If the eurozone fails to present a truly viable plan to resolve the long-running sovereign debt crisis by the conclusion of this week's emergency EU summit, all of its members, including triple-A rated Germany and France, could see their credit ratings slashed by one or even two notches, according to Standard and Poor's. One could hear the collective gasps of shock around the world following yesterday's announcement. Markets later tumbled in Asia and Europe in response. Angry politicians and pundits asked: How could S&P do this now, just when the eurozone looks like it is finally getting it's act together?
The reason is simple – eurozone leaders aren't even close to solving this crisis. The "new fiscal compact" that Germany and France plan to reveal at the emergency summit this Friday is weak and will most likely fail to put an end to this seemingly endless crisis. At this point, unless the European Central Bank steps up to become the eurozone's lender of last resort, the compact will be seen as a gun without ammunition. S&P hopes that the threat of a massive downgrade of the eurozone will force this disparate bunch to finally act collectively to solve this crisis.
S&P waited till the end of U.S. trading on Monday to announce that they had put 15 members of the eurozone on negative credit watch. Only Greece, which has a junk credit rating, and Cyprus, which is already on negative credit watch, were spared from a special report from the credit rating agency explaining their move. While a downgrade of some of the eurozone's members was expected this month, most notably France, it came as a bit of a shock that S&P would put the entire eurozone on the chopping block, including fiscally prudent countries like Austria, the Netherlands, Finland and tiny Luxembourg.
S&P's downgrade on the eve of a critical EU summit this weekend is no coincidence. The threat, hanging like the sword of Damocles over the head of the members, was meant to get their attention.
"We believe that the risks of a deepening and broadening of the crisis have risen markedly and the repercussions of this development will in our view be felt across the monetary union, considering the interconnectedness of the EMU economies and financial markets," S&P wrote in a note explaining its move.
It doesn't get any clearer than that. There have been around 23 high profile meetings among eurozone members since the crisis first broke out in the spring of last year to discuss ways to put this issue to bed. Unfortunately, all this talking has failed to get the members to think collectively as one cohesive unit. There is still an "us versus them" mentality among the eurozone members. The "fiscally prudent" nations from Northern Europe, which have benefitted from a weak euro and expanded trading zone, are unwilling to absorb the consequences of that perk by aiding the "profligate" southern European countries that have racked up tons of debt, due, in part, from buying goods and services from the north.
