As it is know by everyone that reads newspapers and watches the news nowadays, Portugal, as a peripheral European country, with a weak economic structure and huge public imbalances faces a serious situation. International pressure have pushed government to implement austerity measures similar to the ones applied in other European countries. However, it is important to refer that these austerity measures will deteriorate the situation and create social unrest that will affect even more the GDP expansion. Going back in history we can see that Portugal was a country that based their economic expansion of the 80’s on small industry, low salaries and exports to central Europe and US. At the time Portugal had power to manage their own monetary policy and provide the respective adjustments when needed and also the tools to protect their economic interests. The Euro integration should have been a positive issue pushing Portugal to converge and reform their economy to be more heavy industry and service biased as the German economy is. However that did not happen because of several reasons that would take us through a long conversation. Instead Portugal kept the same approach and lived from subsidies and leverage through all these years. Now someone has to pay… and as there is less tools available than before, i.e. there is only the fiscal tool as the monetary is centered in Brussels … the solution will be harder and will have very extreme consequences.
Apart from the current situation of the deficit to GDP, rising unemployment, low productivity rates, low savings rates and high indebted private sector, Portugal is also in deep trouble as it needs to refinance about 17% of the total outstanding debt next year and its credit default swap rate continues to increase to historical levels achieving now 400bps for a 5 year issue. Total Debt to GDP is now around 80% (notice that some public companies as TAP and EP do not consolidate as if they did total public debt would be close to 100% now) but it can easily increase to 100% as financing costs increase, budget deficit is still a reality for the coming years and GDP growth is compromised due to the weak domestic structure and current global economic picture.
Considering the current CDS 5Y and 10Y and actual interest rate levels, Portuguese financing costs will increase above 4.5% after 2012 and will overcome 5% between 2015 – 2016. This fact will be deteriorated if Portugal continues to present budget deficits during the coming years as debt will automatically increase, increasing the pressure on financing costs.
Being so, and considering the current GDP growth projections, that we consider optimistic, Portugal will overcome 100% Debt to current GDP between 2012 and 2014, depending on the political framework evolution. Technically, we would say that Portugal would have to restructure debt as GDP growth is compromised due to reduced consumers’ and investors’ credit access, low savings rate, zero public investment and higher currency valuation what negatively affect consumption, investment and exports, and total debt tends to increase as seen before. Neverthless, restructuring debt would have a massive impact in other European economies so a situation similar to Greece may emerge in the short term as political tensions start to demonstrate what socially the country will experience in the coming months.
In order to reduced the systemic risk and the extension of the domestic crisis, Portugal should request now the support from the EU and IMF through the EFSF rescue fund and the European authorities should understand that a flow of protectionism in international trade may make the current scenario even more “horrendus” if monetary policy is not adjusted quickly.