Wednesday, April 10, 2013

10/4/2013: EU Commission on debt-overhang in Europe

A new paper on the effects of debt and deleveraging in Europe was published by the EU Commission. The paper can be accessed here.

Some nice charts summarising the debt overhang in the real economy (households and non-financial corporates):

Gross level relative to GDP, Irish households are 3rd most indebted in the euro area by 2011 measure. However, adjusting for GDP/GNP gap puts us at the top position, well ahead of Cyprus and even ahead of the EU27 'leader' - Denmark.

Now, much is usually being said about Irish net debts being lower due to immense wealth accumulated by the households. Table above shows that, actually, that is not true. We rank second from the top. Interest burden has declined, but it remains the third highest in the euro area.

Now to non-financial corporations:
 Irish corporates are second most indebted (after Luxembourg) in the EU and adjusting for GDP/GNP gap, the difference to the third most-indebted country is even more dramatic than the chart above indicates. Irish corporates debt rose in 2008-2011, rather dramatically - marking the highest increase in the euro area.

Detailed decomposition:
Again, adjusting for GDP/GNP gap, Irish economy is the most indebted in the euro area and the EU when measured relative to overall economy size (note: Luxembourg comparatives are wholly meaningless due to massive presence of brass-plates operations in the economy).

More fun charts:

Again, Ireland is in top first (corporates ex-Luxembourg) or second (households) positions.

Deleveraging household debt overhang will be extremely painful for Ireland:

And although asset valuations suggest the pain will be milder, in reality, one has to consider the fact that Irish household assets valuations are not exactly (a) fully reflective of real extent of price contractions in the housing sector, and (b) liquid.
 Here's EU Commission view:
"as regards households capacity to repay (figure 12), Ireland, Spain, Estonia, the Netherlands, Latvia, Denmark, the United Kingdom and, to some extent, Cyprus are amongst those that experienced a rapid increase in household indebtedness before the crisis. Despite the varying starting position in terms of household debt, the information content of the level dimension also points to the same set of countries as potentially prone to suffer from deleveraging pressures, on top of Portugal and Sweden. Ireland, Latvia and Estonia also appear as subject to high  pressures when considering actual leverage as well as its build-up (figure 13)".

And on non-financial corporates deleveraging:
"on the firms' side, there is also a clear positive relationship between the  accumulation and the level factors when considering the capacity to repay (figure 14). Countries like Belgium, Ireland, Spain, Cyprus, Portugal and Bulgaria stand out as presenting vulnerabilities related to their firm's indebtedness. This snapshot is highly nuanced when looking at firm's asset side (see figure 15). Belgium and Cyprus present a healthier picture while firms in countries like Greece, Italy, Slovenia and Latvia appear as subject to higher pressures. As a robustness check, this exercise was also run with consolidated data and the results are consistent but for the case of Belgium, where the relevance of intra-company loans calls for further qualifications when assessing non-financial corporates debt sustainability"

Using more sophisticated analysis, the Commission paper concludes that:
"The following countries can be identified as more prone to face deleveraging pressures in the household and non-financial corporation sectors: Cyprus, Denmark, Spain, Ireland, the Netherlands, Portugal, Estonia, Latvia, Slovakia, Sweden and the United Kingdom on the household side and Belgium, Bulgaria, Cyprus, Greece, Spain, Hungary, Ireland,  Italy, Portugal, Estonia, Latvia, Slovenia, Sweden and the United Kingdom on the corporate side."

Of all countries listed above only Ireland, Cyprus, Spain, Portugal, Estonia, Latvia, Sweden and the UK fall into both groups, but only Ireland falls into extreme scenarios of debt sustainability in both categories:

In EU Commission calculations (see link above), Ireland has the greatest gap to sustainability (35.2%) when it comes to debt overhang in the entire euro area, and second highest in the EU.

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