Political inertia complicates Belgian debt fears - June 7, 2010

By Stanley Pignal in Brussels

Anxiety is mounting in financial markets that a prolonged bout of political uncertainty in Belgium following national elections next Sunday could prevent decisive action to tackle the nation's debt mountain that threatens to turn it into "the Greece of the north".

Interest rates on 10-year Belgian government bonds jumped from 3.15 to 3.50 per cent last week and investors are demanding a mounting premium to hold the debt over corresponding German paper.

Belgium's debt is currently at 99 per cent of its gross domestic product, the highest in the eurozone after Greece and Italy, and is forecast to exceed GDP by the end of the year.

Yet no political party is campaigning for an explicit belt-tightening mandate. Despite rising unemployment and sluggish growth, the economy has barely featured in the campaign.

"In other European countries you see cuts in public spending. In Belgium that is not happening, and it won't happen without a government," says Philippe Ledent, economist at ING in Brussels.

Belgian politics is, instead, dominated by an arcane institutional dispute involving the demarcation of electoral districts in the suburbs of Brussels - a debate that even most Belgians openly admit baffles them. The quarrel brought down the last government, a right-leaning five-party coalition led by Yves Leterme, in April and feeds into a larger debate about devolving more power to the regions.

Officials play down the market concerns. Anne Leclercq, head of the Belgian debt-issuing authority, blames broader eurozone debt worries and "hyper-volatile markets" for the jump in interest rate spreads last week.

"The overall level of our sovereign debt is indeed high, but the budget deficit is good," she says. Deficit projections for 2010 and 2011 are around 5 per cent - more in line with Germany than with those countries at the heart of the eurozone debt crisis.

Moreover, the Belgian economy runs a trade surplus, which makes financing debt easier. Household debt is among the lowest in the eurozone. And Belgium has a solid track record of paying down high debt, Ms Leclercq points out.

However, Belgium's climb out of recession has been slow, with GDP rising by just 0.1 per cent in the first quarter, below the eurozone average. "If this trend continues, Belgium's fiscal consolidation plans may turn out to rely on overly optimistic growth projections," says Emilie Gay of Capital Economics. "There is no doubt that Belgium is the weak link of the north," she wrote in a note last week.

The structure of its debt could add to its problems. Eighty two per cent of short-term paper is owned by foreigners. It has relatively short maturity - under six years - meaning Belgium must return regularly to tap the markets for fresh funds.

Polls show separatist parties faring well in Dutch-speaking Flanders, which will make the ensuing task of building a coalition with Francophone Walloon partners trickier even than the last election in 2007, when it took 284 days for a permanent government to emerge.

Parties on all sides of the political divide say a solution to the communitarian issues, including a new power-sharing agreement between the regions and the federal government, must be brokered before a permanent government can be formed. That is unlikely to happen before September, even if an interim government is quickly formed to handle the rotating presidency of the European Union that Belgium will inherit for the second half of the year.

The rise of separatist parties in Flanders does not spell an imminent break-up of the country, but it makes Belgian politics even more unpredictable than before. If the polls are borne out on Sunday, it is not clear who will have a mandate to become prime minister.

"Political uncertainty in nothing new in Belgium," admits Ms Gay. "It's just that we've never had it at the same time as a sovereign debt crisis."