Friday, March 18, 2011


The Approaching EU Bailout
Portugal May Soon Go the Way of Ireland
Protests in Lisbon on March 12: The Portuguese government is facing a political crisis.

Protests in Lisbon on March 12: The Portuguese government is facing a political crisis.

With its borrowing costs skyrocketing and a political crisis looming, Portugal looks likely to become the next euro-zone country to ask for EU help. The opposition is refusing to support the latest round of austerity measures, and the public mood is turning sour.

At a crunch summit last weekend, euro-zone leaders agreed to expand the euro rescue fund to make more money available for lending to cash-strapped countries. Now it seems that the move came just in time. Portugal is looking increasingly like the next candidate for a bailout from the euro-zone pot.

Lisbon's borrowing costs are approaching the point of no return as market confidence in the country's creditworthiness continues to sink. More significantly, the nation is heading toward a political crisis after the opposition declared it will no longer support the government's austerity measures.

Earlier this week, Socialist Prime Minister Jose Socrates warned that his minority government could not continue if the Portuguese parliament does not approve the latest batch of austerity measures. That would mean new elections, two years ahead of schedule.

The austerity measures, which were unveiled last Friday and are the fourth round in less than a year, are intended to restore market confidence in the country and lower its borrowing costs. They include tax hikes and cuts in spending on education, health and pensions.

Finance Minister Fernando Teixeira dos Santos announced Wednesday that the government intends to present the plans to parliament on Monday, ahead of the major EU summit on March 24-25 which will address the euro crisis.

Opposition Resistance

But the opposition, which had supported previous rounds of austerity measures, is refusing to play along. Earlier this week, Pedro Passos Coelho, the head of the largest opposition party, the center-right Social Democratic Party (PSD), said that they would no longer support the cuts and called for "an end to the carrying-on." Without opposition support, Socrates' minority government will be unable to get the package through parliament.

The opposition parties appear to be responding to the public mood in the country, which is turning against the belt-tightening. The government's efforts to sort out the country's finances with tax increases and cuts in welfare spending have led to a wave of strikes. Tens of thousands of people, including many young Portuguese, protested on the weekend over precarious working conditions, unemployment and the austerity measures.

Both Finance Minister Santos and Prime Minister Socrates have warned that opposition resistance to the new austerity measures would leave Portugal with no choice but to ask for a bailout. "The consequence of a political crisis is the worsening of the financing risks of our economy and would lead Portugal to request external intervention," Socrates on Tuesday evening. Until now, the Portuguese government has insisted it will not need to turn to the euro rescue fund.

'Unsustainable' Borrowing Costs

Meanwhile the financial markets appear to be losing confidence in Portugal's ability to ride out the storm, with the country's borrowing costs continuing to climb. Portugal had to offer an interest rate of 4.3 percent on an issue of one-year bonds on Wednesday, up from 4.0 percent two weeks ago.

Although demand was solid and the country was able to raise €1 billion ($1.4 billion), Finance Minister Santos told parliament that such yields were "unsustainable over the long term." He insisted, however, that Portugal could continue to finance its debt at current prices "for some time."

A rate of 4.3 percent "doesn't amount to a breaking point," Banco Carregosa debt manager Filipe Silva told the Associated Press. He added, however, that if borrowing costs hit 5 percent, it would mean that Portugal had reached "a point of no return," and would be forced to ask for international help.

The increase in Portugal's borrowing costs was partially due to a downgrade of its credit rating by Moody's on Tuesday evening. The agency dropped its rating for the country by two notches, from A1 to A3, with expectations of another downgrade to come.

The markets had initially reacted positively to the euro zone's weekend decision to beef up the rescue fund, and Portugal's borrowing costs had fallen on Monday. But that temporary relief was cancelled out by Socrates' announcement that the country was facing a political crisis.

Debt Woes

Although Portugal's debt problems are not as great as Greece or Ireland's, poor growth in recent years has made it vulnerable to contagion from the euro zone's debt crisis. Its budget deficit hit 9.3 percent of gross domestic product in 2009, way over the 3 percent threshold dictated under euro-zone rules. The government claims to have brought the deficit under 7.3 percent in 2010. Its target for this year is 4.6 percent.

But there are fears the cost-cutting measures could backfire by hampering the weak economic recovery which followed a contraction in 2009. Unemployment is at a record 11.2 percent, and the Bank of Portugal expects a double-dip recession in 2011.

To add to the country's woes, Portugal's debt crisis has left the country's banks unable to raise money on the capital markets in recent months. They have been forced to rely on the European Central Bank for their funding instead.


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