Country Risk: Euromoney survey highlights uneven eurozone transfer risks as region splits in two

Jeremy Weltman
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Uncertainty over the legal sanctity of eurozone jurisdictions for the smaller and more indebted member states is raising alarm bells for depositors and investors. But bondholders had been alerted to heighted transfer risk by Euromoney’s Country Risk Survey.

Are eurozone deposits still protected by a common safety net? Seemingly not if the recent Greek-Cypriot policymaking debacle is anything to go by.

And it’s a development that is only encouraging foreign-account holders to be more wary of similar controls on capital flows in other euro jurisdictions, in small offshore locations such as Malta and the indebted periphery.

These heightened risks have been evident for some time in the changing evaluations (trend score declines) in Euromoney’s Country Risk Survey, a poll of economists and other experts aggregated each quarter, notably in their assessments of transfer risk.

As of late March 2013, the survey indicates that 13 of the 17 single currency nations have succumbed to increased transfer risk since Euromoney began publishing more details of the sub-factors lying behind its country risk scores some two-and-a-half years ago.

The risk of government non-payment/non-repatriation – a measure of the risk government policies and actions pose to financial transfers – is one of 15 indicators economists and other country risk experts are asked to evaluate each quarter.

It is used to compile the country’s overall sovereign risk score, in combination with data concerning access to capital, credit ratings and debt indicators.

Transfer risk questioned

The sanctity of investment law in the single currency area – the very guarantee that keeps transfer risks to a minimum – is now under threat, and both the bailout countries and other, small investment locations are most at risk.

Rather than continue to place the burden of banking sector recapitalizations on taxpayers, representing an inter-generational transfer, Europe’s embattled policymakers are seeking to increase the bail-in terms to private investors – senior bondholders and uninsured depositors – remarked upon recently by Euromoney (Country Risk: Five years on, banks still inflict chronic pain on eurozone).

And Cyprus is a test-case it would seem, not the “special case” Jeroen Dijsselbloem, the Dutch president of the Eurogroup of finance ministers, refers to. He added that future bank resolutions should bail in senior credit holders.

Many have perhaps forgotten that Denmark, with its own series of bank packages culminating in a bail-in approach, ultimately provided the test tube and the instruction manual.

No wonder euro account holders are dusting off the bottle of Valium, the 1990s vintage handed out to the euro’s back-slapping designers – the one that also sealed in the genie.

Having stopped short of allowing banks to fail as the free market would stipulate, and agreeing to provide a rescue fund (the European Stability Mechanism) for direct recapitalizations, it would appear that Europe’s flailing politicians are warming again to the principles of free market economics by encouraging investors to do the dirty work of punishing the weak banks.

This can only create more pressure on the ECB as lender of last resort and result in higher borrowing costs as the banks’ funding difficulties are passed on, attenuating the eurozone’s sclerotic trends. The prospect of growth this year vanished long ago, if not in Germany certainly elsewhere.

Transfer risk variation

And investors will worry that other states are about to face the same consequences, piling on yet more financial pain.

As Lorenzo Naranjo, assistant professor at the French ESSEC Business School and one of Euromoney’s Country Risk Survey contributors, says: “The problem goes beyond the size of the bailout or whether the ECB can save a country from default, the problem is very political. German taxpayers are reluctant to behave as a union in bailout states.”

“The problem is that one bloc wants to behave one way and the other bloc another, and this is where the transfer risk associated with the eurozone is evident.”

Indeed, the ECR survey highlights considerable variation in perceived riskiness for financial transfers across the eurozone, a region that had seemingly offered the safety of pooled risks.

Luxembourg, the second safest sovereign in the world out of 186 countries on ECR’s global risk data table (and within the top tier of ECR’s five risk categories), is still scoring a commendable 9.7 points out of 10 for transfer risk.

The Grand Duchy was not untouched by the 2007/08 crisis. Its cross-border ownership structure put paid to that, as Icelandic, Belgian and German länder operators with Luxembourg-based subsidiaries all rocked under the pressure of high-risk exposures.

However, transfer risk was never considered a substantial risk, per se, and neither is it now, according to the experts, due to its strengths and importance to larger states that offer security. The sovereign also scores 8.0 out of 10 for bank stability, two points above the eurozone average of 6.0.

As M Nicolas J Firzli, an ECR survey respondent and director general at the Paris-based World Pensions Council (WPC), says: “In the case of Luxembourg, early accession to the euro in 2002 had very little inflationary impact, as the Luxembourg franc was a traditionally strong currency, pegged to the Belgian franc and part of the [former] West German monetary sphere of influence – the Deutschemark bloc.