Fitch Ratings today bestowed a ‘AAA’ rating on the European Stability Mechanism (ESM) that began its operations today and replaced the temporary European Financial Stability Fund (EFSF). Fitch’s rating is based on the following strengths:
- Exceptionally strong mechanisms for exercising callable capital, including an ‘early warning system’ (EWS) to ensure timely management of its capital needs
- Relatively high capitalisation ratio and the requirement that paid-in capital/reserves will always be equal to at least 15% of outstanding debt
- High-quality and liquid assets that will always be equivalent to at least 12 months of maturing ESM liabilities
- The ESM’s preferred creditor status (PCS)
- The strength of its governance in terms of management as well as the composition of the board of governors that underscores the strong political support for the ESM
- Prudent investment guidelines adopted by the ESM for the management of its reserves and capital.
This is all well and good, and mirrors the ‘AAA’ rating that Fitch had assigned to the predecessor EFSF. Still at issue is where the funds will come from to pay for the bailouts of Irish and Spanish banks rescued by the EFSF. Ireland currently owes €64 billion and Spain is about to take €40 billion to rescue its banks. Both Ireland and Spain expect to transfer a good share of their bailout packages to the ESM, but Germany and others have strongly resisted the transfers. The ESM is supposed to have a bank supervisor under the control of the European Central Bank in operation by the end of this year, but that may not happen.
The eurozone now has a €500 billion firewall that’s rated as a better bet than U.S. Treasuries. Could be true.