/ 15 July 2011

European meltdown ‘would hit SA exports but not its banks’

European Meltdown 'would Hit Sa Exports But Not Its Banks'

The South African authorities are closely monitoring Europe’s worsening debt crisis but remain confident that the country’s financial system can withstand any fallout, according to Pravin Gordhan, the minister of finance.

But in a wide-ranging interview on Thursday, amid reports of debt contagion spreading to Italy, Gordhan warned that declines in European economic growth would be felt locally — Europe is the second-largest global economy and a major trading partner of South Africa.

European states, particularly Greece, Ireland, Portugal and Spain, have been hobbled by massive debt, exposed by the 2008 financial crisis, and long-standing weaknesses. The bailout packages have not brought stability and concern is mounting again about the future of the eurozone.

Credit ratings agencies have downgraded Greek, Portuguese and Irish debt ratings to junk status, making it even harder for these countries to raise capital, fuel growth and dig themselves out of a deepening hole.

Although these economies are relatively small, many European banks hold a significant amount of their debt and some analysts believe there is a growing possibility of another banking crisis similar to that in 2008, triggered by the collapse of Wall Street investment firm Lehman Brothers.

Gordhan said something that did not feature in the “frontline” of the debate was a better understanding of the position of the European Central Bank and the stability of the banking system in Europe. “It’s banks that have lent the money and it’s the banks that will be impacted if there is any default,” he said.

Gordhan was echoing a view made by Gill Marcus, the Reserve Bank governor, during her address to the bank’s shareholders last month. She said: “Although countries such as Greece, Ireland and Portugal are relatively small in the European context, the exposure of the banking systems of the rest of Europe to these countries’ debt means that, in the event of even a partial default, a systemic crisis could ensue.”

She said the total exposure of foreign banks to Spain, Greece, Portugal and Ireland was about $2.3-trillion at the end of last year, a significant portion of which was to German and French institutions. The debt-to-GDP ratio of countries such as Greece and Ireland would, by 2012, reach 166% and 118% respectively, she said.

But Gordhan was confident that the local financial system was unlikely to experience major impacts.

“The Lehman crisis has taught finance ministries around the world that the stability of the financial system is a crucial part of the overall stability of the global economy,” said Gordhan.

“Fortunately we survived the Lehman crisis and we are not connected in any serious way to Greek debt, for example. From a South African point of view, we don’t see any threats to our own financial system.”

In addition South Africa had been proactive in establishing an improved regulatory framework to help the country anticipate and respond to crises. One element of this was the creation of a financial stability oversight committee, comprising the Reserve Bank, the Financial Services Board and the treasury.

Other policy initiatives included increasing foreign exchange reserves and moves to consolidate South Africa’s fiscal deficit from 7% to between 3% and 4%. The government was also working to ensure “better value for money” and to improve internal efficiencies, Gordhan said.

However, although South Africa’s banking system was secure, Gordhan said worsening European conditions would have an inevitable and immediate effect on the country’s exports. Growing relations with developing countries such as Brazil, Russia, India and China held out the possibility of new markets for South African goods, which, in time, could mitigate the risks posed by the ills of long-standing trade partners such as the European Union. To realise these opportunities better synergy was needed among the government, business and labour to reposition the economy and make it more competitive, Gordhan said.

It was also important to create a more stable environment to encourage investors to enter South Africa and use it as a gateway to the rest of the continent, he said.

Ratings agencies gave the country good ratings, said Gordhan, but “Team South Africa” needed to make a greater effort to use the competitive advantages of the country’s world-class accounting, legal and financial infrastructure to lure investors.

The violence involved in the recent strikes and the continuing nationalisation debate “do not help”, he said. However, important issues had been raised in both areas that needed urgent action. These included the huge differences between the earnings of workers and bosses and South Africa’s “very unequal society”.

Fears for the future of single currency intensify

Europe’s policymakers have accepted a new blueprint to rescue Greece as fears for the future of the single currency are being openly raised in the financial markets.

With European leaders admitting that the cost of bailing out Greece would be tens of billions higher than originally expected, Willem Buiter, a former member of the Bank of England’s monetary policy committee, warned that the eurozone is facing an “existential” moment.

Buiter, now chief economist at Citigroup, said the contagion has clearly spread beyond the three small countries granted financial assistance — Greece, Portugal and Ireland.

“We’re talking a game changer here, a systemic crisis,” he said. “This is existential for the euro area and the European Union.”

After a fresh day of market turmoil that saw bond yields in Italy briefly hit 6%, officials involved in drafting the new blueprint for Athens said that it is accepted among most of the 17 eurozone states that Greece will be the first country using the common currency to be declared in “selective default”.

It is also accepted that private creditors will need to take part and bear losses, that the eurozone bailout fund known as the European financial stability facility might need to rise from its €440-billion lending capacity to enable Greece to buy back its bonds and that the new emphasis is on aiding Greece’s escape from its debt trap.

The aim, said an EU official, is to relieve Greece’s debt burden of €340-billion, or 160% of gross domestic product, to about 120%, or €255-billion, in the hope of boosting recovery prospects. That represents another €85-billion in loans on top of the planned second bailout of up to €120-billion. The initial bailout agreed in May was worth €110-billion.

Although several diplomats and officials in Brussels said an emergency summit of eurozone chiefs on the escalating crisis could be called as early as Friday, Wolfgang Schauble, the German finance minister, said the new programme for Greece needs to be finalised by the second half of next month.

Schauble, Olli Rehn, the EU commissioner for monetary affairs, diplomats and officials said the new scheme could still unravel because of specific sticking points. “There is no new programme without an adequate participation of the private sector,” Schauble said, repeatedly emphasising that, for Germany, losses for the banks, insurance companies and pension funds holding Greek debt are an essential condition.

This is resisted by the European Central Bank and southern EU countries who fear a loss of investor confidence aggravating their ability to borrow. It is almost certain to trigger a verdict of Greek default from the international credit-ratings agencies.

The framework for the new Greek deal emerged from two hectic days of EU finance ministers’ meeting in Brussels, with the stakes raised because of alarm about the fate of Italy and Spain.

Jonathan Loynes, chief European economist at Capital Economics, said: “The continued failure of European policymakers to agree on a new package to support Greece and the growing signs that larger economies like Spain and Italy are being dragged further into the crisis could mark the beginning of the end for the single currency union in its current form.”

Jean-Claude Trichet, president of the European Central Bank, led the campaign against acceding to a Greek default. When sympathetic ministers sought to remove the divisive issue of private creditors’ involvement from the debate, Schaeuble interrupted to warn that there would then be no new help for Greece, sources said.

But there were also the first signs of fraying within the German-led camp as the fight crystallised into one between Berlin and Frankfurt — the German government backed by the Netherlands, Finland and Austria, and the European Central Bank supported by France and the Mediterranean countries. Austria, witnesses said, voiced reservations about allowing a Greek default and sided with the European Central Bank against Germany.

But the European commission, despite siding with the European Central Bank throughout the crisis, concluded that a Greek default was inevitable if private bond holders participated.

The new deal, said Rehn, has to be “comprehensive and systemic” to accomplish two goals: saving Greece by cutting its debt to sustainable levels and erecting a firewall against contagion. Officials started work on the package at 7am on Monday to deliver the blueprint to finance ministers within days. But the Germans, backed by the Dutch, were in less of a hurry.

“We can’t afford haste to become the enemy of the good … money alone won’t solve the problem,” said the Dutch finance minister, Jan Kees de Jager. — Ian Traynor & Larry Elliott,