Analysis: Portugal the Next Financial Domino

Once upon a time there were five European PIIGS (Portugal, Ireland, Italy, Greece and Spain) who were considered to be living in a financial structure made out of straw or wood. Along came the big bad credit markets that threatened to collapse that threatened financial structure by making debt refinancing too prohibitive. The more responsible members of the European Union and the international monetary fund have already bailed out Ireland and Greece and in return for the financial bricks both countries have had to adopt severe austerity programs.

Lisbon Cathedral
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Lisbon Cathedral

Now the big bad credit markets threaten to blow down Portugal. The Portuguese government has denied that it requires international help, but the big credit bad credit markets have replied that we heard that story from Greece and Ireland before and everyone knows what happens. The interest rate on Portuguese bonds has soared to 7% and a Reuters poll of 51 economists found that 43 believe that Portugal will require a bailout. Such polls can turn into a self-fulfilling prophecy by increasing the doubts about the Portuguese economy’s ability to stay afloat.

If the Portuguese domino falls, it can be placed upright for about €100 billion, something that is in the realm of the possible. Other EU members, such as France and Germany, as well as Finland and Austria, have pleaded with Portugal to bow to the inevitable and accept the bailout and told her that all the pieces are in place. They believe that a show of determination in tackling the problem is far better than a condition of continuing uncertainty.

There is also the possibility that by cajoling Portugal into accepting a bailout this might deflect concern away from the much more serious Spanish domino. Spain, already hard-hit by the collapse of the property boom, is also severely exposed by investments in neighboring Portugal. The Spanish economy is twice as large as Portugal, Greece and Ireland combined. To keep Spain upright may require more money than the EU is capable of or collectively willing to come up with.

Spain has taken steps to cut down government expenses and reform its pension system and has accumulated greater trust in the financial community but it may not prove enough. In the meantime, Spain is being very careful to avoid giving the impression that it would welcome a bailout of Portugal. Spanish Finance MinisterElena Salgado expressed her confidence that “Portugal will not need a bailout.” When Portugal approaches the credit markets on Wednesday, that confidence will be put to a severe test.


Source material can be found at this site.

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