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Déjà vu?

January 10, 2011

Europe's sovereign debt crisis appears to have returned – if it ever went away. Portugal is under growing pressure to accept a multibillion euro bailout.

Portuguese euro coins
Portugal could be next in line for a euro bailoutImage: picture-alliance/dpa

Less than one month after bailing out Ireland, the European Union now faces the likely prospect of having to rescue yet another eurozone member, Portugal, from going under.

Experts don't appear too surprised about the crisis knocking on the door again.

"The euro crisis had a Christmas break but it's back with the new quarter," said Thomas Mayer, Deutsche Bank's chief economist at a press conference of foreign journalists last week in Berlin.

Dampen demand still further

Indeed, Portugal is on the firing line. Financial markets have pushed interest rates on Portuguese debt – namely its 10-year bonds – above seven percent.

Chancellor Angela Merkel
Chancellor Merkel faces tough talks on overcoming debt issues in the eurozoneImage: picture-alliance/dpa

There are plenty of reasons why investors are unsettled.

The Portuguese economy is sputtering with growth projected at around one percent, a number of austerity measures announced in January are expected to dampen demand further, and add to that an export industry that is largely uncompetitive.

Nearly no one expects Portugal, which needs to raise 20 billion euros this year, to keep borrowing money at seven percent. That was the level that forced Ireland and Greece to leave the bond market and seek financial rescue packages from the EU and the International Monetary Fund.

A key test comes Wednesday when Portugal sells its first bonds this year to raise 1.25 billion euros. The price will reveal whether the country has a realistic chance of raising the money it needs this year. It it's too steep, a rescue package is inevitable, analysts agree.

A failed Portuguese bond auction has huge implications. Although the country is a relatively minor eurozone member in economic terms – accounting for just two percent of the region's gross domestic product – its rescue could trigger a crisis in its neighbor, Spain, and possibly beyond.

Familiar routine

Spain entered the crisis with a low level of government debt but when its bank-financed real estate boom failed, the banks proved slow to recognize their losses. It appears they might need money to stay afloat.

Spain is Europe's fourth largest economy in the eurozone, and should it require any sort of rescue, the funds currently available are probably not enough.

By now a familiar routine, Portuguese Prime Minister Jose Socrates – like his counterparts in Ireland and Greece before him – insists the government is not in need of assistance. And echoing what happened in Ireland, rumors abound that Germany and France are pressuring Portugal to accept a bailout in order to limit contagion.

French President Nicolas Sarkozy and Portugal Prime Minister Jose Socrates
French President Sarkozy and Portuguese Prime Minister Socrates are still smilingImage: AP

On Sunday, Chancellor Angela Merkel's office denied that Germany has been pressuring Portugal to accept financial rescue package.

"I think it is very likely that Portugal will need to seek aid from the European Financial Stability Facility as Ireland recently did," said Zsolt Darvas, a researcher with the Brussels-based think tank Bruegel. "And the sooner it does so, the better."

Strangling debt problem

Again, the EU finds itself struggling to convince investors, economists and others involved with the euro that it has adequately addressed the root cause of the crisis in the eurozone: a growing debt problem that is strangling governments and its banks.

Until Brussels comes up with a solution, that problem isn't going to disappear, according to Tom Kirchmaier, with the London School of Economics.

"The debit crisis is, in part, a political crisis," Kirchmaier told Deutsche Welle.

"And until either the European leaders have found a credible funding mechanism for the eurozone countries including a firm and credible commitment to its survival, or the [debt-laden] countries have lowered their debt levels to a sustainable level, the crisis will continue."

Author: John Blau
Editor: Cyrus Farivar

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