S&P Puts 15 Euro Nations on Downgrade Watch

Standard & Poor’s put Germany, France, and 13 other euro-zone nations on review for a credit rating downgrade yesterday, saying “continuing disagreements among European policy makers on how to tackle” the region’s debt crisis risk damaging their financial stability.

Hot Feature: ISM, Commerce Department Reports Illustrate Slowing Growth

The move comes four months after S&P cut the U.S. to AA+, from AAA, saying “extremely difficult” political discussions over how to trim the nation’s $1 trillion-plus budget deficit had tainted its credit quality.

Bondholders are questioning the timing of  S&P’s move, as European Union leaders are set to meet December 8 and 9 in Brussels, where Germany and France will present a plan for a tighter fiscal union that holds member nations accountable to the group for their budgets.

Markets were up yesterday on hopes for Europe ahead of the summit later this week, but moved downward after the Financial Times reported the possibility of S&P placing euro nations on downgrade watch.

Grades may be lowered by one level for Austria, Belgium, Finland, Germany, the Netherlands, and Luxembourg, and as many as two levels for the other government if the summit does not yield a satisfactory result, S&P said. If S&P does downgrade all the nations, more than $8.1 trillion of government debt would be affected.

“The upcoming European summit,” S&P said in a report, “provides an opportunity for policy makers to break the pattern of what we consider to have been defensive and piecemeal measures to date, overcome individual national interests and preferences, and advance a credible response to the crisis that would go far towards restoring investor confidence.”

The S&P’s decision to tie ratings to the outcome of the summit “highlights the problem that rating agencies increasingly are assuming a political role,” said European Central Bank Governing Council member Ewald Nowotny of Austria.

“There is no doubt that rating agencies have an economically important role to play, but the way in which this is happening at the moment is increasingly problematic as it creates pro-cyclical effects, that means effects that make the crises worse,” Nowotny said yesterday in Vienna.

In a joint statement, the governments of France and Germany said they “recognize” the move by S&P and “affirm their conviction that the common proposals made today will strengthen coordination of budget and economic policy, and promote stability, competitiveness and growth.”

Downgrades of France and Germany would affect the rating of the now 780 billion-euro European Financial Stability Facility. If the EFSF has to pay higher interest on its bonds, it would cut into funding for indebted nations.

The outlook change is “disastrous for Europe,” said Mark Grant, a managing director at Southwest Securities Inc. in Fort Lauderdale, Florida. “Every bank now in Europe is also going to be downgraded as the sovereigns are downgraded, many corporations in Europe will be downgraded, the euro is going to come under tremendous pressure worldwide…There’s just a whole lot of dominoes that are going to fall because of this report.”

The S&P report cited “high levels of government and household indebtedness across a large area of the eurozone” and the increased risk of a recession in 2012 as reasons for its negative outlook. The firm said economic output in Spain, Portugal, and Greece will likely fall next year, and that there’s now a 40 percent chance of a decline for the entire region.

Don’t Miss: Oil Prices Move Higher as Tensions With Iran Mount

However, Europe may still find a credible backstop in the form of a “full fiscal union,” which German Chancellor Angela Merkel and French President Nicolas Sarkozy will push at the summit this week, or in a “much larger commitment” by the ECB to support sovereign-debt markets, said Goldman Sachs in a November 30 research note.