Think deficits don't matter? Just ask Portugal

By MoneyWeek Editor John Stepek Mar 25, 2010

John Stepek

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What happened yesterday?

Little of consequence. At least, not here in the UK. Alistair Darling stood up. He gave a speech in which he tried to clear the Labour party of any responsibility for the state of the economy they've been running for the past 13 years. He bribed first-time buyers. He battered cider drinkers. Then he sat down.

Both sides then got down to the serious business of trading insults over how corrupt the other party's members are. Anyone who actually cares about how the British economy is going to get out of this mess might have felt the urge to go in there and slap the lot of them.

And while we were all watching the Chancellor try to rewrite history, elsewhere in Europe, Portugal was warning us of what happens when people lose faith in your ability to repay your debts...

Yesterday's Budget was just election campaigning

We covered most of the headline grabbers in our Budget coverage yesterday. I have to say that my overwhelming sense from the whole thing was, "what's the point?"

There's something about Alistair Darling that makes you want to give him the benefit of the doubt. It might just be the fact that he's not Gordon Brown. But this really was just a cynical piece of election campaigning.

Stephen Barber at online brokerage Selftrade summed it up well: "This was a neutral budget for investors, since it wasn't a budget at all. Budgets set out taxation and spending. But the Chancellor told us his taxation plans in the pre-budget report three months ago. Spending won't be revealed until the comprehensive spending review after the election in the autumn. This was a political act which drew the dividing lines for an election campaign which begins in earnest today."

He fiddled with stamp duty in the hope of giving house prices a little bump up in the month before the election. But what happens after, when all those first-time buyers who paid too much are left with rising interest payments and falling equity?

He categorically denied that the recession had anything to do with Labour's economic governance. But if that's true, how come we're one of the last countries to emerge?

He said that efficiency savings will be made. But given the government's track record on that front, how can we believe that's realistic?

And it's this point – the deficit – that really does need to be addressed. By the end of this tax year, Britain is expected to have overspent by £167bn. That's all added to our national debt. Next year, and the year after, we'll still be overspending by £160bn-odd a year. So that gets added to our national debt too. And even if we do halve the deficit by 2013/14, as promised, we'll still be adding to the debt pile.

The UK's in a vulnerable position right now – just look at Portugal

And a lot of these predictions depend on us having good economic growth every year between now and then. That's a very vulnerable position to be in. There's not much room for error or bad luck. Do you really believe that in the next four years there won't be any more macro-economic shocks? And we're now surely at the point – if we're not already past it – where any further rises in the state's tax take will just be counter-productive.

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And if you want to know what happens when people start to worry that a country can't repay its debts, you just need to take a look at what happened in the eurozone yesterday.

Portugal was downgraded by ratings agency Fitch, from AA to AA-. To give you some perspective, Britain is AAA (still), while Greece is BBB+.

I feel a bit sorry for Portugal. They didn't have a boom, and they've still managed to have a bust. Of course, the economy is much smaller than Britain's. It's also structurally pretty sclerotic – which is what happens when too much of your economy is dependent on government bureaucracy. That's why we've still got a AAA rating even with our budget deficit at 11.8% of GDP, while they've been downgraded even although their deficit is 'just' 9.3% of GDP.

Douglas Renwick at Fitch said: "Although Portugal has not been disproportionately affected by the global downturn, prospects for economic recovery are weaker than 15 European Union peers, which will put pressure on its public finances over the medium term."

How can you profit in this mess?

As a result, the euro took a hammering against the dollar, falling to a ten-month low. We've been suggesting that the spread betters among you short the euro against the dollar for most of this year now, so hopefully it's been a winning trade for any of you who have done it. We also write about some other potential trades in the current issue of MoneyWeek magazine (if you're not already a subscriber, claim your first three issues free).

Do bear in mind, if you're tempted, that spread betting is a risky business. It's not like buying shares (which is risky enough in itself). You need to use stop losses, you need to be disciplined, and if you make mistakes you can lose an awful lot of money in a very short space of time. If that hasn't put you off, then to get a great deal on an account provider, check out our spread betting comparison service.

As for the pound – well it fell yesterday against the dollar, but rose against the euro. What that suggests to me is that the markets felt exactly the same about the Budget as we did – it was a non-event. The real Budget will come after the election, be that under Labour, Conservatives, or Lib Dems. And Lord help us if they make a mess of that one.

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Published in Economics | More articles by John Stepek

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  • 1. Daniel

    (25 March 2010, 11:05AM)  Complain about this comment

    The main reason why the UK's debt is still rated AAA whilst Greece's and Portugal's are not,is that we haven't joined the Euro and they have.So Britain can print pounds to pay its debt,whereas Greece and Portugal cannot print Euros to pay theirs.

  • 2. Nick

    (25 March 2010, 12:26PM)  Complain about this comment

    I reckon that was always Gordy's plan to get out of jail, if needs be and it does. If Gordy was running a company, he would have been charged with "not being fit for purpose", "incompetence" and would have been thrown out or in court. Can't we sue him for "incompetence" especially after his modus operandi of disposing of our gold reserves? The thought of a PM ex- or otherwise in court seems appropriate justice especially if he has to pay costs out of his inflation proof pension.

  • 3. David Morgan

    (25 March 2010, 12:34PM)  Complain about this comment

    'Both sides then got down to the serious business of trading insults over how corrupt the other party's members are. Anyone who actually cares about how the British economy is going to get out of this mess might have felt the urge to go in there and slap the lot of them. '

    Very nicely put - sad, funny and true!

  • 4. John

    (25 March 2010, 01:09PM)  Complain about this comment

    417 tonnes of gold sold in 1999 say at $230 ounce is about $3.45 bn. At today's value of say $1100 ounce is about $16.5bn.What gave Gordon the right to sell our (taxpayers) gold, no referendum no nothing. Where has it gone - on Socialising Britain, money wasted - down the drain. Now they want to increase our debt to £1.4 trn. When are people going to wake up to this bankrupt state? Who's paying - yes you got it good old taxpayer and we get nothing in return except more control and socialism. To say that this budget is of no consequence is laughable. It shows what Labour plan to do in the future - more state control and dictating to the banks on lending etc. And just look at all the highly skilled people out of work who can't get a job - it's a disgrace. All of what is happening to our Country is a result of a lack of the knowledge of God and lack of the teaching of the 10 commandments at our schools, putting it very quickly together.

  • 5. IJ

    (25 March 2010, 01:28PM)  Complain about this comment

    Surely shorting the EUR is a crowded trade now (any punter on the street would recommend it), and there's a decent chance the damage has been done. Europe doesn't have bigger problems than other parts of the developed world. Shouldn't one be looking at other developed currencies that have been strong and perhaps unjustifiably so.... the Yen being an obvious choice?

  • 6. Tonyh

    (25 March 2010, 01:44PM)  Complain about this comment

    I've just been chatting to a friend, who was a director of a substantial British engineering business, employing 500 staff. It is now owned by two Indians, down to 60 British staff and probably going to the wall, all in the last two years.
    From where, exactly, is our recovery going to come? Could it be that the rich emerging economies are buying up British businesses, which is why we are having an equities boom? If so, where is the government going to get its tax from?

  • 7. IJ

    (25 March 2010, 02:30PM)  Complain about this comment

    Looks about right, Tonyh. Emerging economy businesses with lower cost bases buying developed assets is a trend that started before the crisis, and crisis could well have been just a minor dent in that trend. I suspect also there'll be increasing demand for other Western assets (e.g. US real estate, maybe not so much UK!) as the numbers of the rich from emerging economies swell.

  • 8. John

    (25 March 2010, 11:13PM)  Complain about this comment

    Agree with your comments. The thought of another four years of labours incompetence, fills me with horror. We need change, anyone but labour.

    John

  • 9. boom go the debt bomb

    (25 March 2010, 11:27PM)  Complain about this comment

    The deficit does not matter just ask Bush and Ospendaroma. The USSA will soon be 3rd world. We are in the same boat.

  • 10. Steve

    (26 March 2010, 06:14PM)  Complain about this comment

    Re: John, quote "Agree with your comments. The thought of another four years of labours incompetence, fills me with horror. We need change, anyone but labour"

    Anyone but labour, you and anyone else who thinks voting is real are mad. You'll be the same person at the next election saying anyone but conservatives. Voting just gives you the feeling you have some say, in reality YOU DON'T. And the policies will be the same no matter who is in no.10

  • 11. Jay

    (27 March 2010, 01:44AM)  Complain about this comment

    John is right. Only a return to God and His laws will save any nation, U.K., USSA or any other. Corrupted mankind can be counted on to squander the public trust and to waste public moneys to the point of hopeless starvation unless his heart is transformed and he is given wisdom from Almighty God. Nation after nation will experience financial collapse until mankind begs for a dictator to deliver them. Very soon, there will be such a man who stands up and claims to be God and he will fool many people the world over. Those who follow him will follow him to their own destruction. Most people will be deceived by him and his supporters.

  • 12. Samantha

    (29 March 2010, 12:36PM)  Complain about this comment

    Thank you for this article John. However so far events are not following your view on Portugal. I notice that you are one of the people who seems to still have faith in the ratings agencies. However the government bond markets are not following you.

    As a reader of the informative notayesmanseconomics web blog I am reminded time and time again that ratings agencies act after the event and not before it. So I am afraid the changes you talk about actually took place a while ago.

  • 13. John

    (01 April 2010, 04:44AM)  Complain about this comment

    I think the writer just used Portugal for a good title. In fact for the people here reality is bit different for the better than you try to describe. Problems like public corruption, faraonic investments overweight state with almost 100 % public debt and wrong fiscal policy for small and medium companies are problems. But to be honest they can be worked out and just some political motivation is needed. The cds story and all speculation on Portugal is just good enough to make a quick buck on a market room. Hey and and a good title too.

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