Portugal Stability a Serious Concern, Warns EC President

The president of the European Commission, José Manuel Barroso, has tried to quell market fears over Portugal's political instability despite saying that a raft of ministerial resignations could undermine efforts to build financial credibility.

According to a statement , the EC and Barroso were "personally are following the political crisis in Portugal with very serious concern".

"The initial reaction of the markets shows the obvious risk that the financial credibility recently built up by Portugal could be jeopardised by the current political instability," said the EC President.

"If this happens it would be especially damaging for the Portuguese people, particularly as there were already preliminary signs of economic recovery."

Portugal is battling rising joblessness and a deepening recession. The country has cut spending and raised taxes to meet the terms of a €78bn (£66.2bn, $102bn) rescue plan.

'Delicate Situation'

At the beginning of May, Prime Minister Pedro Passos Coelho announced a set austerity measures to generate savings of about €4.8bn by 2015.

However, Portugal's political stability, in tandem with Greece's financial health, hit European markets in early trading on Wednesday after investors became concerned over a stalled economic recovery.

Investors fear that Portugal's coalition government is on the brink of collapse after foreign minister Paulo Portas resigned on Tuesday, only 24 hours after influential finance Minister Vitor Gaspar quit his job.

Portas presented his 'irrevocable' resignation to the Passos Coelho, after expressing his deep discontent with the Gaspar's replacement Maria Luis Albuquerque.

"This delicate situation requires a great sense of responsibility from all political forces and leaders," said Barroso in his statement.

"The political situation should be clarified as soon as possible.We trust that Portuguese democracy will deliver a solution ensuring that the sacrifices the Portuguese people have made until now will not have been in vain."

Containing Market Impact

Meanwhile, a German government spokesperson tried to calm the markets, by saying that Portugal has taken impressive steps in overcoming the sovereign debt crisis and that the country is expected to stick to its reform programme.

In the immediate aftermath of the resignation, Passos Coelho, leader of the Social Democrat Party (PSD) said in a televised speech that he does not intend to step down and demanded support from the rest of the Democratic and Social Center Party (CDS) party in maintaining the coalition government.

However, analysts say that if Passos Coelho did step down it could have a significant, but contained, market impact.

"We think the market impact of this political crisis is likely to be very significant for Portugal but less so for other periphery countries," said Barclays' analysts in a research note.

"We think the decision of the CDS leader to step down is likely to trigger a sell-off in the Portuguese bond markets. However, we do not anticipate the decision being a critical event for the rest of the euro area, for at least two reasons."

Analysts say that even if the 'troika' programme stalls, there are no immediate large cash needs for the Portuguese Treasury, which has sufficient liquidity to meet the large bond payments of €9.7bn due in September 2013

They add that there are no other large payments are due for the rest of the year.

In the research note, analysts say that, even if elections are called early, recent polls signal a likely victory for the socialists.

This, in turn, might require the support of CDS to obtain an absolute majority.