Ratings agency
Standard & Poor’s on Friday stripped France of its coveted triple-A credit rating and
reduced Portugal’s debt status to junk as part of a broad reassessment of
Europe’s financial soundness that highlights the severity of the euro zone’s
persistent sovereign debt crisis and complicates efforts to resolve it.
Germany escaped
S&P’s scrutiny unharmed. It’s triple-A credit rating was left unchanged and
given a stable outlook.
S&P’s steps were certain to make it more difficult for
European leaders to solve the debt crisis and could trigger a period of volatility in financial
markets similar to what investors experienced in the wake of S&P’s
downgrade of the United States last year, said Jeremy Hare, Managing Director
of Investments at Gilford Securities. S&P’s moves would also, Hare said,
shine a harsh light on the leaders’ ineffectual efforts to solve the crisis.
“It hits them right on the chin,” Hare said. “S&P is calling
(German Chancellor Angela) Merkel out and saying, ‘Hey, fix the problem’.”
S&P cut France, Austria, Malta, Slovakia and Slovenia by one
notch, stripping France
and Austria of rare triple-A ratings that were key to their ability to support
efforts to rescue struggling euro zone members. The ratings agency also
downgraded by two notches Italy, Spain, Portugal and Cyprus. Portugal and
Cyprus were cut to junk status.
Of the countries mentioned in Friday’s statement, only Germany
and Slovakia were given stable outlooks. The rest received negative outlooks, meaning S&P
believes there is at least a one-in-three chance they may be downgraded in 2012
or 2013.
S&P said it was taking the actions because Europe’s leaders had failed at
recent meetings to take decisive steps to solve the region’s debt
crisis. It specifically noted that a Dec. 9 summit deal did not go far enough.
“The political agreement does not supply sufficient additional resources or
operational flexibility to bolster European rescue operations, or extend enough
support for those euro zone sovereigns subjected to heightened market
pressures,” S&P said in a statement.
S&P went further, casting doubt on Europe’s approach of
insisting on tough austerity measures as the main path to restoring financial
stability in Europe.
“We believe that a reform process based on a pillar of fiscal
austerity alone risks becoming self-defeating,” the agency said.
Instead, it highlighted “rising external imbalances and
divergences in competitiveness between the euro zone’s core and the so-called
‘periphery’” as a significant source of the bloc’s problems that needed to be
addressed.
The news of S&P’s action was greeted with dismay by European
leaders.
“This is not good news,” French Finance Minister Francois Baroin
said in an appearance on French national television. Baroin called the
downgrade “a semisurprise” and added that it was “not a catastrophe.”
Baroin, who spoke after a day of swirling rumors about an
imminent downgrade of France, also said that France’s economic policies would
not change as a result of the downgrade.
“It is not the rating agencies who dictate French policy,” he
said.
European Commission Vice President Olli Rehn said the euro zone
had taken decisive action to fix the crisis.
“I regret the inconsistent decision earlier
today by Standard and Poor’s concerning the rating of several euro area member
states, at a time when the euro area is tak[ing] decisive action in all fronts
of its crisis response,” Rehn said in a statement.
The news,
along with an apparent breakdown in negotiations over writedowns for Greek
government debt, was credited with sending the euro to a fresh 16-month low
versus the dollar.
“To the extent that [a downgrade] has been anticipated ever
since S&P launched its review of euro area sovereign ratings in early
December, a smattering of downgrades should have already been priced in,” said
Grant Lewis, economist at Daiwa Capital Markets.
S&P last month warned that downgrades were possible for 15
euro-zone countries, including triple-A rated France, Germany, Austria and the
Netherlands.
Still, a downgrade for France all but ensures that the European
Financial Stability Facility, the euro-zone’s temporary rescue fund, will also
lose its triple-A rating, Lewis and other economists noted.
“A downgrade to France’s rating will be a severe blow to the
useless EFSF,” said Stephen Pope, managing director of Spotlight Ideas, a
London consulting firm.
Efforts to boost the
firepower of the EFSF by employing leverage or attracting overseas funding have
fallen flat in recent months. German Chancellor Angela Merkel and French
President Nicolas Sarkozy have urged bringing forward the launch of the
permanent rescue mechanism, the European Stability Mechanism, from 2013 to this
summer.
Merkel opened the door to increased funding of the ESM in a news
conference earlier this week.
A downgrade will make life difficult for Italy as it struggles
to convince investors it can get a grip on its debt burden.
Italy this week saw borrowing costs fall dramatically at a pair
of debt auctions, but bigger tests loom in coming weeks as the government
prepares to issue longer-term debt.
A two-notch downgrade by S&P would put Italy into the
B-bracket, the lowest investment-grade category, noted Kathleen Brooks,
research director at Forex.com. That could result in a rise in margin requirements, which would in turn
put more upward pressure on yields, she said.
Meanwhile, France is poised to sell €8.7
billion of debt on Monday, while the EFSF and Germany also plan to auction debt
next week, she noted, ensuring a “tense market open” when Europe returns to
work next week.
Credits -By William L. Watts and Christopher Noble, MarketWatch