Must Germany Save Portugal?

Ambrose Evans-Pritchard Daily Telegraph April 19, 2010

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By Ambrose Evans-Pritchard Published: 7:13PM BST 18 Apr 2010

Comments 24 | Comment on this article

The long-drawn saga in Athens can perhaps be deemed a case apart. Greece lied. Its budget deficit was egregious at 16pc of GDP last year on a cash basis. It wasted its EMU windfall, the final chance to bring public debt back from the brink of a compound spiral.

You cannot blame the euro for this, although EMU undoubtedly created a risk-free illusion that lured both Athens and creditors deeper into the trap – and now prevents a solution. Nor would an orderly default under IMF guidance along Uruguayan lines necessarily imperil Europe's banks. The Bundesbank hints that letting Greece go would prove a healthier outcome for EMU in the long run, upholding discipline.

However, Portugal did not cheat (much) and did not start as an arch-debtor. It did mishandle the run-up to EMU in the 1990s, failing to offset a fall in interest rates from 16pc to 3pc with fiscal tightening. Boom-bust ensued. But that was a long time ago. Portugal has since settled down to a decade of sobriety. The reward never came.

Brussels admitted last week that Portugal's external accounts have switched from credit in the mid-1990s to a deficit of 109pc of GDP. This has been caused by the incentive structures of EMU itself. "The more broadened access to credit induced a significant reduction in the saving rate, while consumption kept growing faster than GDP. This development led to an increase in Portuguese indebtedness," it said.

The IMF's January report said "The large fiscal and external imbalances that arose from the boom in the run-up to adoption of the euro have not been unwound, resulting in the economy becoming heavily indebted and growing banking system vulnerabilities. The longer the imbalance persists, the greater the risk the adjustment will be sudden and disruptive." The IMF noted the "heavy reliance" of banks on foreign wholesale funding, equal to 40pc of total assets.

Lisbon reacts with outrage to Greek parallels. "Nonsense without any solid foundation, revealing ignorance," said finance minister Teixeira dos Santos. He was responding to remarks by New York Professor Nouriel Roubini that Portugal might be forced out of the euro, and by ex-IMF chief economist Simon Johnson that Portugal is on "the verge of bankruptcy".

Yes, Portugal's public debt will be 86pc of GDP this year against 124pc for Greece (EC estimates). That is small comfort. Giles Moec from Deutsche Bank said Portugal's private debt reached 239pc in 2008: Greece was 123pc. Total debt levels matter. The last two years have taught us that private excess lands on the taxpayer one way or another. For Portugal, the figure is now is in the danger zone above 300pc.

Mr Moec said Portugal has been blighted by entering EMU at an overvalued exchange rate: "Portuguese exporters have never been able to recover". The country has plugged the perma-gap with foreign loans. This cannot go on. The current account deficit is still running at 10pc of GDP, and the patience of global investors is snapping.

Euro enthusiasts are mystified at why Portugal's catch-up growth stalled in the 1990s. Productivity has been stuck at 64pc of the EU-15 level, refuting the cardinal assumption of EMU that North and South must converge over time.

This should be no surprise. A study of the Latin Monetary Union after 1865 by Kee-Hong Bae and Warren Bailey showed there was no convergence for half a century. Weak states cheated, inflating stealthily by dumping silver coins on others. The project was kept alive by French subsidies. That is what haunts Germany today.

Let me be clear, Portugal has not been reckless. It has been run better than Britain for the last eight years. Its banks did not go berserk. House prices have been well-behaved. Lisbon has been cutting public sector jobs for year after year. This can be overstated, of course. The IMF says Portugal still has EMU's most rigid labour markets. Social transfers have risen to 22pc of GDP from 18.5pc since 2005. Yet you cannot argue that Portugal is a basket case. It has hit a brick wall anyway.

Brussels is now telling Lisbon to cut yet deeper to reduce its budget deficit, 9.3pc of GDP last year. It is one thing to persuade a country to retrench after a boom, it is another when there has been no boom at all. Portugal must do this under a minority government. Socialist premier Jose Socrates survives on sufferance of conservatives, who are wobbling.

Portugal does not face an imminent funding crisis. If Europe's economy grows briskly, it may be enough to lift the country off the reefs. But one thing seems sure: Germany is not going to bail out any more countries, and the IMF is too small to cover.

Comments: 24

The underlying problem is that private banks did not impose any notable interest rate differentials for their lending to the different Eurozone countries. They apparently assumed the default risk of governments as well as citizens of the Eurozone to be the same. The result was that the PIGS had access to more credit than was healthy for them and vice versa credit supply to citizens of surplus countries like Germany was kept too tight. I.e. I am German citizen and have a annual income of above 100k plus a stock portfolio which is worth about 200k and I have ZERO debt of any kind. Yet, I must pay an interest rate of above 11% if I want to borrow the laughable sum of 30k. End result is of course that I don't borrow but instead defer my purchase in order to save and buy with that saved money later. Banks IMO urgently need to update their interest rate calculations with components that take into account differences in the macroeconomic conditions (current account, public and private debt level) and differences in cultural attitudes towards debt between the different Eurozone countries. Bail outs should therefore be avoided at all costs because only then do private banks realize that their default risk and interest rate calculations are severely flawed and need to be updated.

Ambrose is doing all he can to divert people from looking at the US - UK responsibilities in the biggest economic downturn and financial collapse the world suffered in our lives. For Ambrose it seems US – UK own financial problems are far less significant than those of Greece (Greek economy is only about 2.5% of the euro zone economy) and Portugal. What was he saying or doing when the neocons did all they could to transfer the creation of wealth from the real economy to Wall Street and the City? From Enron, to unregulated securities (CDO, CDS) and Subprime mortgages all went unnoticed by Ambrose. As a consequence of more than 20 years of deregulation and blood sucking of our economy by the financial elite and their self serving politicians and journalists, it seems the democratic foundations of our western society are greatly damaged. That’s what happens, Ambrose, when greed, cynicism, denial, partisanship and selfishness become the rules of the game. But I am afraid you don’t care, so keep smiling and pushing your anti European agenda.

"The markets are designed to fool all the people all the time" Most folk dont have a clue what is going on but they do know there is a problem. Savers are a target for those with debt, debt has been encouraged which is an understatement. Lets for the sake of convenience call those with debt the have nots. Since growth buy consumption is good for government, banks and corporations it is encouraged. Everything is tilted toward the borrowing consumer. Those who deffer consumption are anti social, but, unless you can take from the haves or borrow the debtors who have hit a brick wall go down. Currency debasement is the most cynical of theft in order to keep a deeply flawed system from going under. Why hold Euro or Sterling when you fear they shall fall? Confidence in fiat money and the fractional reserve system is ebbing even among those who could not identify said system. Europe wide exchange controls might soon be introduced which would be another nail in the economic coffin. The Politicos shall have to be seen to be doing something "we cant just do nothing". Then since you cannot get your money out nobody will bring their money in. Oh no we cant allow the haves to escape, if we did where would we be then? The haves like Germany have lent so much money to the have nots the whole big pile of brown stuff is likely to hit the fan sooner rather than later.

John on April 18, 2010 at 11:31 PM You ask "how are they -the French- going to con the Germans into paying for the pigs" Their man at the ECB, Trichet, has already been doing it for a week (and of course not only with German taxpayers' money). Fireworks. This has been reported - does anyone (Ambrose?) know if this is verifiable?

I'm confused - how did you get 200% private debt? Was this over the weekend? Those stats are simply wrong. British economics reporting is like reading fairy tales. Portugal is a distraction for the big white Elephants called UK debt and US debt(Califonia, NJ, etc). Besides one has to look at assets vs debt. Portugal spent EU money on infrastructure..that will still be there tomorrow. Can the same be said about US or UK debt investment? AS for rating agencies - I don't know any successful investor that even follows their ratings.

Must Germany bail out Portugal too? Of course! and Ireland, Spain and later may be Italy ........

Dont you realize, Mr EP, that Goldman is just the beginning and the first one to be sued? All anglo banking, and part of northern european are involved. The banking system is broke, and so the countries than host them The PIGS problem will be irrelevant shortly, at least, we are not involved into the securization orgy fraud

Tortoise on April 18, 2010 at 09:33 PM You mentioned, "The euro, like the dollar before it, will have to lose value ..." Two questions: Which line is longer, the list of currencies which can devalue (for not all currencies can devalue), and which countries have problematic sovereign, and total, debt. If the number to the first question matches the second question, fine. But, if the answer to the number of the second question is larger than the number to the first question, not so good.

If you add up UK public and private debt it is comfortably in excess of 400%. So whither Portugal and Greece go, so goes the UK

Good Story Ambrose.. The USA and Japan have too much Debt. It can't last long.. All this Debt will not be re-paid.. Everybody should just default at one time.. all loans go to Zero Balance. Blame it all on Goldman Sachs...

Interesting article but why so late? Little of the information is new. Is thisjust a journalist after the next big drama

Ryskamp: not a single Pfennig has been dispersed and a court challenge is waiting in Karlsruhe. I believe Evans-Pritchard intended to say that even if Germany DOES go through with a bail-out of Greece, another bail out is simply unthinkable. Since you cannot even correctly spell his name you should really hold your fire.

Nouriel Roubini comments that the need for the EU is to restore competitiveness (to restore growth) and assist its indebted nations. This is equally true for the UK and the US. The quickest and most obvious way for the EU to achieve this is to have a competitively valued Euro. Germany as the world's second largest exporter would welcome this. This would obviate the need for Germany to bail out any other country. However, it would temporarily increase inflation in Germany, something which is anathema to the Germans. AEP correctly says that Portugal does not face an imminent funding crisis. Nonetheless it has had its credit rating downgraded to AA- by one US rating agency. Former Bank of England MPC member Professor Willem Buiter in an interview with the FT this week forecast a possible downgrading in Britain's triple A rating after the UK election and a rise in British interest rates in the autumn. Is Britain about to hit a post election brick wall in the bond markets? Or will its coalition government be forced to go the Irish way? Followers of AEP's column will be discomforted to learn that Mr Cameron's future coalition partner is distinctly not anti-European. "Do we really think that we can pull up the drawbridge, and ranting and raving at Europe from the sidelines is going to make us any stronger or safer? The weather doesn't stop at the cliffs of Dover. I think we are stronger together and weaker apart", he says.

Debt levels do not matter. I encourage the european governments to spent to infinity and disregard the critics. Keynesian economics will prevail and the eurozone will flourish... keep spending, more and more and more... PLEASE.

Didn't Goldman Sachs help the Greeks 'restructure' their debts? If so, call in the SEC! Maybe a good honest Greek lawyer could help investigate too? Perhaps Linklaters or Slughter and May could help too? And some acoounts: Andersen %Accounting? Ernst % Young? Maybe Scotland Yard too? Dont blame the Greek people blame the shyster Wall Street bankers and their advisors!

I think that one of the most instructive events recently was to watch the way Germany went from no bailout for Greece to following the herd. The German U-turn happened very quickly and it happened as a result of a kind of market panic. We sat through three solid months of tough talk about Greek debt and then the news broke that there was the beginning of Bank run in Greece, and that was that. Almost overnight, Papa-Doc got what he wanted. I think you can explain this. As long as we are talking about sovereign debt, we are talking about something with a known magnitude and a certain duration. We have at least the illusion that it can be managed. But once Banks get into trouble, then depositors begin to withdraw their funds, and counter-parties decline to trade, things can move very fast. Essentially this repeats the disorderly way in which one US Bank would get bailed out, and another not, a year or so back. Things were moving so fast and so unpredictably that an orderly resolution was impossible. If a similar thing happens with Portugal, investors will begin to remember the old rule; if you are going to panic, panic first. Then they will withdraw funds as a precaution. After that we could see a rolling set of crises around Europe, or perhaps the entire World, as one Banking system after another gets into trouble, recovers a little, and then sinks deeper. Unwinding sovereign debt is something you can manage, but a Banking panic is not. Banks depend on confidence, and confidence is entirely ephemeral.

How can you say "You cannot blame the euro for this" NONSENSE The EU commission was responsible for letting Greece in! The buck (or the euro) stops at the commission.They had the final say not Greece. Once again those to blame, the EU commission, keep very quiet and shirk their responsibility. The Greeks may have falsified their accounts to get in to the euro but it was the commission's job to check them. They should all be sacked and those at the ECB. They are "Not fit for purpose"

This is going on a bit. In any sensible world, Greece would have defaulted on its loans by now and reverted to the Drachma and the screams of outrage would be dying down. This should have happened months ago if they had had any decent leadership. As it is, all we get is a prolonging of the agony. It rather reminds one of all those Wall Steet investment trusts built on loans and absurdly inflated stock valuations that soared in the economic firmament for a few years in the late 1920's and fizzled out shortly thereafter. They fought like hell to escape the obvious fact of their bankruptcies but after awful agonies of thrashing about all went down the bin in the end. Pity about Portugal. Not such a wide boy as Greece but that won't save 'em. The Germans haven't actually released those idiotic loans to Greece yet and I daresay they won't now if they have any sense and the queue is getting longer. Can't really see any way out of this other than a doubling or so of the euro money supply which Germany doesn't seem too keen on. The French are keeping remarkably quiet but not to be underestimated. The interesting thing is how they are going to con the Germans into paying for the pigs now that the guilt generation is becoming less powerful. I don't doubt they will succeed though its getting to be less of a cakewalk than it was.

living in portugal the real problem is that no help is given to business, eg 5 years to get a license (no one ever asks why do you need a license!) to sell car tires, 2 years to get a license to open a coffee bar and etc etc then you have to spend half your working life getting renewals, plus other bits of paper ..just so the bureaucrats can be kept in work

Not controlling one's currency eliminates the easy way out of lack of competitiveness. The "ideal" solution would be to have an extremely flexible and adjustable cost structure, which is inconsistent with high debt levels. If it were not for high debt rates, "internal devaluation" would be palatable ... But when a worker pays 25-30% of her gross income to a mortgage provider, leaving little to spend on everything else, then even a five percent reduction in wages hurts a lot. Portugal has big problems but it has an advantage: It has not experienced the kind of real-estate bubble that Ireland, Spain, and Greece have. On a related matter. In my view, the euro experiences the kind of unjustified overvaluation that the dollar experienced in the late 1990's and early 2000's and which did a lot of damage to the real economy of the United States. Rubin's "strong dollar" policy, BS though it was, left a lot of debris behind. The euro, like the dollar before it, will have to lose value ... but this will not happen before several countries face severe difficulties.

But Evan, what credibility do your predictions have now? You said Germany wouldn't agree to "unconditional surrender." But it has. Surely you are corrupt enough to know that power bails out its own (but who are its own?). But you dropped the ball on your Greek prediction. So what, exactly, good are you?

"Total debt levels matter. The last two years have taught us that private excess lands on the taxpayer one way or another." So Ambroase, what you are saying is that Italy has become a champion of stability, as the combined public/private debt ratio is one of the lowest around... And, which country has Germany rescued? You state, and I quote, "Germany is not going to bail out any more countries": I haven't noticed that they bailed out anyone (yet)? It might be that it's Sunday night, but this article looks a bit surreal

Debt being larger than being able to pay it off. Such is the price that has to be paid for all countries whose total debts are astronomical. Put another way, there are realities which are beyond discussion. So, why not a different paradigm for the coexistence of populace and government, as opposed to what got us into this mess. No central bank, the capital only handles the top level currency, foreign affairs and the military. Everyone else handles the equivalent of scrip convertible to the top level currency, and anything else that can't be handled privately.

Ambrose I'm curious - I see 10yr bonds for Portugal and France are at 4.45% and 3.38% respectively but France is on the hook for almost a trillion dollars if things go wrong - $780 billion. You view Portugal as the next domino ? And IMF really won't be able to cope - they have just put together place half a trillion $ in a new lending facility ? As always, a pleasure reading you.

Must Germany Save Portugal?

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