WSJ: Political Risk Rising in Europe

HEARD ON THE STREET|MARCH 23, 2011, 9:05 A.M. ET
Political Risk Rising in Europe

By RICHARD BARLEY

The euro-zone crisis may be back. The Portuguese minority government faces a key vote on austerity measures Wednesday, and Prime Minister José Sócrates has said he will resign if the opposition doesn't support them. The chance Lisbon will have to ask for aid from the euro zone is rising. But this is just the most imminent political risk; national and European interests are colliding from Helsinki to Dublin.

Portugal's opposition party is refusing to support the latest set of austerity measures designed to help the country cut its budget to 4.6% of GDP this year. A political vacuum in Portugal would clearly damage its already hobbled access to capital markets; five-year bond yields have spiked to above 8%. While analysts believe Lisbon has cash to cover a €4.3 billion ($6.1 billion) bond repayment in April, another €5 billion payment is due in June.

A Portuguese bailout request in itself wouldn't be a shock; many investors have assumed it is inevitable. But tensions could run high if political wrangling complicates the negotiations for a support package.

But other risks are lurking. The Finnish elections due in April could give greater prominence to the populist True Finns party, which opposes further increases in the euro-zone bailout fund that the current Finnish government supports. Complaints continue to flow from German politicians concerned that they are backstopping southern European governments and piling up contingent risks.

Most worryingly, Ireland is at loggerheads with the euro zone over its 12.5% corporate tax rate, and still could force senior bank bondholders to accept a cut in the repayment value of the debt. That, known in the industry as a haircut, which could have ramifications across the continent. Technical details in reforming the bailout facilities could yet trip the process up.

So far Europe has overcome its political differences to unite behind the euro project, but it has taken moments of high drama to do so. There is no guarantee that the pattern won't repeat itself.

The main result so far has been to delay resolution of the crisis: markets still expect at least one sovereign debt restructuring in coming years and there is no real clarity on how this might occur. In the meantime, austerity and bailouts will continue to test political will.

Write to Richard Barley at richard.barley@dowjones.com

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