large public deficit is being offset by a significant private sector surplus, as households and businesses have slashed spending in the recession. Greece will run a current account deficit of 8% of GDP, while Spain is expected to run a deficit of 5%. In this regard, Portugal and Greece look to be in the most vulnerable position. While spreads on ten-year Irish bonds relative to bunds are still larger than that of Portugal, we would not be surprised if this changes in the very near future, as it has already occurred at shorter maturities. With fiscal consolidation progressing at different speeds in the different countries, a further differentiation is likely at some stage. For now though, fear rules the roost.
Are the markets correct in lumping such diverse countries together despite their wildly different economic circumstances? Are national bonds (and interest rate differentials with Bunds) a valid measure of the relative risk of default of the nations concerned? Does any of this reflect economic fundamentals rather than the current market fashion du jour?
What are the prospects for recovery and development for these very different economies. What economic strategies are their Governments pursuing, and is it all determined by neo-liberal economics?
Will the Euro and the ECB play a positive or a negative role in their recovery? Will the EU have to become more directly involved in directing the fiscal as well as monetary policy of member states? Is the Growth and Stability Pact which sought to limit member state public sector borrowing requirements to 3% of GDP and National debt to 60% of GDP both totally out of date and completely inadequate to the task of harmonising/converging member state economic development? Will, as Eurosceptics hope, the growing divergences tear the Eurozone if not the EU apart?
Is this all neo-liberal scaremongering to extract further concessions from hard pressed workers and low to middle income taxpayers or are there real and serious structural problems which need to be addressed? If so what are these problems and how should they be framed? Is neo-liberal economics the only game in town at the moment, or are alternative strategies also being pursued?
These questions are the ones uppermost in my mind, but I'm sure readers here will have many more - and hopefully the expertise to answer at least some of them.