PPPs, the banks and Portugal's external debt crisis

4.4  PPPs and the Portuguese banking system

Portugal’s excessive external debt reflects, in part, the external funding of the local banking system which became highly leveraged. Liabilities to non-residents rose from €155 billion at the end of 2008 to €171 billion at the end of 2010 (including €41 billion of emergency funding from the ECB), 42.2% of the Gross External Debt.

Portuguese banks were enthusiastic about project financing, which promised stable long term income for manageable risks, provided that long term funding could be secured.  Before the Euro was introduced in 2000, the EIB provided the long term Escudo funding needed and local and international banks took project and construction risk by issuing payment guarantees in favour of the EIB. Later, Portuguese banks continued heavily involved in project finance, even when credit spreads dipped below one percent. The crowding out effects were also severe.

 When foreign banks retracted sharply after 2008, local banks stepped up their underwriting. But when bank ratings were cut below the levels required by the EIB for its guarantors, bank guarantors were required to pay additional fees to the EIB. 

As Portugal and its banking system faced ever rising funding costs and eventually lost access to the international financial markets in 2010, the large portfolio of thinly-priced project finance loans caused serious asset-liability and earnings problems, leading banks to sell some PPP loan assets at deep discounts in order to deleverage. Net interest margins on the project finance loans have become negative and a few PPP project have become distressed, although others have benefitted from the generous renegotiations mentioned above.  In the future, the IMF will require that the annual review of PPPs and concessions  be “accompanied by an analysis of credit flows channelled to PPPs through banks by industry and an impact assessment on credit allocation and crowding out effects” (IMF Update 1-September 2011).

4.5   Fiscal risks, PPPs and Portugal severe external debt crisis

According to IMF-FAD (2009) “A survey of selected countries confirms the transmission mechanisms from the financial crisis to PPP programmes”. However, there is no mention of the reverse causality between excessively large PPP programmes and a country’s sovereign rating.

The causal relationship between PPPs and Portugal’s external debt problem can be described as one of quantity and also of quality. In quality terms, the trends towards availability payments and frequent renegotiations damaged the Value for Money and productivity of the projects, due to over investment in costly infrastructure now plagued with excess capacity. But sometimes traffic takes years to ramp up and one or two weak projects need not be a cause for alarm.

The critical problem has more to do with the sheer quantity of PPP transactions and with the negative synergies and duplication which have now, for example, lead the Government to cancel plans for a third north-south motorway nearly parallel to the A1. In addition, the increasing reliance on PPPs promoted the illusion of budget discipline that was in fact achieved by removing a sizable portion of public investment from the visible direct public expenditure and direct public debt. 
Mariana Abrantes de Sousa 
Excerpt from article on "Managing PPPs for Budget Sustainability - Lessons from the Portuguese Experience"