http://www.zerohedge.com/news/guest-post-equities-dallas-and-sovereign-debt-ratings
If I’m wrong, and this is a trend to accelerated sovereign downgrades, there is really only one country that matters, and that is France. What are they going to do, change it from CC to CC-, or Ca to Cb? Greece is so far gone it doesn’t matter. No one believes they can tell the difference between A and BB, let alone CC and C. Italy and Spanish downgrades might move the market, but probably only briefly. A downgrade of Italy will send the market into a brief tailspin. Everyone will chatter about it, then realize, that it isn’t trading at yields anything close to its current ratings, the ECB will still let banks use it as collateral, and that no one other than some equity futures traders have been paying close attention to Italian or Spanish debt ratings anyways. A downgrade to China might move markets, but why they are only Aa3/AA- is a bit confusing to me to begin with given all the reserves they have. Either the rating agencies know something we don’t (ghost cities) or they have just been lazy and out of touch with reality.
France is the key, because right now, Europe needs to believe in EFSF to think it can escape the mess it has created. And EFSF needs the AAA countries to provide 100% of the issued debt. The AAA guarantors are Germany, France, the Netherlands, Austria, Finland, and Luxembourg. Finland and Luxembourg are small enough that they could be replaced if need be, but don’t seem at any risk of losing AAA even if the rating agencies are on a downgrade rampage. I have to admit, I am surprised at how big the GDP of Holland is, I really just underestimate it, but don’t see any reason they would have to worry about their rating. Austria strikes me as having some weak banks, but I don’t know enough about it, and it’s small enough, and there is no indication of any rating agency concerns, so I assume it will be left alone. Germany is so big and has shown itself to be such a strong economy, that there is zero chance the rating agencies would touch it.
France is another story. Their banks seem very exposed to the PIIGS. Their economy does not rival that of Germany. The agencies seem open to criticism of why they would leave France AAA and the U.S. as AA+. France is the second largest contributor to EFSF. If France loses its AAA, the EFSF concept is gone. I think Holland would decide that it was easier to take advantage of some of their special cigarettes and chill for a bit rather than up its commitment to the weak EU members. Without France, due to downgrade, and Holland due to deciding that it had all spiraled too far out of control, it would all fall on Germany. You have to assume, that on the back of a French downgrade, fear of being the sole supporter of a failing Europe would hit extremes, and the fear would be rational. If French loses its AAA rating, it’s likely Spain and Italy would have taken some multiple notch downgrades as well, making it impossible to restructure EFSF in a way that hides that it relies entirely on Germany.
If France goes, the EFSF goes, and we see real defaults in Europe. They might even trigger CDS Credit Events, but that won’t matter. Banks will be in big trouble, money markets will freeze and stocks will swoon. Over the longer term, I still think that would be the best, but none of the politicians in Europe think it’s a good idea to let defaults occur. They all like the idea of EFSF. And since it is clear that sovereign rating decisions are being made only at the highest levels within the agencies, they will be sensitive to this political pressure. They will likely try to negotiate commitments to keep ratings as part of the regulatory capital process if they play nice. It is the governments and regulators who give the agencies so much power by creating regulatory capital rules based on their ratings. I can easily see some trade-offs being negotiated. On an even simpler level, how much money will the rating agencies “earn” if the rate €1 trillion of EFSF bonds. The potential fee income might be enough to let the rating agencies justify keeping France as AAA. If not, look out below for stocks.
If I’m wrong, and this is a trend to accelerated sovereign downgrades, there is really only one country that matters, and that is France. What are they going to do, change it from CC to CC-, or Ca to Cb? Greece is so far gone it doesn’t matter. No one believes they can tell the difference between A and BB, let alone CC and C. Italy and Spanish downgrades might move the market, but probably only briefly. A downgrade of Italy will send the market into a brief tailspin. Everyone will chatter about it, then realize, that it isn’t trading at yields anything close to its current ratings, the ECB will still let banks use it as collateral, and that no one other than some equity futures traders have been paying close attention to Italian or Spanish debt ratings anyways. A downgrade to China might move markets, but why they are only Aa3/AA- is a bit confusing to me to begin with given all the reserves they have. Either the rating agencies know something we don’t (ghost cities) or they have just been lazy and out of touch with reality.
France is the key, because right now, Europe needs to believe in EFSF to think it can escape the mess it has created. And EFSF needs the AAA countries to provide 100% of the issued debt. The AAA guarantors are Germany, France, the Netherlands, Austria, Finland, and Luxembourg. Finland and Luxembourg are small enough that they could be replaced if need be, but don’t seem at any risk of losing AAA even if the rating agencies are on a downgrade rampage. I have to admit, I am surprised at how big the GDP of Holland is, I really just underestimate it, but don’t see any reason they would have to worry about their rating. Austria strikes me as having some weak banks, but I don’t know enough about it, and it’s small enough, and there is no indication of any rating agency concerns, so I assume it will be left alone. Germany is so big and has shown itself to be such a strong economy, that there is zero chance the rating agencies would touch it.
France is another story. Their banks seem very exposed to the PIIGS. Their economy does not rival that of Germany. The agencies seem open to criticism of why they would leave France AAA and the U.S. as AA+. France is the second largest contributor to EFSF. If France loses its AAA, the EFSF concept is gone. I think Holland would decide that it was easier to take advantage of some of their special cigarettes and chill for a bit rather than up its commitment to the weak EU members. Without France, due to downgrade, and Holland due to deciding that it had all spiraled too far out of control, it would all fall on Germany. You have to assume, that on the back of a French downgrade, fear of being the sole supporter of a failing Europe would hit extremes, and the fear would be rational. If French loses its AAA rating, it’s likely Spain and Italy would have taken some multiple notch downgrades as well, making it impossible to restructure EFSF in a way that hides that it relies entirely on Germany.
If France goes, the EFSF goes, and we see real defaults in Europe. They might even trigger CDS Credit Events, but that won’t matter. Banks will be in big trouble, money markets will freeze and stocks will swoon. Over the longer term, I still think that would be the best, but none of the politicians in Europe think it’s a good idea to let defaults occur. They all like the idea of EFSF. And since it is clear that sovereign rating decisions are being made only at the highest levels within the agencies, they will be sensitive to this political pressure. They will likely try to negotiate commitments to keep ratings as part of the regulatory capital process if they play nice. It is the governments and regulators who give the agencies so much power by creating regulatory capital rules based on their ratings. I can easily see some trade-offs being negotiated. On an even simpler level, how much money will the rating agencies “earn” if the rate €1 trillion of EFSF bonds. The potential fee income might be enough to let the rating agencies justify keeping France as AAA. If not, look out below for stocks.
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