The credit portfolio strategy team at BNP Paribas is worried.
In a note published on Thursday, the credit analysts mused on Greece’s funding requirements and associated refinancing risk, as well as broader aspects of sovereign risk and the potential for a ‘hung parliament‘ in the UK.
Extracts below, any emphasis/links FT Alphaville’s.
On Greece’s funding needs:
According to the head of Greek PDMA and our interest rate strategy team’s calculations, Greece will still need to refinance around €11.2bn before May and around €32bn for the remainder of the year. Although it has now covered April’s funding needs, the crucial period will be April and May, as by the end of May, almost 65% of this year’s funding will need to be completed. Last week our economists pointed out that even if Greece could refinance its entire 2010 funding requirement at close to 6%, it would have to pay €1.3bn as extra financing costs. While this may not sound like much, this should be viewed in the context of the projected decrease in budget deficit of €9.5bn in 2010 and €7bn in 2011 and 2012. This implies that the extra interest cost for 2011, in itself, accounts for around 20% of the fiscal adjustment – a luxury which it cannot afford and which would postpone its ability to deliver on its austerity plan.
On Greece’s CDS and the Bund spread:
The market is starting to view default / restructuring risk as a finite and immediate possibility, especially with banks starting to withdraw repo lines with Greek banks.
On unnerving market complacency and (misplaced?) faith in central banks:
the complacency in the market combined with the sheer disregard for risk and the total faith in liquidity overcoming all fundamental problems unnerves us. Investors are putting too much trust in central banks when they have committed to withdrawal of liquidity in the face of rising food and energy inflation. Summer may come early and things may start getting hot under the collar.
On broad themes in sovereign risk:
The recently released BIS Working Paper on public debt: some interesting perspectives. Most of the deterioration in fiscal balances has been structural rather than cyclical in nature, implying that in the absence of discretionary corrections, public deficits will persist even during the cyclical recovery. The current crisis is not typical in its impact on public deficits and debts. The reason is that the crisis has likely led to a significant loss in potential output, which translates into a permanent decline in revenues and a permanent increase in some spending such as unemployment benefits. The debt picture will be aggravated by contingent liabilities arising from age-related spending (pension and health care costs).
The risk is that a sharp increase in sovereign debt levels, will according to the BIS lead to an “abrupt rise in government bond yields” largely due to investor led pressure demanding much higher compensation to hold increasingly large amounts of public debt. In certain countries with high debt levels this could lead to potentially unstable debt dynamics. The BIS notes that this time around, several countries are beyond this historical average: Ireland with increases in public debt of 98% between 2007 and 2009; and the UK with projected rises of 111% by 2011. Meanwhile, the US and Spain – with projected increases of 75% and 78%, respectively, by 2011 – are not far behind. All this will lead to a sharp increase in debt levels over the medium term over the next decade (exceeding 300% of GDP in Japan; 200% in the UK; and 150% in Belgium, France, Ireland, Greece, Italy and the US). Therefore interest payments will increase from around 5% of GDP today, to over 10% in all cases, and as high as 27% in the UK by 2040. Therefore, a gentle fiscal consolidation will not reduce this level of debt unless a primary surplus of 3.5% of GDP will be required for the next twenty years just to stabilize the debt at the pre-crisis level.
On UK political spill-over and its sovereign rating:
While all eyes are on Greece the upcoming UK general election (May 6th) will be a key focus. A ‘hung’ parliament that fails to deliver a credible fiscal adjustment plan could lead to a downgrade of the UK’s AAA rating. That could have spill-over effects on other countries, especially Spain.
On the not-bulletproof US triple-A:
Longer term, we are concerned about remarks by some of the rating agencies about the rating of the US. Judging by recent events, clearly sovereign risk is here to stay for an extended period.
Tin hats, chin strap level three. At least.
Related links:
Bubbles lurk in government debt – Kenneth Rogoff in the FT
Athens shuns outside help with debt crisis – FT
The Coming European Debt Wars – New Economic Perspectives
Lessons from Argentina – Bond Vigilantes
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