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Club Debt

A package has finally been agreed that should stave off default by Greece – for two years. It constitutes 30bn euro from the IMF and 80bn euro from bilateral loans with European governments. Finance ministers also agreed a 750bn euro package to stave off contagion spreading to other eurozone countries that may struggle to refinance.

John Chatfeild-Roberts
John Chatfeild-Roberts

The Greek situation has shaken European markets, particularly in France and Spain, where blue-chip indices fell by 10-15 per cent in the two weeks to the start of May. The former has the biggest exposure among big European countries to Greek government debt while the latter has 30 per cent of government bonds issued by Portugal which is also under scrutiny. Spain looked vulnerable to default before the 750bn euro package. If that package is not sufficient or leaders do not stick to it, we could see countries leaving the euro.

Major indices outside Europe only showed greater nervousness once the 110bn euro bailout for Greece had been announced, triggering concerns about other Club Med countries and throwing up serious implications for economic growth. Greek GDP is expected to contract 4 per cent in 2010 and 2.6 per cent in 2011 before returning to growth in 2012. Investors can still find value elsewhere, in particular in emerging markets such as China and India.

Greece’s ratio of debt to GDP is projected to reach 150 per cent in 2013 before starting to decline in 2014. According to economists Reinhart and Rogoff, when the debt burden rises above 90 per cent of GDP, economic growth tends to slow, reducing the tax take required to pay off loans. The debt to GDP ratio in the UK is expected to exceed 90 per cent over the next few years. Many of our government bonds are held by overseas investors, making us vulnerable to loss in investor confidence and higher interest rates. Reinhart and Rogoff say sovereign defaults are often preceded by a run-up in debt, typically 40 per cent in the four years prior to the default. Greek debt is predicted to rise by this amount between 2007 and 2011 while the UK will see its debt climb by 44 per cent. Reinhart and Rogoff suggest the swiftest way to restore confidence is to put up taxes and cut spending.

John Chatfeild-Roberts is chief investment officer of Jupiter Asset Management

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  1. Julian Stevens 17th May 2010 at 1:30 pm

    Glad we never joined and gladder still that now we probably never will.

    Europhiles ~ a pox on all of you.

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