July 6, 2011 / 3:40 PM / 8 years ago

Analysis: Portugal poisoned by Greece in cut to junk status

LISBON (Reuters) - A downgrade of Portugal’s credit rating to junk status underlines how the Greek crisis is poisoning other weak countries in the euro zone, regardless of their own efforts to shrink their debt and return to growth.

Moody’s Investors Service on Tuesday became the first rating agency to cut Portugal below investment grade, causing the 10-year Portuguese government bond yield to leap more than 1 percentage point to euro-era highs.

The agency cited worries that administrative problems and slow economic growth might prevent the Portuguese government from hitting ambitious targets to shrink its budget deficit over the next three years under a 78 billion euro international bailout.

But Moody’s also said efforts by the European Union to have private investors bear part of the burden of supporting Greece, through a “voluntary” rollover of maturing Greek debt, threatened investor confidence in Portugal as well.

If investors believe the EU may follow the Greek model and pressure them into bearing part of the cost of future aid to Portugal, they may become less willing to lend to Lisbon, reducing the chance that it can resume borrowing from markets in 2013 as planned, Moody’s said.

The malign example of Greece, rather than anything which has happened inside Portugal in the last few months, appears to be the main reason for the decision by Moody’s to slash Lisbon’s rating by four notches, other analysts said.

“I think the main problem internally is growth and on that side not much has changed,” said Diego Iscaro, an economist at IHS Global Insight. “So four notches is possibly more to do with Europe-wide developments.

“The concern of Moody’s is that we may see a repetition of Greece with Portugal next year. It is a different situation, but what Moody’s is saying is that the resolution with the private sector may be the same.”


The Moody’s downgrade means many investors will now view Portugal as the euro zone’s biggest danger spot after Greece. Until recently, that position was held by Ireland, which is still rated as investment grade by all three major agencies; perceptions began to change when the Portuguese 10-year bond yield rose above the Irish yield in mid-June.

Moody’s said there was a growing risk that Portugal would need a second international bailout, beyond the 78 billion euros of emergency loans which are due to flow into 2013. The size of any additional bailout would depend on how long the EU needed to keep Portugal afloat.

Under current plans, Lisbon is expected to raise 10 billion euros in long-term bonds in 2013 and 6 billion euros in the following year, Iscaro said. So financing Portugal through the end of 2014 might require an extra 16 billion euros of loans — depending on many factors including Lisbon’s success in cutting its budget deficit and selling state assets.

Iscaro said it was only likely to become obvious around the third quarter of next year whether Portugal would need a new bailout.

But Citibank, in a report on Wednesday, said a second bailout was probable.

“Portugal is likely to require a second package at some point in 2012, when the International Monetary Fund is likely to request additional measures to close the funding gap for the 12 months ahead — as was the case in Greece,” it said.

Many Portugal-based economists disagreed with the Moody’s downgrade, arguing that the agency had not paid enough attention to the determination of Lisbon’s new center-right government in meeting fiscal goals set by the EU and the IMF.

The government, which took office last month, has already announced an extraordinary tax on year-end bonuses and promised to speed up spending cuts beyond the terms of the bailout deal, which was agreed before a June 5 general election.

“We think this cut by Moody’s was absurd and out of time. It did not even consider the new government’s measures and it did not wait for the first evaluation of the implementation of the austerity plan,” said Filipe Silva, head of debt at Banco Carregosa, a Portuguese private bank.

But as long as the Greek crisis suggests to investors that they may be forced to restructure their holdings of debt in weak euro zone countries, Portugal’s success with domestic fiscal reforms may fail to impress the rating agencies or markets.

Richard McGuire, interest rate strategist at Rabobank, said the Moody’s downgrade had underlined that “in terms of ‘restructuring dominoes’, Portugal is the next man standing.”

“The prospect, or even simple speculation, of a series of defaults will increase the risk of contagion spreading,” McGuire said.

Editing by Andrew Torchia

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