‘Hidden’ State Guarantees Add to Europe’s Debt Worries

Perhaps they should be.

It is easy to be lulled because these two newer members of the euro zone rank among the more fiscally responsible of the club’s 17 members in terms of debt relative to the size of their economies. By that measure, even the euro zone’s presiding debt disciplinarian, Germany, fares worse — at least according to official figures.

But official figures can deceive. Even as Europe’s newfound sense of financial calm continues, the hawks who watch government debt — ratings agencies, global regulators and bond lawyers — are starting to focus on what they consider the underreported financial obligations of countries like Slovenia, Malta and others.

They warn that if the risks posed by nearly insolvent banks and unprofitable state-owned companies are factored in, government debt ratios would show a sharp increase that could well unsettle investors holding these countries’ bonds.

That is because, more than ever before, euro zone governments — not only in Slovenia and Malta, but in financially troubled spots like Cyprus, Spain, Ireland and Italy — are guaranteeing the bonds issued by banks and other state-owned entities as a way of backing important segments of the economy without adding to the official tally of debt. If any of those banks or companies have trouble paying back their debts, it is the countries themselves that would be on the hook.

“These guaranteed bonds represent a clear and present danger to sovereign governments that is not reflected on their balance sheets,” said Lee C. Buchheit, a sovereign debt lawyer at Cleary Gottlieb Steen Hamilton.

No one expects any immediate need for additional national bailouts as a result of these lurking liabilities. Only Cyprus, whose problems are well documented, is in bailout talks. And Greece continues to occupy its own special sick ward.

Still, there have been a few tremors lately.

Last month, when Standard Poor’s reduced Malta’s bond rating by a notch, to BBB+, the ratings agency cited the implicit liabilities of government guarantees. In particular, S. P. highlighted the increasingly weak financial condition of Malta’s state-owned energy giant, Enemalta. That company’s debts represent 60 percent of the 1.1 billion euros ($1.5 billion) in loans that Malta has backed.

To include those obligations would lift Malta’s debt load from its current moderate level of 74 percent of gross domestic product to a much more worrisome 90 percent.

Meanwhile, Slovenia’s debt-to-G.D.P. figure would increase to 80 percent, up from the official 50 percent figure, if the calculation included 3 billion euros of loan guarantees for businesses. They include DARS, a highly indebted though profitable company that builds and manages the country’s highways. There are also a number of unprofitable banks like Nova Ljubljanska Banka that are dependent on the government for their survival.

Pointing to the bank liabilities in particular, the ratings agency Moody’s Investors Service knocked down Slovenia’s debt rating last August, to Baa2 from A2, just two notches above “junk” status.

For the better part of a decade, euro zone countries have used sovereign, or government, guarantees as a way to let strategically important state-owned companies — including railway groups in Greece or car companies in France — raise money by issuing bonds in international markets. With the start of the financial crisis, this practice was extended to banks, which in many cases were no longer able to borrow on their own.

The thinking has been that since the guarantee is contingent only on these businesses failing, the liability need not be added to the country’s existing pile of debt. But as the debts of these companies and banks have soared, and as the financial health of the countries backing them has deteriorated, the debt specialists are beginning to take note.

Article source: http://www.nytimes.com/2013/02/06/business/global/lurking-state-guarantees-add-to-europes-debt-worries.html?partner=rss&emc=rss