World Economy

Eurasia Group Says Portugal, Italy Could Collapse

Caixa Geral de Depositos headquarters in Lisbon.Caixa Geral de Depositos headquarters in Lisbon.

Brexit noise is masking Europe’s more pressing existential problems. Portugal and Italy for two.

That’s the bald message from Eurasia Group. It’s one of the largest political risk consultancies, News Market reports.

In a note released on Thursday, Eurasia is just short of apocalyptic on Southern Europe’s plight. Just short.

“The political economy of Southern Europe continues to lurch from bad to worse,” its analysts wrote.

“Under entirely conceivable circumstances, Portugal and Italy could face government collapse and sovereign and bank bailouts over the next few months.” It’s not hard to see their point, the report says.

In Lisbon, the nine month-old Socialist-led government has stalled economic and fiscal reform.

Moreover, in recent weeks, the European Commission and Portuguese government have come to an agreement to recapitalize Caixa Geral de Depositos bank.

Both have reached an initial agreement to inject €3 billion ($3.38 billion) into Portugal’s largest lender by assets, an important step toward cleaning up the country’s troubled banking sector. The plan includes cost cuts and won’t be considered state aid, the Portugal Finance Ministry said.

That’s one of two banks which have been on the brink for some time.

The big question is how Lisbon’s portion of the bailout will affect its own sovereign credit rating. And that matters.

If Portugal is downgraded to “junk” status by DBRS rating agency, then it will have no investment grade ratings left. Fitch, Moody’s and S&P have already pulled the trigger.

  Worst Case Scenario

And if Portugal has no investment grade ratings then it loses its place in the European Central Bank’s bond-buying backstop program.

“In a worst case scenario, this would threaten market access and precipitate a government collapse,” Eurasia wrote.

Then there is Italy. “Italy is equally vulnerable. Reforms here have also lost considerable momentum ahead of (Prime Minister) Renzi’s critical constitutional referendum this autumn. For now, we continue to believe the referendum will pass (with 60% confidence). But this means there’s a non-negligible risk it will not. In this case, the government would collapse.” Other potential wildfires are also smoldering.

The consultancy also points to political gridlock in Spain, clashes with the EU in Hungary, endless budget problems in Greece. The list goes on, with Portugal and Italy at the top.

None of these have to be as serious as Brexit. No one yet knows the terms on which the UK will leave the EU. But Eurasia’s point is that they are all much more likely to ignite this year.