Monday 24 July 2017

Euro crisis flashes red for Irish companies

After the banks, who is next for a good kicking? Irish companies should start to feel worried as a rash of debt contagion is going to hammer business very hard, writes Louise McBride

THE stakes in the European debt crisis get higher by the day. With Italy -- which has about €1.1 trillion of national debt -- now looking like it needs a bailout, it is no longer just the fate of the banks at play. If the crisis isn't resolved soon, Ireland's chances of emerging from its worst recession since the Eighties will be destroyed.

Alan McQuaid, chief economist with Bloxham Stockbrokers, believes another credit crunch could be on the cards if the European debt crisis isn't resolved soon. It's only a couple of years since the last credit crunch -- the worst financial crisis since the Great Depression of 1929 -- rocked the world. Ireland hasn't even recovered from that crisis yet.

"If Germany continues to take a hard-line attitude to the debt crisis, the risks of a second credit crunch will increase, pushing the world into another recession," says McQuaid. "Under that scenario, Irish consumers would retrench even more, doing more damage to the retail and property sectors. Unemployment would rise further and the problem for Irish banks would deepen, leading to the need for further recapitalisation."

Bruce Packard, an analyst at the London investment bank Seymour Pierce shares his concerns.

"With almost monotonous regularity, there seems to be a financial crisis every five to six years," he says. "They are all slightly different -- from the Asian crisis, to US corporate scandals of 2001-2, to the subprime-caused credit crunch. History suggests there will be inflation at some point which may create as many problems as it solves."

So who exactly could be mown down by the next stage of the European debt crisis?

EXPORTERS

Much of the hopes for Ireland's economic recovery are pinned on the shoulders of our exporters. Irish exports reached an all-time high of €161bn last year, making exporters one of the few to experience growth in 2010. Yet their good fortunes -- and consequently any hopes of an Irish economic recovery -- will be short-lived if the debt crisis is not resolved quickly.

"If the European debt crisis drags on for another few months, it will have an impact on exporters," says Hank Calenti, head of bank credit research with Societe Generale. "Irish exporters export a lot of their goods to the eurozone. If the debt crisis is not resolved, demand for Irish exports would decline as European buyers would not be getting finance at attractive rates to buy exports off Irish firms."

BANKS & ENERGY COMPANIES

Thanks to the decision by the ratings agency Moody's to downgrade Ireland's debt to junk status last week, Investors now believe that Ireland has a greater chance of going bust than Venezuela.

This makes it even more expensive for the Irish Government to raise money. If the European debt crisis continues to escalate, the Irish Government will do whatever it must to raise money, including increasing taxes. But struggling Irish taxpayers won't be the only ones hit -- companies regulated by the State, such as Bord Gais, phone companies and the banks, could be, too.

"As regulated sectors, banks and utility companies could risk being hit by Robin Hood taxes," says John Raymond, senior analyst with the British research firm, Credit Sights.

SEMI-STATES, SHOPS

& TELCOS

The longer it takes for Europe to emerge from its debt crisis, the longer it will take for Ireland to overcome its debt problems. More companies will get caught up in the carnage as a result.

Not long after Irish government debt was downgraded by Moody's last week, Bord Gais and ESB saw their credit rating slashed. Both could now pay higher interest rates on future borrowings as Moody's believes there is a greater chance that they will default on their debt. With Moody's stating that Bord Gais's "status as a semi-state entity could exacerbate its exposure to the Government's currently limited financial flexibility", other semi-states could share a similar fate.

"The credit rating of state companies -- or of companies that depend a lot on the State for business -- could come down if the sovereign's credit rating also comes down," says Raymond. "If a firm's credit rating is downgraded, it makes it harder for it to raise money and to attract investors."

One of the reasons given by Moody's for the Bord Gais downgrade was the company's "inability to disconnect itself from local economic and market circumstances".

By that rationale, semi-states are not the only ones who could have their credit rating slashed in coming months. "The more the crisis deepens, the greater the pressure on consumers," says McQuaid. "Any company, therefore, that's exposed to consumers could be in more trouble. That includes retailers and any company that a consumer pays bills to." Not only do phone, energy and semi-state companies have the threat of higher borrowing costs to worry about if their credit rating is damaged, they could also see their bad debts mounting as hard-pressed customers fall behind on their bills.

The recession has already forced more than 114,000 Bord Gais customers into arrears. The numbers falling behind on their gas, phone and electricity bills will explode once the European debt crisis starts to trickle down.

INSURERS & HOSPITALS

Insurers will be "in dire straits" if the debt crisis escalates, according to McQuaid.

"Some insurers could go bust," says McQuaid. "They are exposed to the Irish bond markets. As they have to pay out for claims, they also have a certain amount of cost to carry. Anyone who has an exposure to debt could face a haircut. Insurers could be holding bonds in pension funds and other investments."

Losses on debt could be the least of insurers' worries if the debt crisis triggers a second credit crunch. "Equity markets would collapse if there's a second credit crunch and the investments held by insurers would be exposed," says McQuaid. "If insurers are losing money, insurance premiums could go up."

The belt-tightening that came with the recession has already prompted hundreds of thousands of consumers to cancel their private health insurance, putting further pressure on the public health service.

If the European debt crisis intensifies the recession here, and if insurers push up premiums, the numbers cutting back on private health insurance (as well as other types of insurance) could go through the roof. This would put insurers under even more pressure.

"If people become more hard-pressed, they will only pay for their essentials -- and insurance is not seen as essential," says McQuaid. "People would, therefore, cut back on things like life insurance and health insurance."

CORPORATE IRELAND

If the debt crisis is not resolved soon, few Irish businesses will be able to dodge the fallout. Irish firms with big debts are in the firing line.

Businesses need corporate finance to complete projects, expand, finance joint ventures and privatisations, and to acquire companies. If they cannot raise money, not only will they find it hard to grow, they could have to cut back on existing projects and plans, or even shut up shop.

Irish businesses are already finding it impossible to raise money from banks. For the few that can secure loans, the interest rates and charges are often so prohibitive that it does not make sense for them to borrow the money. Many businesses are struggling with major cash-flow problems as a result.

It's no surprise that the number of companies that went bust in Ireland last year is about five times what it was at the height of the boom. If the European debt crisis continues, many businesses may be pushed over the edge.

"The cost of finance is one of the most important things for economic growth," says Societe Generale's Calenti. "If the debt crisis continues, business output will decline. If a business is declining, it hires fewer people."

Time is already running out for Europe. Investment experts believe that the huge difference in the yields (essentially, the interest) being paid on European bonds is evidence that the debt crisis has already stepped up a notch.

"The next phase of the European debt crisis has already begun," says David Ryan, head of fixed income with Setanta Asset Management. "Contagion has started to spread, with yield spreads [the difference between the return paid on different investments or bonds] widening across European markets."

The yield on Italy's 10-year bonds, for example, is already twice that of Germany's.

The yields paid on Irish bonds reached record highs over the past week. This is why it is so expensive for Ireland to raise the money it needs to run itself. Other debt-ridden European countries are in the same boat. If Europe can't hammer out a deal to resolve this debt crisis soon, we are all about to sink.

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