December 27, 2012 3:54 pm

Lisbon’s rescue programme at critical point

Portugal has only just hit the midway point of its three-year €78bn bailout, but EU officials are warning that Lisbon’s rescue programme is heading into a critical period with tough austerity choices needed to win back the confidence of financial markets.

In a report, the European Commission says weaker-than-expected economic growth and recent political setbacks mean Lisbon is at risk of missing even new, loosened deficit targets and must find an additional €4bn in cuts in time for its next bailout review, scheduled for mid-February.


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“At the current stage, it is difficult to judge whether the [2012] deficit target can be achieved,” the report says. “Risks to the attainment of the 2013 deficit target are elevated.”

In October, Brussels agreed to give Lisbon an extra year to get its budget deficit under an EU-mandated 3 per cent of economic output. As part of that new schedule, the Portuguese government was to reduce the deficit to 5 per cent of gross domestic product this year and 4.5 per cent next year.

But political protests against cuts in social security benefits have forced the government to rely instead on higher taxes, which are more sensitive to the deeper-than-expected recession and raise new questions about whether the new targets can be hit.

The government was able to pass a new austerity budget last month, but did so without support of opposition parties, deepening the political divisions over the programme after nearly two years of bipartisan consensus.

Although Portugal’s bailout programme runs through to the middle of 2014, it faces its most critical test in September when it must repay €5.8bn in sovereign bonds without help from bailout lenders, which have already distributed €64bn to Lisbon, or more than 80 per cent of the total cash in the programme.

Because of the hurdle, both Fitch and Moody’s rating agencies have warned that Lisbon could need new bailout money, something that senior EU officials have privately acknowledged is a possibility.

But Lisbon has made progress in whittling down the September hurdle; in October, it conducted a bond swap which cut €3.75bn from the original €9.6bn due – almost all takers were domestic – and the government has a cash buffer it could use if it is unable to raise enough on the private markets.

The European Commission report says Portuguese officials are planning a road show to Japan and the US at the start of the year for “testing [the] appetite for sovereign bonds by foreign investors” after similar visits proved effective this year, though it notes “below-investment grade rating remains a serious hurdle to attract real money investors”.

Still, Portugal has seen borrowing costs on its benchmark 10-year bond drop below 7 per cent during quiet holiday season trading, the lowest levels since Lisbon was forced to request the bailout in May 2011. At the end of January, yields were above 17 per cent, leading some analysts at the time to forecast a Greek-style debt restructuring, something EU officials said was never seriously contemplated.

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