Is austerity working in Portugal? Only if you want an economic collapse like Greece

After discussing the problems of the European Financial Stability Facility yesterday morning I was not surprised to see Standard and Poors downgrade its credit rating from AAA to AA+ in the evening. In my opinion S&P are still behind the curve as AA would be more appropriate for this troubled “rescue” vehicle and frankly you could argue for an even lower rating.

However whilst most of the downgraded countries in the Euro zone were able to shrug off the news -albeit in the case of Italy with the help of the European Central Bank buying its bonds- Portugal found a bomb going off in its government bond market.

What happened?

Portugal’s benchmark ten-year government bond fell by around 14% as its price fell from the 54s to the 47s. Accordingly the yield on this bond rose from 12.4% to 14.4% which is quite a one-day move to say the least! If we look at the behaviour of her shorter-dated bonds we saw a rise of 3% in the yield on her two-year bond from 12.7% to 15.7% so she was hit all along the curve.

What caused this?

The two notch downgrade by S&P to BB meant that Portugal is now at what is politely called sub-investment grade or less politely junk. That would have had an influence and in particular this means that she falls out of the Citibank world bond index, so holders of this would have to sell Portuguese bonds.

To this we can add two factors. The first is that markets supported by ECB buying tend to see a marked reduction in volume (this can be severe as when I analysed the Greek bond market the drop was to 10% of previous numbers) and this can lead to extreme swings. So we may not have seen that many sellers but simply no or very few buyers. Secondly the ECB did not buy Portuguese bonds yesterday according to reports.

Now whether you think that the ECB has given up on Portugal in a similar fashion to the way it did on Greece, or that it was busy in Italy, its lack of action may well have spooked the market and added to the decline. So all in all we may have had the equivalent of a “perfect storm” as several factors combined to have a big impact on Portugal’s bond market.

Perhaps another factor in the ECB’s thinking was that it was in the process of announcing a substantial acceleration in its bond buying. As we learnt yesterday that it had settled purchases of 3.77 billion Euros of peripheral bonds in the previous week making a total of 217 billion Euros. So it is possible that it is starting to feel overstretched on a policy that has already led to two resignations from its governing council.

Unfortunately for Portugal she has some 3,6 and 11 month bills to issue today in an en-action of Murphy’s Law.

Portugal’s economy is in serious trouble

The International Monetary Fund view

As part of its programme for aiding Portugal the IMF did a review of her position on the 19th of December, and as usual it opened with rose-tinted spectacles.

Good progress has been achieved so far on policy implementation.

Indeed so good that this happened.

the fiscal slippages in 2011 have prompted the use of banks’ pension fund assets to cover the gap

I guess future bank pensioners (if they look at what has happened to the use -or perhaps  more accurately abuse- of pension assets in Ireland) may choke on the words “good progress” already! They may also wonder how coded the particular euphemism below is.

The environment facing banks is challenging

And if you read between the lines,so to speak, the IMF may even be worried about the vicious circle of austerity leading to economic contraction leading to more austerity that I have outlined often on this blog.

In light of the fiscal contraction and much weaker external demand it is even more critical to ensure that bank deleveraging does not come at the cost of excessive contraction in credit to dynamic enterprises.

So a fiscal contraction and weaker external demand and bank deleveraging? That is a recipe for a potential disaster and not a recovery in my book.

The latest evidence

Let me pass you over to the Portuguese INE

Services turnover index intensifies negative trend

In November, the year-on-year change rate of services turnover index, adjusted for calendar and seasonal effects, was -11.7% (-8.9% in the previous month). Comparing with November 2010, employment, wages and salaries and hours worked, adjusted for calendar effects, decreased by 4.9%, 3.0% and 4.7%, respectively. By the same order, the yearon- year change rates in October were -4.2%, -4.0% and -3.9%.

So we have the largest part of the economy not only declining but doing so at an accelerating rate. So a year on year reduction of 11.7% is severe and raises the risk of by-passing recession and going straight to a depression.

Oh well never mind maybe construction can help out.

The index of production in construction decreased by 11.6% in the quarter ending in November 2011, in year-on-year terms (3 months moving average, working days and seasonally adjusted), down by 1.4 percentage points from the rate observed in October. Employment and wages and salaries registered year-on-year change rates of -11.9% and -9.3%, respectively.

Or perhaps not! Surely Portugal’s tourism industry will give us a glimmer of summer?

The number of overnight stays in tourism accommodation establishments decreased by 3.4% towards the same month of the previous year, accounting for 1.9 million. This trend reversal was caused by the negative contribution of residents (-12.2%), since non residents maintained a positive evolution (+2%). The revenue from the activity revealed year-on-year decreases of 4.1% in total revenue and 3.6% in revenue from accommodation.

Before we sling a rope over the nearest beam the tourism figures had been up in 2011 but in the last few months even they show a “negative trend”.

We can have one more go with new orders for industry.

For the quarter ended in November 2011, industry new orders decreased 8.7% in year-on-year terms (change rate of 4.7% in October) partially reflecting a base effect occurred in the Intermediate goods industrial grouping. In the case of the external market, the index moved from a year-on-year change rate of 12.9% in October to -9.8% in November.

So we see that external demand looks like it is turning lower too and whilst one needs to treat a single months figures with some caution the scale of the move is nonetheless worrying.

Comment

Back on November 7th 2010 I discussed Portugal’s situation and gave this analysis.

If we take out the politics we can see that Portugal is in much worse shape than Italy with her only saving grace being a lower relative national debt level. So is yet another IMF austerity programme failing? It looks, sadly, as if this might be so.

One of the factors in me offering this opinion was an alarming fall in the level of retail sales in Portugal. And if we update the numbers from INE we see this.

In November, the retail trade turnover index (seasonally adjusted and at constant prices) registered a year-on-year change rate of -9.2% (-9.7% in October).

So as you can see that these numbers are horrible and have a trend which is again more akin to a depression than a recession. If we look at the latest bulletin from the Bank of Portugal it seems that it is beginning to cotton onto this as it has lowered its forecast for economic growth in 2012 to -3.1% with no recovery in 2013. Indeed the language used here is very strong for a central bank reviewing its own economy.

The domestic conditioning factors will imply an unprecedented contraction in private consumption.

And if we translate the euphemisms it does not think much of the way the Portuguese government acted in 2011.

It should be noted that the budgetary targets for 2011 were only fulfilled by resorting to a significant amount of self-reversible measures (that is, measures that do not have a permanent impact in the fiscal deficit and imply further expenditure commitments in the near future).

So if we factor in the 3 billion euros “lost” by the Portuguese government in 2011 and look at the fact that it has an even more difficult fiscal target this year then we are back to that famous phrase “Houston we have a problem!” It will be tightening fiscal policy on the back an economy slowing fast and accordingly is likely to end up like a dog chasing its tail. the worst part of this is having done this to Greece the Euro zone has apparently learnt precisely nothing!

Indeed this reminds me so much of back in 2010 when I was writing that the Greek experience was likely to be much worse than projected. Unless something unexpected happens for the better I expect 2012 and probably 2013 to be dreadful years for Portugal and her economy. I wish that their previous finance minster had taken some note of the alternative strategy that I sent him.

Some good news

As a minor antidote to the news above UK inflation as measured by the Consumer Price Index has fallen today to 4.2% from the previous 4.8%. I expect the media to be full of article declaring the equivalent of the end of inflation. As you read them please recall that it is still twice its target in an economic slowdown and that prices rose last month as the CPI index rose from 121.2 to 121.7 (2005=100).

 

 

 

 

This entry was posted in Euro zone Crisis, Eurozone, General Economics, IMF, Stagflation, UK Inflation Prospects and Issues, Yield. Bookmark the permalink.
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  • Bill

    Bloomberg quotes :
    “At least in 2012, Portugal will not default,” said Filipe Silva, who manages 60 million euros of debt securities at Banco Carregosa SA in Oporto, northern Portugal. “There is some optimism.”
    So there is some optimism there – but I don’t think as much outside Portugal 

  • Anonymous

    Shaun – excellent commentary. I grieves me to see once proud nations (Greece and Portugal) being reduced to paupery through the (in)actions of those who believe “austerity is the only medicine”. ExpatinBG noted to me yesterday that the EC is at best dysfunctional, a comment I wholeheartedly agree with. I also note that the Finnish Foreign Minister has hammered the entire concept of a fiscal pact saying he thinks it “unnecessary and harmful”. Well, reading your article, I think we can say he is absolutely right. There is a limit to the amount of austerity an individual will accept and both Greece and Portugal are now over the limit in my opinion. 

  • Andy Zarse

    According to The Telegraph, “Klaus Regling, head of the EFSF bailout fund, is in Singapore today to meet with large investors. He said today that European nations are tackling their problems and have plans to bring down their budget deficits. Ireland is a success story, Portugal is on track, even as Greece is a “difficult” and “unique” case, he said. He denies the eurozone will break up and claims that investors have probably lost confidence in policymaking in Europe. He believes there won’t be much impact from the S&P downgrade as long as Moody’s and Fitch don’t follow suit.”

    Shaun, do you think Mr Regling might have access to better secret figures to the ones you’ve shown above? Or is his definition of “on track” somehow different? How is it possible to come to two such utterly different conclusions?

    Surely he realises Singapore investors aren’t easily fooled and have access to the best advice and analysis? Not that they’ll “invest” in his so-called “stability fund”…

  • Mcgrathr20

    Could I ask just what this advice was, when you say: ” I wish that their previous finance minster had taken some note of the alternative strategy that I sent him.”?

  • Rods

    Hi Shaun,

    Another really excellent blog.

    What do you think Portugal could do as an alternative to the austerity measures and subsequent Greek style death spiral, supply side reforms?

  • JW

    Hi Shaun. Surprise, surprise all the short-term bonds sold OK today, thanks to LTRO, so the Sarko-economic merry-go round continues.
    In the real world the Baltic dry index has fallen by over 50% in the last few days, worst since 2008, looks like a ‘good’ year ahead.

  • Andy Zarse

    It seems today is Portugal Day in the Telegraph…

    “Portugal has dropped plans to extend the official working day, abandoning a key labour reform aimed at helping jumpstart its economy. After 17 hours of tense negotiations with unions and employers, the government of PM Pedro Passos Coelho gave way on adding 30 minutes to the private sector working day. But it didn’t all go the unions’ way. In exchange, the government secured agreement on other reforms including the cancellation of four public holidays, the reduction of annual holidays by three days and the easing of rules on working hours.
    Economy minister Alvaro Santos Pereira said the deal was “important for the image of the country”. Portugal has dropped plans to extend the official working day, abandoning a key labour reform aimed at helping jumpstart its economy. After 17 hours of tense negotiations with unions and employers, the government of PM Pedro Passos Coelho gave way on adding 30 minutes to the private sector working day.
    But it didn’t all go the unions’ way. In exchange, the government secured agreement on other reforms including the cancellation of four public holidays, the reduction of annual holidays by three days and the easing of rules on working hours. Economy minister Alvaro Santos Pereira said the deal was ‘important for the image of the country. After months of intense negotiations the country now has an agreement that reinforces the national economy’s competitive standing’ “.

    It seems to me these people live in some sort of parallel universe… look at the figures above then square that away with the inability to agree on the increase to the permitted working day by half an hour. And then see below that Mr Regling says Portugal is “on track”.

  • Andy Zarse

    It seems today is Portugal Day in the Telegraph…

    “Portugal has dropped plans to extend the official working day, abandoning a key labour reform aimed at helping jumpstart its economy. After 17 hours of tense negotiations with unions and employers, the government of PM Pedro Passos Coelho gave way on adding 30 minutes to the private sector working day. But it didn’t all go the unions’ way. In exchange, the government secured agreement on other reforms including the cancellation of four public holidays, the reduction of annual holidays by three days and the easing of rules on working hours.
    Economy minister Alvaro Santos Pereira said the deal was “important for the image of the country. After months of intense negotiations the country now has an agreement that reinforces the national economy’s competitive standing’ “.

    It seems to me these people live in some sort of parallel universe… look at the figures above then square that away with the inability to agree an increase to the permitted working day by half an hour. And then see below that Mr Regling says Portugal is “on track”. It’s a real forehead crinkler isn’t it!

  • http://www.facebook.com/people/Walt-Kowalski/100002706283065 Walt Kowalski


    There is a limit to the amount of austerity an individual will accept and both Greece and Portugal are now over the limit in my opinion.

    There is a part of me that believes that these countries will continue to be “saved” until the people grab pitchforks and revolt against their saviors. Lets hope for the sake of these peoples it does’nt come to that.

  • Anonymous

    Mr. K I agree. However, go back to  All Saints Day (1 November) 1755 and you will read of a catastrophic earthquake that caused total chaos to Lisbon. Whilst I would not wish that on anyone, perhaps it takes an unnatural event to pull people together. Like you, I cannot see any country being “saved” by the current Euro-regime….. 

  • Anonymous

    Hi Andy,

    Here’s some suggestions for the music Mr Regling has on track for Portugal

    Chris Rea’s Road to Hell
    AC/DC’s Highway to Hell

  • Zak

    How about a swift non-negotiated and total default… immediate exit from the Euro… and a return to a proper democracy ?

  • Richard D

    Hi Shaun
     I am puzzled as to where the ECB gets it’s money from so that it can buy eurozone countries bonds, could you explain at some point please.
    Thanks
    Richard

  • Andy Zarse

     
    Hi Expat, I’ve had a think about it and decided an appropriate rock music link would be Countdown to Extinction by Megadeth, their double-platinum best-selling album. Two tracks in particular; Symphony of Destruction and Foreclosure of a Dream seem most appropriate for poor beleaguered Portugal.

  • Anonymous

    Thanks for this Bill.

    Considering Felipe Silva’s job he may have some very dissatisfied customers if Portugal does default in 2012….

  • Anonymous

    Hi Andy

    Let me answer this by referring to your last paragraph. President Sarkozy went to the Far East not so long ago (with Mr.Regling if I recall correctly) and there was a distinct shortage of new investment. In fact as these are serial bombasts and I cannot recall any new investment being boasted about I wonder if their reception was somewhat disdainful.

    In my opinion Mr.Regling is simply misrepresenting Portugal’s position and in the circumstances that exist he should be ashamed of himself.

  • Anonymous

    Hi McGrath

    I contacted the previous Finance Minister and after a suitable delay put my suggestions on here. Frightening how time flies isnt it? As it was March 23rd last year and I have put a link below.

    http://www.mindfulmoney.co.uk/wp/shaun-richards/the-implications-of-rising-inflation-for-todays-uk-budget-and-my-emailed-suggestions-to-portugals-minister-of-finance/

  • Anonymous

    Hi Rods

    Thank you

    As to suggestions I have posted above a link to the suggestions I emailed to the Portuguese Finance Minister last year before they took the bailout. I think they would have helped.

    In addition

    1. Supply side reform is vital
    2. Reform her banks

    And negotiate terms for a debt haircut and if she cannot get them default and leave the Euro…Or be part of the third “Euro” I discussed last week

  • Anonymous

    May I add

    Talking Heads Road to Nowhere

  • http://twitter.com/jdesmond1978 Joe Desmond

    What a ridiculous post, only bent on giving Portugal a bad image. At least the country isn’t implementing cosmetic measures like money printing and bond buying by its central bank to keep the economy afloat as in the UK.

    It’s outrageous to see people in Britain speak of Portugal like this, using it just as a means to get at the eurozone.

    The British should be the last people on Earth to even dare to criticise Portugal.

    Portugal has taken harsh measures such as wage reductions, cuts in all sorts of public sectors by 20% and other things, and has significantly reduced its deficit and other things.

    Everybody knows this, but the guy who posts this sh*t* who seems to be a biased ignorant who wants to wreck the eurozone apart for ideological reasons.

    Shame on yuo whatever your name is!

  • http://twitter.com/jdesmond1978 Joe Desmond

    The only country in which Auserity isn’t working is BRITAIN. It has completely failed to curb spending (in fact it has increased in 2011).

    In my opinion Britain is bound to default with a 400% private debt and not enough assets to offset this.

    In fact it has already defaulted at least technically with all the money printing. Cosmetics.

    Why don’t you worry about your own country for a change you mr whatever your name is

  • Anonymous

    Hi Richard and welcome to my part of the blogosphere

    In the type of banking structure we have now central banks have the power to create money and that is what the ECB does when it buys the bonds of peripheral countries. However it then undertakes what it calls sterilisation and in effect takes the money back.

    So it is left with the bonds (good luck with that) and the banking system has one week deposits in return.

    So it is rather complicated but is designed to have no monetary impact. Actually I have never been entriely convinced by that but I shall leave it there for now..

  • Critic Al Rick

    Nevermind Portugal, Greece, etc, is any country in the ‘West’, including the UK, capable of truly fixing its deficits (Balance of Payments and Budget) without:

    a) a very significant public sector reduction

    b) a very significant reduction in average (so-called) living standards

    c) very significant real growth?

    Inflation may fix:

    1) national debt, but not sustainably without a fixed Budget deficit

    2) private debt, but not sustainably without a fixed Balance of Payments deficit.

    I can’t see a good ending for any country in the ‘West’ to this crisis, can you?

  • Anonymous

    Or perhaps, more innocently, “Follow the yellow brick road”?

  • Rods

    Shaun is very well appreciated and respected on here, by myself and many other people who follow his blog everyday and regularly ask questions and make comments. To which he always takes the time to reply in a very useful and instructive manner.
    He analyses all countries and tells it like it is, including the UK. If you don’t like the message, don’t shoot the messenger.We know the UK currently has many economic problems along with most other western nations.We also have very high standards where people who comment are ALWAYS polite and constructive, where we are all tying to analyze and understand what is happening at the moment during the current economic tsunami.If you cannot be polite or constructive on economic matters then please take you shallow minded personal abuse elsewhere as we don’t want this or you on this blog.Physical insults on someones appearance are thankfully TOTALLY UNACCEPTABLE TO ALL UK CITIZENS. I would strongly suggest an apology is in order to Shaun for this and we will all find out on this blog, what sort of man you are, by whether it is forthcoming or not?

  • Andy Zarse

    I’m terribly sorry if you don’t like facts, but that is what they are and you can’t duck them. I think Shaun’s blog was written with a great deal of sympathy for the Portugese people; it’s a disgrace what is being done to them by the EU.

    In this blog we do not go around behaving like a superannuated apes, so I’m sure we’d all be grateful if you’d moderate your the tone of your language and perhaps try to come up with some reasoned arguments as opposed to childish insults. Otherwise, you know where the door is…

  • Anonymous

    Shaun,
    I find your economics analysis interesting and sound. However, it is not all economics, there are other issues to consider as I have said numerous times. For example my home country Greece. Something that it is not reported in the UK press so extensively, Greece (and I may dare say other countries) have been told explicitely that they cannot go out of Euro without going out of EU and this for Greece in particular (for people who know what they are talking about) is a geopolitical death far worse than the financial difficulties currently endured by the Greek population (very hard indeed but the colective memory of this population has seen far worse). The ball regarding the Euro is not in Greek hands or Portuguese hands, everything depends on the wills of the powerful nations that control EZ, not Portugal and Greece… These countries will go with the flow. They are left with no other option. If the option of exit of Euro comes up then it could indeed happen, not only for Greece but for several countries (Italy, Spain, even France). Merkozy know this and want to avoid it for the time being. At some point they might accept the reality you describe and they could open the door. Then and only then, the countries will be able to escape.

  • Anonymous

    Hi Vassilis,

    Technically Greece has the option of remaining in the Euro and defaulting.

    Yes it would upset Sarkozy, but remember that there are no rules to cover this situation and if the European commission want to introduce new rules – the Greek PM has a VETO …

  • Anonymous

    Hi Joe,

    With regard to your ad hominem remarks
    about Shaun Richards, I think that it’s worth reiterating the points of Rods
    and Andy Zarse that there really is no place for such comments on this site and so we
    have removed your comment.

    Shaun Richards blog and Mindful Money
    encourages debate and welcomes engagement but as Rod highlights the ‘comments
    are ALWAYS polite and constructive’ and are in the interest of enlightenment of
    complex issues and this is a precedent we would like to uphold.

    Thank you,

    Community Manager

  • Anonymous

    Hi Vassilis

    I have seen such comments (you have to leave the EU if you leave the EZ) but consider them to be a “paper tiger” on two counts.

    1. When the UK left the ERM in 1992 there was a lot of acrimony but we remained in the EU.

    2.The idea of such a Federalist inspired group actually expelling someone is to my mind somewhat bizarre.They may threten it but wont ever do it.

    Perhaps also you can draw strength from the fact that on the record so far if the Eurocrats say something then they are more likely not to do it…

    How are thingson the ground in Greece? I fear the worst from the economic statistics I analyse and review.

  • Wisigoth

    Do you know that bank’s “pension fund assets” in France are, since many years,  included in the Public Pension Service system ?…Do you have something to say about it?

  • Anonymous

    Sorry Shaun, I saw this comment only now. What I find quite interesting is that what you claim here is in the lines of what the left parties say in Greece. Generally, comments from UK align well with the moderate or extreme anti-EU parties which are in the left and far left political spectrum. Cente left, centre, right and far right are for EU more or less.
    Things in Greece have deteriorated in the recent months. In my opinion, what saves the situation for the moment is that most people own their houses, have assets (becoming difficult to sell though) and moneys in the bank, they survive on the savings or from their garden (weather is important); there has been an exodus from the big cities to countryside which is very good. However, there are strong signs of collapse of public services (eg. hospitals, drugs etc.) which makes things very difficult.

  • Anonymous

    Hi Wisigoth and welcome to my blog

    If this is a long-standing arrangement then surely it is different to the way in which Portugal has taken over the funds for short-term gain but likely long-term loss.

    As to the French system I understand that it is structured as described below and the flaw in my view is also the bit that politicians love where the contributions are received now but pension pay outs are made later often much later…..

    “AGIRC and ARRCO are unusual in several respects. They are ostensibly private employer pensions, yet form an integral part of the public pension system. They are also financed on a pay-as-you-go basis, yet are structured as defined contribution plans. Each year, workers earn pension value “points” based on their, and their employers’, contributions in that year. Untilrecently, these points were indexed to wage growth to determine their value at retirement. In the 1990s, however, the indexing was changed to prices, significantly reducing the return on pointsearned in the system….”
    recently, these points were indexed to wage growth to determine their value at retirement. In the 1990s, however, the indexing was changed to prices, significantly reducing the return on points
    earned in the system….”