News for Credit Professionals

IIF Report Questions Social Breaking Point in European Cuts

The Institute of International Finance, in some respects the trade association for the central banks and notable investment banks, in its latest report intimates the respective social systems of nations badly in debt can't withstand too much more in the way of cuts, even if the numbers indicate they are needed. Continued, or even increased levels of civil unrest could, in their estimation, cause the now limited interest of investors to evaporate completely.

For all intents and purposes the IIF is calling the euro zone bluff by asserting that nothing that currently has been put in place is going to be enough to solve the basic problems. This essentially means that excruciating austerity decisions made thus far have not been enough to get ahead of the debt and deficit. That leaves only a more draconian policy or a reversal in focus, one that tries to kick-start the economy back to growth. The latter, however, risks making the debt challenge insurmountable.

Greece is going to miss its austerity targets by a wide margin, meaning they will have the near impossible tast to renegotiate the debt they have sold. The Greeks also have no place to turn for more money other than the Germans, the EU and perhaps the IMF. All three have made it clear that no more rescue is coming until Greece pushes more austerity. But he population of Greece is at the breaking point already and further pressure will almost certainly result in open revolt. Serious talk of a coup circulates in Athens now, but most still assert that this is just the Greek rumor mill.

Spain is faced with trying to reduce their deficit significantly at the very same time the nation seems to be slipping rapidly back into recession. The unemployment rate remains above 20% at the national level and, in many parts of the country, one-third of the working population is out of a job. The housing crisis in Spain makes the US situation pale in comparison. The new government is faced with imposing another round of austerity to bring the budget in line, but there is no resilience left in the economy.

Italy has been testing the bond market, as they have to finance more than $560 billion of debt this year. Despite the fact that Italian bonds are being purchased by the ECB, the yields have remained very high at more than 7%. Investors are slightly more confident in the Italians’ ability to get hold of their situation under Mario Monti. Still, they seemingly all know that the issues in Italy go far beyond the weakness of the prior prime minister. The Italians seem to have some wiggle room left, but that is only if the overall growth prospects for Europe improve as Italy concentrates the bulk of its export activity on Europe as opposed to new markets in Asia and Latin America.
Source: Chris Kuehl, NACM economist