Game Over In Portugal?

The political crisis which started in Portugal 48 hours ago that continues to escalate into both a political and economic problem at the wider European level is yet another reminder that the European saga hasn’t ended yet.

Austerity applied elsewhere throughout the economic bloc has failed to deliver the necessary growth to put an end to the prolonged crisis and the various coalition governments that te troika is trying to keep in office at all costs now appear no more than flammable scarecrows built out of thin straw. And one’s that could go up in flames at any time. This time, not even a miracle can save Portugal from social unrest and from going into yet another general election, something that will put the troika’s intentions to the test.

The crisis started with the Portuguese Finance Minister, Vitor Gaspar, resigning from office two days ago. The number two in the current government, just behind Prime Minister Passos Coelho, said in a press conference that it was the third time he was presenting his resignation to the Prime Minister and that this was the final one. He recognised his credibility was affected because the government hasn’t been able to collect the estimated and has also failed on private demand projections. Both of these have turned into a continuing crisis with GDP remaining at depressed levels. At the same time, with the Portuguese Constitutional court rejecting many of the fiscal measures the government was trying to implement earlier this year, the credibility of the Finance Minister has been severely wounded.

Immediately after Mr. Gaspars’ resignation, Passos Coelho announced a new Finance Minister, Maria Abuquerque, a name that was quickly contested by opposition parties as she has been under intense scrutiny over her former role at the Treasury and where some swap contracts led to the loss of millions for the government. While replacing Mr. Gaspar for Mrs. Albuquerque, the Prime Minister also reinforced the role of Paulo Portas, his coalition partner, and Minister of Foreign Affairs. But the worst was to come yesterday, as Mr. Portas also resigned from his role in disagreement with the appointment of Mrs. Albuquerque for Finance Minister. The political crisis then became serious…

The government could survive with the first resignation but not with the second. The current government is a coalition between PSD and CDS, headed by Passos Coelho and Paulo Portas respectively. With Mr. Portas leaving, it would be hard to think other CDS ministers would stay on their cabinets.

Nevertheless, in a speech to the nation yesterday night, the Portuguese Premier said “I will not resign or abandon my country” and he added he would not accept Mr. Portas resignation, in a desperate attempt to convince him to stay. But, unfortunately for the Premier, this may be too late. The appointment of a Finance Minister without first discussing it with his coalition partner was a serious mistake and we really doubt the current political crisis is reversible.

With the CDS number one out, we will probably see the other two CDS ministers who are presently in office, Assuncao Cristas and Pedro Mota Soares resigning as soon as today. Without a majority and CDS support, it will be impossible for Passos Coelho to lead the country and a general election may be the only step left to follow.

This morning we saw a veritable blood bath in the Portuguese markets. The main index PSI 20 was down almost 6%, with all the banks declining more than 10%. Yields on government debt spiked today and on 10 year maturities the yield rose above 8% – something not seen since last year.

Portuguese banks remain still after 5 years highly leveraged and have been the main recipients for the bailouts the country has had to ask for in the recent past & which already amount to €78 billion. In order to become solvent, the country implemented a variety of tightening rules for the banking system in order to eliminate toxic assets. The money coming from the troika to bailout banks (and ultimately from the Portuguese) has been used to buy sovereign debt now protected by austerity measures. These measures assured a risk-free investment in government bonds which, at a 5% yield while the central bank repo was below 1%, were essentially free money.

The banks however increased their exposure to bonds and have been unwilling to lend to households and companies as they could make a much better and risk free return out of austerity insured government bonds. With the current government leaving and the threat of the country changing from a right conservative wing to a left wing, banks are in trouble again.

The story of Portugal shows just how miserable the current solution for Europe is and how it works well for a few while impoverishing the majority. Portugal has, shockingly, still to see a quarter with GDP growth and a recovery in employment since austerity started. With youth unemployment above 40%, it’s tough to see the benefits on the troika’s plans and how, despite the politicians proclaiming it, that the worst is behind her population. A policy overhaul is long overdue.

Even though Portugal is a small country, if the government falls the same may happen in Greece once more. Southern countries are just waiting for one to collapse and then they’ll all likely follow. We anticipate a turbulent period throughout the summer. The Euro will also likely experience a period of renewed weakness. Tin hats at the ready and the likely beneficiary will be gold!