First Greece, now Spain; who could be next?
Yesterday, the credit rating agency Standard & Poor’s (S&P) downgraded Spain’s debt from AA plus to AA, sending Spanish stocks and bond prices down. Concerns about Spain’s financial situation are exacerbated by what’s happened in Greece.
As we wrote last month, for years Greece has been over-spending and promising unaffordable benefits to citizens, including the most generous public pension system in the E.U. Greece’s ballooning debt has become a crisis: the S&P downgraded Greece’s credit rating to ‘junk’ on Tuesday. Falling credit ratings exacerbate a country’s financial problems – the country must offer higher interest rates in order to sell bonds, raising the price of borrowing money, creating ever higher interest payments, and leading to even more debt.
Spain’s problems are far from Greek levels, and Spain is taking action to reduce its deficit. As Reuters reported, “Spain aims to cut its deficit to 9.8 percent this year after it rose to 11.2 percent in 2009. The government said it was still on course to meet the EU’s guideline of cutting its deficit to 3 percent by 2013.” It’s good news that Spain is taking measures to cut its deficit spending and to try to get its fiscal house in order before its problems get worse. Meanwhile, the E.U. is trying to finalize a deal that will alleviate the crisis in Greece.
Yet some analysts fear that the rescue package won’t be enough to prevent Greece from having to restructure its debt, an outcome that would ripple through the E.U.’s economy, as most European financial institutions that own Greek debt would suffer big losses and become less willing to buy other countries’ debt. A fiscal collapse in Greece could still tip over Spain and further spread to Portugal, Italy and Ireland – and it is unclear how far the crisis could spread from there.
The United States should pay close attention to what’s happened in the E.U. The direct economic impact on the U.S. of those countries’ problems may be minimal, but they should serve as a warning of what can happen when a country spends more than it can afford, thus allowing debt to spiral out of control.
Greece’s deficit is 12.7 percent of GDP. Spain is aiming for a one-year deficit of 9.8 percent. The Congressional Budget Office estimates that the U.S. federal deficit will be 10.3 percent of GDP for 2010. If we want to avoid the same fate as Greece and Spain’s path, we need to change course now.