Enervating European Economic Eruptions

volcanoIt's a 4E. The never ending European Economic Mount Vesuvius has erupted again, threatening that final pyroclastic flow to the global economy. Friday the 13th has arrived and the horror show slasher is Standards and Poors. S&P doesn't like what Europe's leaders have done about the financial crisis.

To wit, S&P just downgraded the European bail out fund. The European Financial Stability Facility was just downgraded from AAA to AA+. This affects the EFSF's ability to raise cheap funds to help contain the financial crisis. S&P what are you thinkin'?

Last Friday France was downgraded from AAA to AA+ and given a negative outlook. Austria was spanked too and lost their AAA credit rating from S&P. One again Debbie Downer Standard and Poor's is on a credit ratings downgrade rampage.

Austria is now AA+. Italy was downgraded to BBB+. Portugal was downgraded to junk, BB. Spain gets an A and Cyprus I guess gets a beggin' cup at this point. Their S&P rating is now between junk and BB+.

The big picture downgrades from S&P's press release:

We have lowered the long-term ratings on Cyprus, Italy, Portugal, and Spain by two notches; lowered the long-term ratings on Austria, France, Malta, Slovakia, and Slovenia, by one notch; and affirmed the long-term ratings on Belgium, Estonia, Finland, Germany, Ireland, Luxembourg, and the Netherlands.

All ratings have been removed from CreditWatch, where they were placed with negative implications on Dec. 5, 2011 (except for Cyprus, which was first placed on CreditWatch on Aug. 12, 2011).

The outlooks on the long-term ratings on Austria, Belgium, Cyprus, Estonia, Finland, France, Ireland, Italy, Luxembourg, Malta, the Netherlands, Portugal, Slovenia, and Spain are negative, indicating that we believe that there is at least a one-in-three chance that the rating will be lowered in 2012 or 2013.

Here are S&P's reasons and they are different from last time, where clearly S&P was telling Europe to swallow more austerity in a highly political downgrade threat. Notice how S&P amplifies the Eurozone's inability to act in concert.

Today’s rating actions are primarily driven by our assessment that the policy initiatives that have been taken by European policymakers in recent weeks may be insufficient to fully address ongoing systemic stresses in the eurozone. In our view, these stresses include: (1) tightening credit conditions, (2) an increase in risk premiums for a widening group of eurozone issuers, (3) a simultaneous attempt to delever by governments and households, (4) weakening economic growth prospects, and (5) an open and prolonged dispute among European policymakers over the proper approach to address challenges.

The outcomes from the EU summit on Dec. 9, 2011, and subsequent statements from policymakers, lead us to believe that the agreement reached has not produced a breakthrough of sufficient size and scope to fully address the eurozone’s financial problems. In our opinion, the political agreement does not supply sufficient additional resources or operational flexibility to bolster European rescue operations, or extend enough support for those eurozone sovereigns subjected to heightened market pressures.

We also believe that the agreement is predicated on only a partial recognition of the source of the crisis: that the current financial turmoil stems primarily from fiscal profligacy at the periphery of the eurozone. In our view, however, the financial problems facing the eurozone are as much a consequence of rising external imbalances and divergences in competitiveness between the eurozone’s core and the so-called "periphery". As such, we believe that a reform process based on a pillar of fiscal austerity alone risks becoming self-defeating, as domestic demand falls in line with consumers’ rising concerns about job security and disposable incomes, eroding national tax revenues.

Accordingly, in line with our published sovereign criteria, we have adjusted downward our political scores (one of the five key factors in our criteria) for those eurozone sovereigns we had previously scored in our two highest categories. This reflects our view that the effectiveness, stability, and predictability of European policymaking and political institutions have not been as strong as we believe are called for by the severity of a broadening and deepening financial crisis in the eurozone.

In our view, it is increasingly likely that refinancing costs for certain countries may remain elevated, that credit availability and economic growth may further decelerate, and that pressure on financing conditions may persist. Accordingly, for those sovereigns we consider most at risk of an economic downturn and deteriorating funding conditions, for example due to their large cross-border financing needs, we have adjusted our external score downward.

On the other hand, we believe that eurozone monetary authorities have been instrumental in averting a collapse of market confidence. We see that the European Central Bank has successfully eased collateral requirements, allowing an ever expanding pool of assets to be used as collateral for its funding operations, and has lowered the fixed rate to 1% on its main refinancing operation, an all-time low. Most importantly in our view, it has engaged in unprecedented repurchase operations for financial institutions, greatly relieving the near-term funding pressures for banks. Accordingly we did not adjust the initial monetary score on any of the 16 sovereigns under review.

Moreover, we affirmed the ratings on the seven eurozone sovereigns that we believe are likely to be more resilient in light of their relatively strong external positions and less leveraged public and private sectors. These credit strengths remain robust enough, in our opinion, to neutralise the potential ratings impact from the lowering of our political score.

However, for those sovereigns with negative outlooks, we believe that downside risks persist and that a more adverse economic and financial environment could erode their relative strengths within the next year or two to a degree that in our view could warrant a further downward revision of their long-term ratings.

We believe that the main downside risks that could affect eurozone sovereigns to various degrees are related to the possibility of further significant fiscal deterioration as a consequence of a more recessionary macroeconomic environment and/or vulnerabilities to further intensification and broadening of risk aversion among investors, jeopardizing funding access at sustainable rates. A more severe financial and economic downturn than we currently envisage (see "Sovereign Risk Indicators", published Dec. 28, 2011) could also lead to rising stress levels in the European banking system, potentially leading to additional fiscal costs for the sovereigns through various bank workout or recapitalization programs. Furthermore, we believe that there is a risk that reform fatigue could be mounting, especially in those countries that have experienced deep recessions and where growth prospects remain bleak, which could eventually lead us to the view that lower levels of predictability exist in policy orientation, and thus to a further downward adjustment of our political score.

Finally, while we currently assess the monetary authorities’ response to the eurozone’s financial problems as broadly adequate, our view could change as the crisis and the response to it evolves. If we lowered our initial monetary score for all eurozone sovereigns as a result, this could have negative consequences for the ratings on a number of countries.

Earlier Greece debt talks broke down.

Talks between private creditors and Greece on a voluntary restructuring of government debt appeared to break down Friday, with negotiators representing the private sector citing the lack of a “constructive, consolidated response by all parties.”

A deal on a proposed 50% writedown on the value of Greek debt held by the private sector is a prerequisite for Athens to receive further rescue funds from the International Monetary Fund and the European Union secured as part of a second bailout agreement reached last October.

Greece is implying bankruptcy if a deal with creditors isn't reached. Already austerity in Greece is taking a toll:

Austerity measures are taking their daily toll on Greece. Suicides and attempted suicides have jumped by 22.5% since 2009. The unemployment rate rose to 18.2%. RTL, the largest radio network in Europe, lost 50% of its advertising revenues in Greece since the start of the crisis—and decided to leave. And now pharmacies are having difficulties obtaining medications.

There is some very scary news for Cyprus and Portugal, according to the world of Standards and Poors. They give a recovery rating after default to both countries and give them a 30-50% shot at getting your money back after default.

We assigned recovery ratings of '4' to both Cyprus and Portugal, in accordance with our practice to assign recovery ratings to issuers rated in the speculative-grade category, indicating an expected recovery of 30%-50% should a default occur in the future.

To make your Friday complete, Krugman is reporting red lights of emergency are flashing in Hungary too.

Lights are flashing red about Hungary.

Yesterday, the European Commission issued a stern warning to Hungary. In blunt language, the EU asserted that it “reserves the right to take any steps that it deems appropriate, namely the possibility of launching infringement procedures” against Hungary for violating the basic conditions of membership in the European Union. The Commission singled out the laws crushing the independence of the central bank, the judiciary and the ombudsman for data protection as the most egregious, but indicated that it was reviewing more laws as well.

The US has also indicated its serious displeasure with the course that Hungary has taken.

Oh, don't worry, it's only impending Economic Armageddon Redux. Happy Friday!

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Comments

This article was updated

with the breaking news S&P just downgraded the EFSF. It's significant, like kicking the horse down after it's leg is broken and trying to heal.

S&P claims "credit enhancements" may restore the rating to AAA, but what defines those "enhancements" is not mentioned.

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Tail wags dog?

Last week it was all about the Euro was looking better against the dollar, so the talk was that it was all because Greece (the tail) was wagging the dog (core European economies).

But wasn't it really a weakened USD rather than a strengthened Euro, what with rumors or reports that the Fed has quietly embarked upon QE3, buying MBS in an apparent effort to further enrich the banksters?

Now there are reports dated tomorrow out of Asia -- the tail is supposedly wagging the dog again, as rumors return about faltering talks on negotiations between major bond holders and the government of Greece. Talk, talk, talk.

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WB Okeydoke

The never ending press release and stories of Greece's immiment demise versus a new package are going on 3 years? Last I heard was the twist on QE but because inflation in tame, I believe they will do it again.

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