Portugal’s debt downgrade signals larger struggle

Portugal’s debt downgrade signals larger struggle

The recent downgrade of Portugal’s sovereign credit by Fitch Ratings is symptomatic of issues in the broader region rather than an isolated event.

In addition to Portugal, we have been watching the deteriorating fiscal position of several peripheral European countries. We’ve also observed that by participating in the EU, there are limitations on the ability of these countries to address debt problems with standard macro-economic policy tools.

The Fitch downgrade may be reflective of a continued struggle that troubled European nations face in attempting to rein in debt levels while trying to avoid plunging their economies back into recession.

The problem could be exacerbated by the lack of a willing lender of last resort to support the debt requirements of those countries. Already there have been reports of resistance within Germany to pay for a ‘bailout’ of other periphery countries.

Part of the solution may require significant fiscal tightening to convince the markets that the debt levels are sustainable. But this action can also face political challenges within the countries.

As a result, any solution will probably take time and mean more discipline imposed by some combination of market forces, rating agencies, EU policy, and potentially the IMF.

Given these issues, as well as concerns about the impact banking reform will have on growth in several countries on Europe’s periphery, within Putnam International Growth Fund we have reduced our exposure to the countries that appear to be most vulnerable.

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