By: Dr. Mike Campbell

The whole point of the financial bailouts that have been granted to Greece, Ireland and lastly, Portugal is that they are to provide a means to ensure that these nations can meet their debt obligations and avoid a default on the repayment of any government bonds which fall due. Governmental bonds are a tool which all modern democracies use to raise funds to pay for a multitude of projects. By going to the markets, governments can borrow (usually) cheap money to fund these projects today, rather than needing to have the cash in hand to pay for a project upfront. From the perspective of the markets, national debt has always been a safe bet (with one or two well-known exceptions) and they are fairly certain that they will receive their investments back plus the scheduled interest. They provide a predictable, low risk element to an investment portfolio.

The ratings agencies are charged with playing the role of bookmakers to the investment community. If they determine that a corporate or government bond is of investment grade, then the interest that the issuer needs to offer to raise capital is lower. Conversely, if the agencies think that the risk associated with an issue is higher, the rating given is lower and the yield that the issuer gives to attract investors goes up.

In the sovereign debt crisis, ratings agencies were concerned that Greece, Ireland and Portugal may be unable to repay their debts – this forced yields up to such a point that each nation in turn had to accept an EU/IMF bailout since they could no longer afford market rates. The bailouts came at a reduced (but still significant) interest rate and strings attached that the creditors hoped would ensure fiscal rectitude in the recipient countries.

Standard and Poor’s has joined Fitches in suggesting that a plan whereby creditors allow much of their Greek bond debt to roll over when it becomes due (in essence, taking out fresh bonds) would be considered as a technical default. Allowing Greek debt to roll over would give them more time to get their house in order, but it this were to be at the expense of a technical default, it could be catastrophic.