July 5 (IFR) - The EU summit has not resolved the long-term
aspects of the eurozone crisis, and investors need to be
concerned about contagion and the ultimate health of core
countries Germany and France, Egan-Jones rating agency said.
The small but aggressive agency, which has issued sharper
ratings downgrades in Europe than its competitors, said the two
countries remain heavily exposed to the debt of other fragile EU
While attention has been focused on the current woes of
Spain and Italy, the agency believes that France and Germany
face serious and deep troubles of their own.
"From a credit quality stance, France and Germany are hurt
by what's coming out of the summit," said Sean Egan, the
agency's managing director.
"From our perspective, their credit quality is being used to
support the weaker countries," he said. "With the passing of
each quarter, the debt-to-GDP ratio has risen -- and we don't
see any change in sight for that trend."
He and the agency's ratings co-head Bill Hassiepen took
pains to underscore their belief that investors should watch the
two countries closely.
"France is the next stop on the train of worry," Egan said.
"The country's credit quality is likely to be on most investors'
radar over the next couple of months."
Hassiepen said he had detected "the recipe of a major
"From an investor's standpoint, there will be a massive
amount of pain," he said.
The agency has signaled its bearish point of view very
clearly in recent weeks.
It cut France's credit rating to BBB+ from A- last month,
partly on concerns that the government may need to prop up
ailing French banks; the assets of France's five largest banks
equal an astounding 282% of the country's GDP, Egan said.
In comparison, the Big Three rating agencies have been far
less aggressive on the country's sovereign debt rating; S&P
downgraded France to AA+ from AAA in January, while Moody's and
Fitch still have it at AAA -- seven notches higher than that of
Egan-Jones has also cut Germany's rating one notch to A+,
saying that the country will be stuck with massive uncollectible
receivables as a result of its sizable exposure to the southern
Germany can get back perhaps only about 50% of the loan
money it is owed, the agency said.
Moreover, Germany's debt-to-GDP ratio was 87% as of 2011,
while France's was 99.9%. These figures are much higher when
unfunded liabilities such as social security, pensions and
healthcare are included.
These unfunded liabilities will stifle growth for many
years, Egan says. As EU growth slows and unemployment rises,
budget pressures in France and Germany will rise.
A GROWING BURDEN
What's more, Germany and France carry much of the burden of
bolstering other eurozone members through their contribution to
the European Stability Mechanism (ESM).
According to data released by the member states, the first
two tranches will be paid in 2012, another two tranches in 2013,
and a final tranche in the first half of 2014.
According to European Commission data, the third- and
fourth-largest contributors are Italy and Spain, accounting for
30% of the ESM's funding.
If those two nations needed a bailout themselves, the agency
said, then much of the rest of the funding burden will fall on
Germany and France, which are already the top contributors at a
This is one reason, Egan says, why investors need to worry
about the contagion risk and focus on a wider problem than
merely Spain and Italy.
"The market often times (focuses) on one or two things at a
time", before turning its attention elsewhere, he said.
The eurozone debt crisis has already spread through Greece,
Ireland, Portugal and Cyprus, with these nations asking for
bailouts. Spain has formally asked for a bailout for its banks.
The banking sector looks even worse than the sovereigns'
credit profile, with banking systems larger than the sovereign.
Hassiepen said that several Italian banks, such as Unicredit
and Banca Monte dei Paschi di Siena, are already technically
"Those two alone could pull the entire euro system down," he
said, adding that another, Intesa Sanpaolo, is "barely holding
The core eurozone banks have heavy exposure to all the
unsteady peripheral members, helping to accelerate their
weakness in asset quality and capital. Their banking systems are
leveraged with debt and, according to the IMF, European banks as
a whole are leveraged at 26 to 1.
Deutsche Bank and the three largest French banks all have
so-called tangible common equity ratios of less than 3%, meaning
that a small drop in the value of their assets could wipe out
all their equity. These institutions will need a substantial
amount of capital to get equity ratios back to a more acceptable
Disruptions in global capital markets and likely deposit
runs could still put pressure on funding. The banking system is
"far more important for funding operations in Europe than it is
in the US," Egan said.
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