Buried under the fighting in Libya, the escalating oil price and hand wringing about China and the rising cost of commodities and inflation, Europe’s debt crisis has burbled along.
Suddenly, it has roared back to life this week to remind us all that the eurozone is still the single greatest potential destabilising force to the global financial system and the world economy, more than rising oil prices, for example.
In the past two days, the cost of borrowing for Portugal, Ireland and Greece has hit euro-era highs; the reason – fears that two summits of European leaders, the first tonight, the second a two day affair later this month, will fail to take action strong enough to convince markets that sovereign defaults will not happen.
Adding to the emerging pressures was the news overnight that Spain’s credit ratings were downgraded by Moody’s over fears that the cost of bailing out the country’s domestic savings banks will cost more than than the government expects.
Spain, which used be triple A rated from all the main rating agencies, saw its ratings cut one grade to Aa2 by Moody’s.
Moody’s claimed that the eventual cost of restructuring the banks will exceed the government’s current assumptions of 20 billion euros and could cost 50 billion.
Moody’s said downgrade followed one on Monday when it chopped Greece’s ratings on Monday by three steps to B1.
The ratings moves come before a crucial summit of European Union leaders later today to discuss a response to the sovereign debt crisis.
Initial market expectations of a comprehensive rescue package look increasingly unlikely.
After the release of the Moody’s Spanish 10-year benchmark government bond prices fell and yields rose to 5.553%.
Moody’s put the rating of Spain on review at the end of last year after dropping its status to Aa1 from Aaa in September. Fitch, which rates Spain AA plus, also changed the country’s outlook to negative earlier this month. Standard & Poor’s rates Spain AA.
By sovereign default, the markets mean Greece and Ireland in particular, and possibly Portugal, although that has yet to be forced to ask for help.
Spain is still considered to be a reasonably good risk.
But it’s not just this unholy trio that is in the sights of markets. Long-term market interest rates for Spain came to setting a record and Italy’s borrowing cost rose above 5% for the first time since November 2008 after Lehman Brothers collapsed.
Greece’s 10 year bond rate hit an all time high of 12.82% at one stage overnight, higher than when it was forced to be rescued last May (the bonds closed at 12.68%, which Bloomberg and others said was the second highest close in euro history).
Ireland’s 10 year rate has now been above 7% for most of the past five trading weeks and the 9.39% level reached in trading yesterday on the secondary market was said by the Financial Times to be 1% higher at 9.39%, than the level the bonds traded at before the rescue last November.
Portugal borrowed 1 billion of two year funds and was forced to pay 5.99%, up from just 4% six months ago. That 50% jump increase in the cost of money spooked the market. It is 4.5% more than the German 2 year bond rate.
The yield on Portugal’s 10-year bonds rose a further 0.06 percentage point to 7.68%, a euro-era record and above the rates Greece and Ireland were paying before their bailouts.
The surge in yields is adding to concerns that Greece and or Ireland will be forced to restructure their debts to survive, despite the bailouts. The debt burdens they have taken on are simply too large to be carried for the next decade or more.
Those fears are being added to by the dithering and buck passing between Germany and the rest of the eurozone about a course of action that will meet the concerns of the markets and those of the governments of Ireland (which has a new government) and Greece about the need for lower interest rates or a much longer repayment period than even the extended ones granted late last year.
The issue is complicated by the recent loss in a regional election for German Chancellor Angela Merkel and the fact that she faces a bigger test in a March 27 poll, right after the two day European leaders summit that is being looked to for a final answer on this issue.
Tonight’s one day meeting will see the new Irish government present itself and its ideas on the changes it wants to the bailout package.
In January, the markets seemed to believe that the eurozone would agree on a revamped bailout mechanism, set new rules on budget deficits and a system of support funds to flow from richer countries in the single currency bloc to the poorest.
But that belief has vanished as Greece and Ireland struggle to get support to renegotiate their rescue deals.
Even though tonight’s summit is the least important of the two, any sign of disagreement or fudging on the issue will trigger another sell-off and more worries about Portugal, and increase fears that Greece and or Ireland will conclude that it will be easier to restructure their existing loans, thereby imposing big losses on bond holders and raising the question of default.
While stunning, such a move would crystalise what is an unstable situation, produce losses for a group of people who blithely lent money to both countries without too many checks and balances, and in the ca
