S&P Now Spelling AustriA Correctly With Downgrade to AA+

Saturday, January 14, 2012

A multiple downgrade of sovereign ratings by Standard & Poor's (S&P) has also reached Austria after the country had been put on the watchlist on December 6, 2011.
Austria was downgraded to AA+ from AAA on Friday with the negative outlook remaining. 

S&P gave these reasons for the downgrade:
  • We are lowering the long-term sovereign credit rating on the Republic of Austria to 'AA+' from 'AAA'. At the same time, we are affirming Austria's 'A-1+' short-term sovereign credit rating.
  • The downgrade reflects our opinion of the impact of deepening political, financial, and monetary problems within the European Economic and Monetary Union (eurozone), with which Austria is closely integrated.
  • The outlook on the long-term rating is negative.
FRANKFURT (Standard & Poor's) Jan. 13, 2012--Standard & Poor's Ratings Services today lowered the long-term sovereign credit ratings on the Republic of Austria to 'AA+' from 'AAA'. We removed the ratings from CreditWatch, where they were placed with negative implications on Dec. 5, 2011. At the same time, we affirmed the short-term sovereign credit rating on Austria at 'A-1+'. The outlook on the long-term rating is negative. Our transfer and convertibility (T&C) assessment for Austria, as for all eurozone members, is 'AAA', reflecting Standard & Poor's view that the likelihood of the European Central Bank restricting nonsovereign access to foreign currency needed for debt service is extremely low. 
This reflects the full and open access to foreign currency that holders of euro currently enjoy and which we expect to remain the case in the foreseeable future. The outcomes from the EU summit on Dec. 9, 2011, and subsequent statements from policymakers lead us to believe that the agreement reached has not produced a breakthrough of sufficient size and scope to fully address the eurozone's financial problems. 
In our opinion, the political agreement does not supply sufficient additional resources or operational flexibility to bolster European rescue operations, or extend enough support for those eurozone sovereigns subjected to heightened market pressures. We also believe that the agreement is predicated on only a partial recognition of the source of the crisis: that the current financial turmoil stems primarily from fiscal profligacy at the periphery of the eurozone. In our view, however, the financial problems facing the eurozone are as much a consequence of rising external imbalances and divergences in competitiveness between the eurozone's core and the so-called "periphery". 
As such, we believe that a reform process based on a pillar of fiscal austerity alone risks becoming self-defeating, as domestic demand falls in line with consumers' rising concerns about job security and disposable incomes, eroding national tax revenues. Accordingly, in line with our published sovereign criteria, we have adjusted downward the political score we assign to the Austria (see "Sovereign Government Rating Methodology And Assumptions," published on June 30, 2011). This is a reflection of our view that the effectiveness, stability, and predictability of European policymaking and political institutions (with which Austria is closely integrated) have not been as strong as we believe are called for by the severity of a broadening and deepening financial crisis in the eurozone. 
The ratings on Austria continue to reflect our view of its stable governance and predictable economic policies, which remain hallmarks of Austrian politics. We view Austria's economy as wealthy, diversified, and highly competitive. We expect the pace of fiscal consolidation will increase, which we believe could reduce fiscal deficits and debt faster than outlined in the government's 2011 budget plan, and perhaps even in its budget for 2012. 
This is provided the eurozone environment does not deteriorate such that it hampers this goal. Austria, though still a net debtor on its external position, has reported what we consider sound current account surpluses over the last 10 years, gradually improving its debtor position. In our opinion, contingent liabilities are moderate and stem primarily from the banking industry's exposure to Central and Eastern Europe. 
In our view, Austrian banks' balance sheets could suffer from negative developments in major trading and outward direct investment partners (such as Italy and Hungary). In this instance, the banks could require additional government support. Furthermore, if economic growth is much weaker than we expect, this could undermine the government's attempts to consolidate its budgets, and could also render structural reforms ineffective. The outlook on the long-term rating on Austria is negative, indicating that we believe that there is at least a one-in-three chance that we could lower the rating further in 2012 or 2013. We may lower the rating if we come to believe that:
  • The weakening of Austrian banks' balance sheets stemming from negative developments in major trading and outward direct investment partners meant that the Austrian government needed to recapitalize the banks. This could in turn lead to net general government debt rising above 80% of GDP, and could also further increase contingent liabilities; and/or
  • Economic growth is much weaker than we currently expect. This could undermine the government's attempts to consolidate its budgets, and could also render structural reforms ineffective. This could lead to an increase in net general government debt beyond 80% of GDP.
The ratings could stabilize at the current level if the risks from the banking sector remained contained, and if Austria were to enter into a more-ambitious consolidation phase by implementing structural reforms, without damaging economic growth prospects and competitiveness. In our view, such consolidation measures would likely enable Austria to structurally balance its accounts and decrease its net general government debt.
And here is the distillate from the release concerning 16 of the 17 Eurozone members:
Today's rating actions are primarily driven by our assessment that the policy initiatives that have been taken by European policymakers in recent weeks may be insufficient to fully address ongoing systemic stresses in the Eurozone. In our view, these stresses include: 
  1. tightening credit conditions, 
  2. an increase in risk premiums for a widening group of eurozone issuers, 
  3. a simultaneous attempt to delever by governments and households, 
  4. weakening economic growth prospects, and 
  5. an open and prolonged dispute among European policymakers over the proper approach to address challenges.
Find the complete statement at the end of this post.
Politicians of all colours (with the notable exception the Piratenpartei) and the tabloid press were quick to damn the downgrade as a political attack, verifying the fact that international finance is still a book with seven seals to them. A joint statement from chancellor Werner Faymann and vice chancellor Michael Spindelegger lambasted S&P for its move after both Moody's and Fitch had confirmed their Austrian AAA rating a few weeks earlier.
While I remain most critical of the opaque rating process of the rating agencies I am even more critical of the whining posture of Austria's politicians who act as if this overdue downgrade - that will very likely be repeated in the near future due to the chaos in the Eurozone - is unjustified.
As a reminder: Austrian government debt stands currently at €218 billion or 76% of GDP and races higher because the ruling coalition officially attempts to come up with a €3 billion to €10 billion budget cuts package by end of February while it cannot even agree on €250 million savings on the state level of the republic. I bet everybody a troy ounce of gold that there will be no multi-billion austerity package by the end of February.
Statements by the government and central bank governor Ewald Nowotny, who called the downgrade incomprehensible, are unrealistic in the light of S&P's warning from December 6 and the ensuing non-action by Austria's government.
Unofficial mumblings that markets should not take the downgrade too serious are actually a call to break the law: Bond fund managers are tightly restricted by investment fund laws that oblige them to observe the ratings of the three major rating agencies.
Nevertheless I agree with governor Nowotny that the downgrades were a politically motivated action by S&P which is owned by McGrawHill. I was not able to find out who is the majority owner of this company that has so far failed to downgrade the USA despite its much higher level of debt that already stands at more than 100% of US GDP. The rating agencies also veil their rating process in secrecy and I am still waiting for the math behind a one-step downgrade.
A look at Austria's yield differential to its peer Germany shows that spreads have risen dramatically over the past months. Austria used to pay a spread of 30 to 40 basis points 'liquidity premium' for almost two decades. This has changed dramatically: 10-year government bonds now yield around 3.60% vs. Germany's 1.90%, showing that markets assess Austria by now much worse than Germany.
Markets are, as always, most correct in their evaluation of Austrian debt: Members of parliament and the government waste time haggling about changes in the national hymn while not addressing the key obstacles of the future that are:
  • a huge pension problem as demographics change (what a surprise for politicians: we all become older),
  • a growing budget deficit due to a still growing public sector, and
  • huge problems of several Austrian banks who recolonised Eastern Europe and now face billions in loans in default.
The concernment in the Eurozone about the downgrade 'shock' proves once more that while EU politicians are never shy of trying to cut corners to their advantage they lack creative ideas to save the Eurozone from rapid disintegration.
Here my tongue-in-cheek solution:
McGrawHill is currently valued at billion. It would have been a lot cheaper to buy McGrawHill and gag its subsidiary S&P. These billions would have brought ownership of a flourishing publishing company. Now this money will end up in the coffers of JP Morgan, Goldman Sachs et al who can borrow trillions from the Federal Reserve for next to nothing and buy up higher yielding European government debt.
This is a currency war and the Eurozone is on the way to lose it.

Here is the complete S&aP statement on the rating actions concerning 16 of the 17 Eurozone member countries:

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1 comment

Anonymous said...

toller artikel.
gratuliere p.

15 January, 2012 09:13

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