Differentiating Europe’s Periphery

News coverage of Europe lately often focuses on peripheral Europe (and for good reason): Greece, Portugal, Ireland, Italy and Spain—often collectively referred to as the PIIGS. While this moniker can be a useful shorthand in discussions (and depending on the point made, may be accurate), it’s a misread to assume this means all five nations are the same.

Recently, we contrasted Greece and Ireland—we’ll not rehash the entire discussion (here’s a link if you’re interested), but it suffices to say Ireland’s economy has recently grown, while Greece remains mired deeply in recession.

But it isn’t just Greece and Ireland that are different—these are five very distinct economies. Here’s a brief (and far from all-inclusive) look at some key differences that may most interest investors now.

Portugal

Like Greece and Ireland, Portugal tapped the EFSF for a bailout in early 2011. And like the other two nations, Portugal was required to introduce austerity measures to reduce government expenditures. And like Greece, Portugal faces some competitiveness issues requiring reform. But let’s dig below the surface.

• GDP (as of 12/31/2010): Roughly $247 billion. That’s smaller than Greece and amounts to a tiny percentage of eurozone output.
• Last four quarters of year-over-year GDP growth are +1.2%, +1.0%, -0.6% and -0.9%. Greece’s figures are far, far worse.
• Portugal’s debt amounts to roughly 90% of GDP. Not great but far better than Greece’s 142%-plus.
• What Portugal seemingly needs most is greater private-sector liberalization—reforming labor market laws and diversifying its economy. (Whatever one’s opinion of layoffs, the ability of companies to cut costs does aid in recovering from recession.)

There are many more. But here’s the kicker: Portugal’s government has made far more progress in implementing reform than Greece. Labor market reform has begun. Privatization was underway even before it was bailed out. And political turnover in Portugal has installed a more hawkish government regarding public finances. That is far different than Greece. Now of course, things could turn worse in Portugal. But at this time, the differences are rather apparent.

Spain

Spain is obviously a much larger economy than Greece or Portugal. And it also hasn’t been bailed out—meaning it is currently successfully accessing credit markets to roll over debt (something the bailout makes irrelevant for Portugal and Greece—while there’s much talk of their lofty interest rates, fact is they’re not actually paying that). And there’s an enormous difference between a 10-year Spanish rate of about 5.2% and Greece’s 10-year at 22.6%.

• GDP (as of 12/31/2010): $1.3 trillion.
• Last four quarters of year-over-year GDP growth: +0.2%, +0.6%, +0.9% and +0.7%. Tepid growth, yes, but growth nonetheless.
• As of 12/31/ 2010, Spain’s debt amounts to roughly 60% of GDP.
• The key government finance issue here was an elevated deficit—11.1% of GDP in 2009 and 9.2% in 2010. Thus, the government proposed austerity measures to reduce it.
• Labor market reforms to buoy future growth are likely needed here as well.

Contributing to Spain’s deficit issues are the cajas: Historically non-profit regional banks that were heavily involved in the Spanish housing market—which took a bath during the global recession. As such, many required recapitalization, and the government played a role by setting up a bailout fund of approximately €99 billion. Some estimates claim the need is larger—some analysts think it sufficient. Whichever the case, it’s a large commitment to backstop the troubled sector. And unsurprisingly, caja reform is underway at the same time—the idea of a not-for-profit bank isn’t one we think terrific. Also playing a role were regional government finances. Spain has a highly decentralized government, and regional leaders also ran up large deficits the government ultimately funded.

But measures have been taken to attempt to mitigate issues. Regional elections recently replaced many leaders—with the fiscally conservative People’s Party winning in a landslide over Prime Minister Jose Zapatero’s Socialist Party. Austerity measures have been—and still are—being implemented. Yesterday, for example, a new “wealth tax” was passed. (Not a terrific idea in our view, but a serious effort at increasing revenue to be sure.)

The primary issues remaining for Spain are generally growth-oriented. Spain needs reform to buoy its competitiveness, but the extent of this is not as severe as, say, Greece.

Italy

Italy is the eurozone’s third largest economy and carries its largest debt load—which many speculate makes it “too big to bail out.” And by existing means like the EFSF, that may be true to an extent. But the question of whether it’ll need a bailout or not is an entirely separate matter.

• GDP (as of 12/31/2010): About $1.8 trillion.
• Last four quarters of year-over-year GDP growth: +1.4%, +1.5%, +1.0% and +0.8%.
• As of 12/31/ 2010, debt-to-GDP is about 119%.
• Italy runs a primary budget surplus—meaning, all spending except debt interest costs is covered by revenue.
• The budget deficit is small, at roughly 3.9% of GDP—and the current austerity measures passed are expected to slash its 3.9% total deficit further (if not entirely) by 2013.
• Italy’s economy is the most diverse of the five PIIGS nations.

Italy has a large amount of debt but not tied to a recent spending problem—rather, to old accumulated debt. Moreover, much of Italy’s debt stock is held by domestic investors—a more stable source of funding than foreign investors, who often repatriate funds in time of trouble. Italy’s debt stock matures gradually over years—not immediately. So the immediacy likely isn’t as acute as Greece. Ultimately, Italy’s is a situation where the economic growth can quell much of the concern. Now, it’s true that’s been slow recently, but even modest increases can make a big difference in their debt profile. Could the situation worsen? Of course. But it appears to us unlikely in the immediate future, and there are credible means by which Italy can grow out of its issues.

As to Italy’s political gridlock, which S&P cited in its recent downgrade, however hot the debate, it hasn’t stopped the parliament from approving austerity recently. Those actions speak louder to us than a debate’s words.

Ultimately, the sore thumb in Europe’s periphery is, primarily, Greece. Yes—some other nations have issues. But none are nearly so acute, so immediate and so problematic as Greece. And yes, the fear of Greece has driven bond yields higher for the periphery. But at the same time, the fear of being labeled Greek has motivated leaders in many other parts of Europe to take action. Thus, it’s quite a stretch to assume all Europe’s periphery is in the same boat as Greece. That wasn’t true when the term PIIGS was first popularized, and it still isn’t today.