Gross Indebtedness - Some sample countries | Image source & courtesy - livemint.com | Click for image.
The next tsunami
Gross debt (government, private, corporate) of the Greece, Hungary, Ireland, Italy, Portugal, Spain, UK, US are all above 200% – going up to more than 1000% in case of Ireland.
These leaves the governments with a tough choice.
Analysts are already pointing to a policy dilemma: If these countries cut back on government borrowing, growth will suffer. But if they don’t prune their deficits, the bond market, spooked by the higher borrowing, will push up interest rates, which, in turn, will impact growth.
For the banks, much depends on what happens to the housing sector. US analyst Meredith Whitney has said the US is sure to see a double dip in housing, which will force credit writedowns in banks and impair capital. Bank lending in the US has still not picked up, which means that the US consumer is wary of taking on more debt. That is not difficult to understand, given the job losses and the fact that household debt to GDP ratios are still very high.
Societe Generale SA economist Albert Edwards, admittedly an unabashed bear, points out: “Household leverage has returned to 94% of GDP from its peak of 96% in both 2007 and 2008. But consider this: At the peak of the Nasdaq bubble, household leverage was just shy of 70%. There is a very, very long way to go.” (via Round 2 of crisis in developed world to mar global recovery – Economy and Politics – livemint.com).
The lure of a welfare state
So, what happens if a borrower(s) default on repayment? There is insurance for non-repayment.
Going insurance rates for repayment risk, knowwn as credit default swap (CDS) are indicative of the market perception. What exactly do CDS rates signal?
Explains a journalist,
Higher spreads on credit-defaults swaps indicate sellers have raised the price of guaranteeing protection because they perceive the likelihood of a default as higher. A spread of 97 means it would cost about $97,000 to buy protection on $10 million in U.S. government debt. (from U.S. sovereign-credit spreads rise sevenfold in year, By Laura Mandaro, MarketWatch, San Francisco).
The ratings game
The second patch of quicksand in money-markets is the ratings business.
Ratings game is a very curious business. India, a US$1 trillion economy, growing at 7%, with a gross debt of 129%, has a rating of BBB-. Look at Ireland, where according “to the most recent World Bank data, Ireland’s number stands at a staggering 1,267%” – has a rating of AA-, after a recent rating downgrade in November 2009.
Brazil, India, Russia and South Africa are missing | Image & courtesy - paul.kedrosky.com | Click for image.
Or a situation where,
China swaps cost 66 basis points, down from 297 on Oct. 24. That’s cheaper than Greece and Ireland and within 9 points of Austria, Italy and Spain.
Obviously, such artificial pricing and manipulation can only be ‘sustained’ for short bouts.
And when does that short bout end?
It is obviously true that market perceptions of sovereign default risk in the eurozone (as reflected in CDS rates) are rising across the board and are now very high indeed by historical standards. According to Markit, on 12 January 2009, Germany’s 5-year CDS rate was 44 basis points, France’s 51 basis points, Italy’s 155 basis points and Greece’s 221 basis points. The same is true, of course, for the US, with a CDS rate of 55 basis points and and for the UK, with a 103 basis points CDS rate. Sovereign CDS markets may not be particularly good aggregators and measures of default risk perceptions because issuance is patchy and trading is often light, but the numbers make sense.
Engines of growth
EU’s economy is contracting now for the last 18 months. The burden of the Welfare State is not reducing. EU’s populations are not scaling down their expectations. Who will pay for these gold-plated services, that Europeans consider is their birthright.
The Chinese+ASEAN economies depend on exports to US and European markets for growth. With these bankrupt economies as customers, the outlook for China+ASEAN is questionable. Middle East depends on US+EU for security, banking, monetary and fiscal management.
That leaves the global economy with Brazil, Africa India and Russia as engines for growth
Debt-GDP Ratio's - Major economies | Image source & courtesy - visualeconomics.com | Click for source image.
The Russian conundrum
After decades of boycott, machinations and confrontation, the Russian Government is in a strong position of being low on debt.
With the lowest levels of Government and private debt, it is the Russian corporate sector which is the main debtor. Russia is in a league of its own, with debt levels ranging between 2%-20%.
Russian crisis and default are ‘artificial’ and opportunistic creations of Western bankers, trying to squeeze a recalcitrant country. Russia managed the “budget deficit to hit 6.8% of GDP this year and wants to lower that to around 3% by 2012.”
Never have so many depended on so few – for economic growth. Thin gruel to go round.