Why Portugal Might Be The Real Trigger That Causes The Eurozone To Spiral Out Of Control

Portugal has not seen the same reprieve on short-term (here, 3-year) borrowing costs since December as have Italy and Spain.

[credit provider=”Bloomberg”]

Portugal is stealing some of Greece’s limelight right now, with yields on three-year government bonds topping 21% today.That’s a record high for the troubled country, which is struggling to pay off a mountain of debt with an economy that’s expected to contract by 3.1% this year.

Portugal received a €78 billion ($102.6 billion) bailout package from the European Union, European Central Bank, and International Monetary Fund last year, but now analysts and politicians are speculating that it will need at least another €30 billion ($39.5 billion) in order to stave off a credit crunch, at least according to a powerful lobbyist who has been involved in the bailout talks (via Business Report).

Continuing tight credit conditions and worsening economic prospects “are increasing the perception that Portugal might not be able to avoid a default.”

What’s more, Portugal is (unsurprisingly) denying any possibility that it will ask for or get more aid. “I can reaffirm that Portugal will not ask for a renegotiation of its bailout, we will neither ask for more money nor for more time,” said Prime Minister Pedro Passos Coelho earlier this week.

While on some level it is crucial for the country to sustain the idea that it is meeting its debt obligations until it has more aid in the bag, the truth might be that the gig is up; it’s just unlikely that Portugal will continue to meet its debt and deficit goals amid mounting pressures, even if it complies with the troika plan.

This is much the same psychological development that took place in Greece last summer, as EU politicians realised that a managed default might be the best way to return Greek debt levels to sustainability.

Incidentally, Portugal’s debt crisis is caused by much the same problems as Greece—overspending and vague public-private sector cooperation that encouraged investment bubbles. Not to mention that the Portuguese, tired of austerity and deflation, might eventually choose default as the most friendly alternative to a decade or more of recession.

But investors are not truly concerned about Portugal alone; its 2010 GDP was just €172.7 billion ($227 billion) according to Eurostat estimates. Instead, Portugal could be the instigator of larger problems. According to Global Post, French banks like Credit Agricole, Societe Generale, and BNP Paribas own a combined €6.3 billion ($8.3 billion) in Portuguese debt, while troubled Greek bank Commerzbank owns €1.4 billion ($1.8 billion).

While a Greek default may already be priced in, a Portuguese one likely is not. If Portugal goes, it might be the trigger for a downward spiral of contagion that would be difficult to stop.