PIIGS will still fly

Why investors in public-private partnerships say they will not be deterred by fears of sovereign defaults.

In Europe the possibility of sovereign default is on everyone’s lips given the well-publicised problems in Greece. For private sector participants in public-private partnerships (PPPs), it’s a pertinent issue.

Here’s why. In a concession agreement, a government takes on a long-term obligation to make payments to the concessionaire. If it were to default on these payments, there would be two likely outcomes: 1) no private sector parties would be likely to enter into such an arrangement with that government in future; and 2) a default would result in the government having to repay the outstanding finance, thus exacerbating its credit difficulties.

Increasingly, investors in European PPPs have been moving out of the mature UK market and into other European markets with blossoming PPP programmes. These include countries such as Portugal and Spain, part of the grouping of five countries unflatteringly referred to as the PIIGS (Portugal, Ireland, Italy, Greece and Spain) – so-called because of the profilgate scale of the debt they face. It invites the question as to whether this geographic realignment is being made at the wrong time. 

However, anecdotal evidence from European PPP investors suggests there is no great sense of alarm. And the reason why is that they believe governments would be prepared to go to any lengths to avoid defaulting – note, they say, the austerity measures recently introduced in Spain, Portugal and elsewhere (and the massive Euro zone bailout of Greece).

The conclusion is that governments would rather slash public spending, hike taxes and reach for anything else in their toolkits rather than default. Angry rioters on the streets of European capitals might perversely offer some comfort to those wanting to enter long-term financial contracts with European governments – it shows that mollifying public sentiment is coming second to fiscal responsibility.

Two qualifications should perhaps be made, though. One, there are still those who view the prospect of a European sovereign default as a real threat. Just because it shouldn’t happen in theory doesn’t mean it won’t in reality. Two, investors in funds may not buy into their fund managers’ arguments that certain countries are a safe bet.

One fund manager said he personally would have no qualms about entering long-term PPP contracts in debt-afflicted Southern European countries. But would he actually enter such an arrangement right now? “No,” he replied. “I’ll wait until things calm down.”