Experts warn of further crisis in the eurozone as Irish deal is thrashed out

News - Banking

Written by Ray Clancy

Tuesday, 23 November 2010 09:30

As the details of the Irish bailout are worked out all investment eyes are turning to other European countries that might find themselves struggling, particularly Portugal.

Mirroring the situation in Ireland, Portugal is insisting that it does not need help, but increasingly the debt crisis in the eurozone is intensifying.

European Union and International Monetary Fund officials are expected to tell the Greek government to step up the pace of its deficit cuts and structural reforms as targets haven’t been reached because of a revision of the 2009 deficit and sluggish tax revenue.

EU and IMF officials will spell out changes which must be made by each ministry so that a fourth payment under the €110 billion package can be made in February.

It highlights that Ireland, and Portugal if it ends up with a bailout, will have to meet the strict criteria that is being set out as part of the loans procedure. Opinion is divided over the crisis in the eurozone and what is happening is being closely followed by investors.

According to Phyllis Reed, head of economics at Fixed Income & Currency Research at private bank Kleinwort Benson the bailout has given the euro zone some breathing space. But she warned that questions still remain over the likes of Portugal. She says the spectre of contagion has not gone away and that markets must remain on the look out for the next target.

‘Markets are still looking at Greece, despite its €110 bailout, with some fearing that the country is not doing enough to reduce its budget deficit. Whilst there are no details yet of how the bailout will affect the Irish banking system, questions remain over the subordinated bond holders and whether they should take a hit,’ she explained.

‘The European Central Bank would not like to see senior debt holders sharing in the pain. Irish citizens have had to take on board of lot of austerity in recent months and the Government is doing the right thing. It is the banks that remain the problem,’ she added.

Jamie Stuttard, head of European fixed income at Schroders, said that although Ireland is small with an economy that is just 2% of the eurozone, it cannot be overlooked that two countries in the 16 member eurozone have been forced by markets to request an EU/IMF bailout over debts they racked up during the boom years.

‘Those who think the eurozone problems are resolved and that debt contagion fears in the eurozone are now “contained” should expect markets to continue to press areas of uncertainty and ambiguity until these are resolved. Foremost among these is how to deal with the eurozone’s debt problems after June 2013 and just ahead of the next German Federal elections in October 2013,’ he explained.

With two countries now in the hands of the IMF and European Union aid, the eurozone still has multiple challenges to deal in its maturation process and as it continues to face its first major test in its youthful history.

‘As many countries both in the eurozone and beyond face large refinancing challenges in 2011, a creeping awareness that sovereign debt problems tend to follow banking crises may draw more countries into funding difficulty. With over US$5trillion of government debt that requires issuance in 2011 to meet coupons, redemptions and anticipated budget, the primary government bond market calendar will once again be a major test for the more fundamentally challenged countries,’ said Stuttard.

‘As Ireland has shown, this has everything to do with fundamentals, and very little to do with Moodys’ Aaa ratings, GDP per capita, corporation tax rates etc. Spain for instance will need to roll over nearly 20% of GDP in 2011 (via Bills and Bonds), without even assuming further problems in the banking sector. Spain was Aaa rated as recently as September this year,’ he explained.

‘The policy response to Greece and Ireland has been slow, full of mixed messages and there remains massive uncertainty as to how problems in eurozone government debt will be addressed post-2013,’ he added.

Read the latest Eurozone report from Investment International here.