Standard & Poor’s rating agency announced that the European Financial Stability Facility—the euro rescue fund—now has a negative outlook.
This move was largely expected, after the ratings agency put 15 eurozone countries on downgrade watch yesterday. The agency added that S&P could lose its rating if any euro country was downgraded.
In a call this morning, S&P’s Moritz Kraemer said the risk of a bank credit crisis as well as a recession is increasing.
S&P will primarily address three criteria when they consider ratings of sovereigns and the EFSF: policy response, external liquidity, and…(we’re waiting on the last one).
We’re listening to that call live. Refresh for updates below:
That said, he suggested that EU leaders could materially improve the situation in the eurozone at their summit on Friday.
Recently, specifically in the last month, the confidence crisis “has broadened, has intensified.”
“The general environment is one of increased risks, and we are of the opinion that the summit is of the utmost importance.” However he added that given the progress at past summits, tangible progress is “far from certain.”
“The policy response on the political level is a function of the market pressures that the governments are observing. I would expect that the ECB has a memory of the period in August,” when it lowered borrowing costs for Italy and Spain.
“The first step will need to be made by politicians,” Kraemer says, but suggests the ECB will be the one who will ultimately step in to backstop sovereigns and stem the crisis.
“A program that is based uniquely on fiscal austerity is one that could become self-defeating.”
However, political developments are positive. He cites specifically new governments in Greece, Italy, Spain, and Belgium. “In principal this is not a bad starting point.”
“The timing of when we will actually resolve [downgrade watches of sovereigns and the EFSF] will depend on what happens next on the policy front.”
Sovereign ratings will not be lowered by more than two notches, “if any at all.” Kraemer adds that “this if any at all” is quite important. Any “downgrade is by no means certain,” so a lot rides on the policy response leaders come up with this Friday.
The time is now to prevent the credit and confidence crises in Europe from getting worse.
On the timing of the S&P announcement yesterday: “We’re not in the business of guiding policies…Our role is to assess the risks to capital market investors and call those risks as we see them developing, and that’s what we have done yesterday.” He adds, “We believe that it’s in the near term rather than the longer term what the trajectory of the policy response will be.”
“What really matters at the end is what the package [from the EU summit] looks like and whether its composition will be sufficient to turn around the [pressures] which we see in the marketplace.”
If credit default swaps are not triggered by private sector involvement, then borrowing will become even more expensive for struggling sovereigns because there will be no way for investors to hedge against default.
As widely suspected, the downgrade of any AAA nation could compromise the rating of the EFSF. This is particularly important for France, which could be downgraded by as much as two notches in the review announced yesterday. If that happened, he suggests, downgrading of the EFSF “would be a pretty mechanical move,” since it provides 20.3% of the Facility’s funding.
- The European Rescue Comes Down To 4 Key Points
- REPORT: S&P WILL PUT ALL 17 EUROZONE COUNTRIES ON CREDIT WATCH NEGATIVE
- NOMURA: The Euro Is Going To See A MASSIVE Drop In Value In The Next Four Months