S&P threatens to Downgrade17 Eurozone Members - The Ultimatum

Patience for Standard & Poor's is wearing thin as it warned it may carry out an unprecedented mass downgrade of Eurozone countries, if EU leaders fail to deliver a convincing financial and political solutions on how to solve the region's debt crisis in a summit on Friday, according to Reuters.

It said ratings could be lowered by one notch for Austria, Belgium, Finland, Germany, the Netherlands and Luxembourg, and by up to two notches for the remaining nine placed under review, including currently AAA-rated France. Cyprus was already on downgrade watch and Greece already a 'junk' CC-rating.

President Nicolas Sarkozy and Chancellor Angela Merkel told reporters that their plan included automatic penalties for states that fail to keep deficits under control, and an early launch of a permanent bailout fund for euro states in distress. Whether this is good enough to resolve the crisis and restore investors’ confidence remains to be seen but any move of advancement are likely to bring cheer to all parties.

As the rating agency was widely criticised for their inertia during the Great Financial Crisis (GFC) in 2008, they would be adamant not to repeat the same mistake again by erring on the side of caution.

The Day When The Global Markets Throw A Party...

The U.S. market surged 4% and closed at their day highs while the Germany's DAX surged 5% and paced an advance across the Eurozone.

This came after a coordinated effort by European Central Banks, the Bank of Japan, the Bank of Canada, and the Federal Reserve to pledge liquidity to troubled banks by increasing swap lines that allow additional dollars to flow through to the banking system. Effectively, it is now cheaper for the EU to get liquidity because the Fed cut rates on dollars they lend to EU banks in exchange for their currency. Interestingly, this came a day after S&P's downgrade of the major financial institutions and for the time being, alleviated the fear of another round of credit crunch.

China, on the other hand, lowered the bank reserve requirement ratio by 50bps for the first time since 2008. Despite their battle for inflation and asset bubble, they are concerned that a downfall of the Europe, one of its major trading partners, will have a drag on its economy.

 

So the fact that banks around the globe now should have an easier time of tapping short-term funding in the credit markets is encouraging. But this might not be the long sought after magic bullet solution. If the issue is one of solvency and not of liquidity, we are merely kicking the proverbial debt can a little further down the road before we will have to pick it up one day.

S&P Downgrades Banks, What's Next?

Ratings agency Standard & Poor's has downgraded the long-term credit grades of 37 financial institutions worldwide. Among those who suffered the cut are Wall Street titans such as Bank of America, Goldman Sachs, JP Morgan and Morgan Stanley. Alongside are other established names like London-based Barclays, HSBC, and UBS.

S&P said its move reflects new criteria for banks, based on changes in market trends and government support. It evaluates banks based on economic and industry risks, bank-specific strengths and weaknesses, as well as "likelihood of external government or group support."

Downgrade is damaging for the banks as it can increase their borrowing costs and put further pressure on their shaky finances. BOA shares has dropped to a new low on concerns of its financial stability to withstand another downturn in the U.S. economy or further trouble in Europe. We are also concerned whether this will lead to another credit crunch as banks brace themselves for another round of recession.