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Debt crisis warning for Bermuda

A leading local investment advisory firm has warned that Bermuda’s sovereign debt risk a measure of how well it is able to service its $1.4 billion government debt is worse than most industrial nations and the Island is “next in line” to join the Spain, Portugal, Ireland, Iceland, Greece and Spain the so-called “PIIGS” club whose members are facing severe debt crises.

And Anchor Investment Management had also reduced its forecast for Bermuda’s gross domestic product (GDP) and predicts the Island will remain in recession through 2013, with the economy shrinking by a further 1.4 percent this year, down from an estimated -0.6 percent, and 0.4 percent in 2013.

Anchor noted that Bermuda’s “level of debt to GDP at 25 percent is an often quoted figure and one frequently used in an attempt to compare Bermuda to various countries”.

The firm said: “However, we believe it is far too simplistic to simply use a debt to GDP ratio as a gauge, and that a myriad of factors need to be considered when assessing sovereign risk.”

Using a measure used by an independent investment research board called the Macro Research Board, Anchor said it analysed six risk factors including economic foundation, economic prospects, banking system vulnerability, fiscal flexibility, external dependence, and monetary flexibility in ranking 23 Organisation of Economic Cooperation and Development member countries, including Bermuda.

“What we have found is that Bermuda’s risk rank is worse than most OECD countries in our universe and ahead of only Spain, Ireland, Portugal and Greece,” Anchor said in its report. “All four of these countries have seen a significant increase in their cost of debt over the past five years due to investors default concerns.

“This leads us to believe that serious consideration should be given to Bermuda’s sovereign debt level and its potential for a debt crisis if current debt trajectories are maintained. Policymakers in Bermuda should be working toward reducing these risks and improving public sector finances to stabilise or improve the Island’s fiscal situation.”

Anchor said that its rankings gave Bermuda an aggregate ranking of 14.0, fifth worst of the 23 countries.

Norway was best with a ranking of 6.6, while Greece was worst with a ranking of 19.2. The US had a ranking 9.9, tenth best.

Bermuda was especially hurt by its raking for economic prospects worst on the list and banking system vulnerability, also worst. This was offset by a relatively high score for economic foundation.

The report said of Bermuda’s economic prospects: “Bermuda’s economic prospects look grim in comparison to nations ranked. Its contracting labour force, low profitability and lower competitiveness pose a risk to its ability to service escalating debt levels.”

The report concluded: “It should be clear that assessing sovereign credit risk is not simply a process of comparing debt ratio levels.

“If one compares Bermuda’s risk rank to its current credit rating it is clear, from this analysis, that Bermuda is more likely to get additional downgrades in the future. We would not be surprised to see it ultimately be downgraded to BBB over the intermediate term. Further rapid escalations in the debt level could tilt Bermuda even further down the scale.”

A debt rating downgrade makes it more expensive to borrow money as lenders demand more interest to offset the increased risk of default on the debt. Bermuda now pays around $85 million a year on interest on its debt, or nine percent of Government revenues.

“As it currently stands, Bermuda is the next country in line to join the PIIGS club. The countries of Greece, Spain, Ireland and Portugal still show up with large credit risks and it is likely to take many years of harsh restructuring to rectify this. Without a credible plan to address the debt level we fear the sovereign debt risk will only escalate further and push Bermuda closer to this circumstance.”

The report noted that Government had defended increased spending as a means of spurring an economic recovery.

It added: “Unfortunately increased government spending in an environment of falling revenues leads to increases in government debt. Followers of Keynesian economic theory would argue that it is the government’s role to bridge the gap between aggregate supply and demand throughout the business cycle.

“While we are more Austrian in nature (free market oriented), the theory has merit provided government spending has a positive multiplier in the economy which stimulates the private sector. Unfortunately for Bermuda, we are not seeing the trickle down effects in the rest of the economy. 2012 will be the fourth consecutive year of negative economic growth.

“As a result debt levels have increased significantly from just $255 million in 2006 to $1.42 billion currently. In 2006 the government of Bermuda ran a budget surplus of $40 million. Since that time flat revenues and increases in spending have led to annual budget deficits of nearly $200 million.”

Bermuda is heading towards a debt crisis if it maintains its current debt trajectories, warns Anchor Investment Management.

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Published December 15, 2012 at 8:00 am (Updated December 14, 2012 at 11:47 pm)

Debt crisis warning for Bermuda

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