The current crisis calls for concerted action at both the European and the international level. The EU has taken a series of bold measures to restore confidence, stability and sustainability in the financial markets.
Portugal has recently come under increasing pressure in financial markets, reflecting rising concerns about the sustainability of its public finances. Starting from a structurally weak economic basis, the current crisis has had a dramatic impact also on Portugal's public finances, which ultimately led to a sharp increase in sovereign spreads, i.e. the difference in the interest rate the country pays compared to that of the Germany, which serves as a benchmark in the euro area. Amidst consecutive downgradings by credit rating agencies of Portuguese sovereign bonds, the country became unable to refinance itself at rates compatible with long-term fiscal sustainability. In parallel, the banking sector which is heavily dependent on external financing, was increasingly cut off from international market funding and has been increasingly relying on the Eurosystem for funding.
In view of this severe economic and financial disturbance, Portugal officially requested financial assistance from the European Union, the euro-area Member States and the International Monetary Fund (IMF) on 7 April 2011 with a view to supporting a policy programme to restore confidence and enable the return of the economy to sustainable growth, and safeguarding financial stability in Portugal, the euro area and the EU. The loan agreement was approved by the Council of the EU and signed on 17 May 2011. The board of the IMF approved the arrangement under its Extended Fund Facility on 20 May 2011.
The economic and financial adjustment programme aims at restoring confidence in the sovereign and in the banking sector and supporting growth and employment. It foresees comprehensive action on three fronts:
First, deep and frontloaded structural reforms to boost potential growth, create jobs, and improve competitiveness (including through fiscal devaluation). In particular, the Programme contains reforms of the labour market, the judicial system, network industries and housing and services sectors, with a view to strengthening the economy's growth potential, improving competitiveness and facilitating economic adjustment.
Second, a credible and balanced fiscal consolidation strategy, supported by structural fiscal measures and better fiscal control over Public-Private-Partnerships and State-Owned Enterprises, aiming at putting the gross public debt-to-GDP ratio on a firm downward path in the medium term. The authorities are committed to reducing the deficit to 3% of GDP by 2013.
Third, efforts to restore market confidence in the Portuguese banking sector with a focus on safeguarding the financial sector against disorderly deleveraging and recapitalising banks through market-based mechanisms supported by back-up facilities.
The programme covers the period 2011-2014. The financial package of the programme will cover financing needs of up to EUR 78 billion for possible fiscal financing needs and support to the banking system. The total support provided by Portugal's European partners will amount to up to EUR 52 billion (up to EUR 26 billion from the European Union under the European Financial Stabilisation Mechanism (EFSM) and up to EUR 26 billion from the European Financial Stability Facility), and a loan from the IMF of around EUR 26 billion under an Extended Fund Facility will also be provided. The disbursement of the assistance is conditional on the implementation of the policy measures and the achievement of targets agreed under the programme.
There are three different entities that grant financial assistance to Portugal, namely the EFSM, the EFSF and the IMF. Each will lend one third of the total sum, i.e. up to € 26 billion.
Disbursement of the assistance over the programme period is conditional on the implementation of the policy measures and the achievement of targets agreed under the programme, to be verified by means of quarterly reviews by the Commission in cooperation with the IMF and in liaison with the European Central Bank (ECB).
The assistance will be provided on the basis of a three-year policy programme for the period 2011 to mid-2014, as laid down in the Memorandum of Understanding agreed between Portugal and the EU.
The economic and financial adjustment programme includes:
Disbursements envisaged over the rest of the programme will be subject to the positive conclusion of quarterly reviews by the Commission in cooperation with the IMF and in liaison with the European Central Bank (ECB).
Portugal participated in the past in loans to Greece and to Ireland, with a share calculated according to its quota in the capital of the European Central Bank. With the signing of its own loan agreement, it no longer participates in these assistance programmes.
The interest rate of the EFSM (€ 26 billion) and EFSF (€ 26 billion) loans depends on the prevailing market rates at the time of each drawdown because the EU for the EFSM and the EFSF itself have to borrow from financial markets in order to lend to Portugal.
Under current conditions, for the EFSM loan, a margin of 215 basis points is added to the EU's cost of funding while, for the EFSF, a margin of 208 basis points, as well as the costs from its cash buffers, is added to the EFSF cost of funding. As a consequence, the exact rates are known only after the EFSM and EFSF have raised the money. The interest rate charged to Portugal for the first tranche of the EFSM will be 5.0 % for a 5-year bond and 5.7% for a 10-year bond.
While the conditions of the EFSM and EFSF are effectively similar to those of the IMF support, the IMF charges variable rates rather than fixed rates like the European lenders. For this reason the headline rate charged by the IMF appears to be lower.
The disbursements of the tranches occur on a quarterly basis provided that all the conditions laid down in the Memorandum of Understanding are fulfilled. For each tranche, the EFSM and the EFSF will borrow from the markets. The total first tranche from the European lenders and the IMF amounts to € 18.4 billion and covers the period up to September 2011. The first payments were made in early June 2011.
The EFSM and EFSF loans have an average maturity of 7.5 years. The EFSM will issue bonds with maturities ranging from 2 to 15 years while the EFSF should issue mainly in standard benchmark maturities of 5 to 10 years. Each loan will have to be repaid in full at its maturity.
The European Financial Stability Facility (EFSF) can borrow in the markets under guarantees of up to €440bn by euro-area Member States and on-lend the proceeds. The European Commission, on behalf of the EU, and the EFSF coordinate their market activities closely.
The EU (EFSM) and the EFSF have revised their issuance calendars – previously established on the basis of the Irish programme only – to include financial support to Portugal. The calendars are closely coordinated to ensure smooth market operations over the entire duration of the support programmes.