Portugal could require $107 billion bailout from EU-IMF

The collapse of Portugal's government raised the likelihood of a bailout and set back efforts to beef up a financial rescue package for troubled European economies.

European leaders today postponed the approval of a beefed-up financial rescue package to allow some members to get their internal politics in order, bringing the euro zone's path to economic recovery into greater question.

Finland and Germany are facing critical elections in the next few weeks and their leaders are finding it increasingly hard to continue bailing out fellow European Union members. But the headline obstacle for EU chiefs to approve the “grand bargain” was yesterday's collapse of the Portuguese government over unpopular austerity measures, which brought it a step closer to joining the ranks of Greece and Ireland in requesting funds.

A bailout for Portugal would likely be on the order of $107 billion, Eurogroup chief Jean-Claude Juncker told journalists in Brussels on the sidelines of the two-day summit that continues Friday. The EU and International Monetary Fund (IMF) have already lent $120 billion to Ireland and $156 billion to Greece.

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Portugal's collapse, and the EU's inability to find quick solutions to mounting problems, sent jitters across world markets.

EU leaders were expected to produce concrete measures to build confidence that the worst of the European debt crisis is over, including by increasing the effective lending capacity of the temporary bailout fund to $624 billion. That would be enough even to rescue Spain, the EU's indebted fourth-largest economy. The amount would remain in place until a permanent EU rescue fund of $993 billion is created by 2013.

But after today's meeting failed to formalize the package, analysts say, it appears all but certain that Europe is merely buying time before more countries need a bailout and at least one of them inevitably defaults on its debt, Greece being the prime candidate.

“I think a default in unavoidable. The rationale has been one of providing liquidity, denying insolvency, and in doing that they are buying time,” says Citigroup senior European economist Giada Giani.

Portugal collapses

And now a bailout for Portugal looks increasingly likely, too, after the government collapsed. Prime Minister José Sócrates resigned, as he had promised he would, when parliament rejected his proposed fiscal reforms Wednesday.

The measures would have increased taxes for pensioners, personal incomes, and corporations. The measures also sought to trim welfare programs, jobs, and public transportation subsidies. But divisive internal politics have stalled meaningful reforms.

“Every opposition party rejected the measures proposed by the government to prevent that Portugal resort to external aid,” Mr. Sócrates said in a televised address late Wednesday. He will likely remain as government caretaker and indicated he plans to run again in the next election that has to be called within 55 days. Some speculated that his resignation could be a political maneuver to blame opposition parties for forcing a bailout.

The governing Socialist party's coalition partners joined the main opposition party in rejecting measures intended to reduce Portugal's deficit-to-GDP ratio from 7.3 percent in 2010 to 4.6 percent this year, after a record 9.3 percent in 2009.

Ratings agencies continue to downgrade the country’s credit, which is now four notches from junk status. Unemployment has risen to a record 11.2 percent, and the central bank expects the economy to shrink 1.3 percent this year.

In such countries as Portugal, warns Giada Giani of Citigroup, "the level of debt is so high that no matter how much you introduce measures, there is vicious circle." Austerity measures are likely to also undermine job creation and economic growth. Indeed, the Greek and Irish economies continue to shrink despite EU respite.

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