DBRS Commentary: Japan Crisis and Middle East Instability Increase Uncertainty over Euro Zone Debt Resolution

DBRS Inc. (DBRS) has today released a commentary entitled “Japan Crisis and Middle East Instability Increase Uncertainty over Euro Zone Debt Resolution.” The commentary discusses the risks to growth and confidence in Europe created by the Japan nuclear crisis and instability in the Middle East.

DBRS recognizes that some investors have expressed increasing concern about Euro zone countries suffering from high and rising debt burdens, uncertain bank recapitalization needs, low competitiveness or political instability. In addition to low investor confidence, deterioration in global economic and political conditions – the Japanese nuclear crisis, popular unrest in Bahrain, energy supply disruptions in Libya – could slow Europe’s economic recovery and thereby delay fiscal adjustment and debt stabilization.

Sentiment over Spain, Italy and Belgium appears to have stabilized despite lingering worries over either bank recapitalization needs, structural economic factors that have hindered productivity growth, competitiveness or political stability. However, Greek, Irish and Portuguese bond yields continue to rise, and fears over contagion remain high.

DBRS believes that part of the reason for widening yields is that European policies have been unclear with regard to providing liquidity, reducing debt servicing costs and the role of private investors in future bond restructuring. Greater clarity on European policies came on March 11, the first in a series of meetings through March 25, with a set of initiatives that if approved may help restore confidence and provide countries with time to implement fiscal austerity programs and return to growth.

However, DBRS believes that the final announcements may continue to leave doubts about Europe’s policy stance regarding debt restructuring. The unstable macroeconomic environment however increases the need for greater policy clarity. DBRS would be encouraged by policies that address not only liquidity needs, but also reduce debt servicing costs.

DBRS recognizes investors’ concerns, although with a view to rating through the cycle, has adopted a wait-and-see position with these sovereigns. DBRS believes that the balance of risks may be to the downside, but that Europe has both the liquidity and political capacity to create a stronger policy framework that could assuage default fears and restore confidence. A timely policy response from Europe would go a long way toward stabilizing investor sentiment, as well as DBRS’s ratings in Europe.

The applicable methodology is Rating Sovereign Governments, which can be found on our website under Methodologies.

A copy of this commentary is available by clicking on the link below or by contacting us at info@dbrs.com.