During the spring, it became increasingly apparent that Greece was unable to handle its maturing wall of debt by itself. A dangerous combination of political reluctance to take the necessary steps and a growing fiscal deficit decreased global confidence in the Greek economy and the country’s ability to handle its debt repayments.
At first sight, the economic crisis in Greece should not have had a major impact on the economic health of the entire European Union since the Greek economy only makes up 3% of the EU’s aggregated GDP. However, fear that the crisis would spread to other nations quickly became an issue since such a development would probably jeopardize the gradual move out of recession. Soon the market started to fear that government debt crises would also hit countries like Portugal and Spain, and put the entire European Monetary Union at risk. The threat itself forced the heads of state – including the German Federal Chancellor, Angela Merkel – to act quickly to reinforce faith in the European Union.
The willingness to help the ‘PIGS’ has, without doubt, been driven by the fact that the European Union stands out as a prestige political project. Europe’s leaders were therefore prepared to go a long way to maintain confi¬dence in the monetary union. A historical rescue package was put in place.
No free lunch
The rescue package of EUR 750 billion goes hand-in-hand with a requirement to tighten the fiscal budget. Part of the package will be used to buy government bonds in those countries that face economic problems. The IMF/ EU does, however, require that receiving countries must show their willingness to make the necessary structural changes. Countries will be closely monitored for a period of 18 to 24 months after receiving liquidity from the IMF/EU.
But is the European economic situation as bad as it sounds?
The factors that explain the economic crises are the increasing debt burden, increasing fiscal deficits and Strong European economies, including Germany – have also seen debt burdens increasing throughout the eco¬nomic slowdown of 2007 to 2009. When comparing the macroeconomic figures, and the reality of the US economic situation, the Southern European countries suddenly appear no worse than the rest of the developed world.
Whether Europe is in a better – or worse – situation than the US does not solve the European debt burden. Europe needs to re-establish the balance between public expenses and income.
Decreasing debt benefits investors in corporate bonds
We believe that the slow rate of economic improvement affects corporations’ operating strategies going forward in a positive way. We expect that lower growth will result in a management focus on decreasing debt and on optimizing production facilities, instead of implementing aggressive growth strategies. Such conservative strategies will benefit investors in corporate bonds since the focus on improving profitability lowers the credit risk, increasing our expectation that we will see further credit-spread narrowing.
In Letter to Shareholders Value Bonds you can read more about how the economic situation benefits investors in corporate bonds.
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With Europe in turmoil, Danish fixed income continues to be a 'safe haven'