Wednesday, April 28, 2010

Sovereign Debt Debacle in the Making

If you've ever wondered what it would have been like on the Titanic, take a look at the Euro bloc. Today's drop by the Dow Jones Industrial Average of 213 points only mildly foreshadows what could happen. Greece, as we all know, is in deep yogurt. But Portugal and Spain are also sliding into the vat. Current estimates of the bailouts needed by these three countries total around 500 billion Euros. (That would be around $650 billion.) The IMF might be able to cough up around 200 billion Euros. The other 300 just ain't happening. A large part would have to come from Germany, and the Germans are already struggling with the idea of contributing around 12 billion Euros to Greece's bailout. With the most recent developments, the German public might well conclude that even a small bailout for Greece would begin Germany's slide down the slippery slope, and clamor to depart the EU.

Neither the Federal Reserve nor any other part of the U.S. government can do much. Americans are fed up with bailing out each other; they won't stand for bailing out people overseas. To make things worse, Goldman Sachs appears to have played a significant role in certain aspects of Europe's sovereign debt problem. While its exposure to the sovereign debt mess remains unclear (no doubt GS has plenty of hedges in place), anything that might look like another bailout of Goldman, after AIG's nationalization, would be beyond the pale.

The European Union doesn't have a true governance structure. That's why it got into trouble and that's why it can't work its way out of trouble. Ten years ago, Argentina linked its currency to the dollar and got into a debt crisis not unlike Greece's current predicament. It had to delink from the dollar, and today is in decent shape. The Euro bloc will almost surely lose members--either the debtor nations that need the bailouts, or the wealthy nations that would be expected to fund the bailouts, will leave. The Euro may eventually be good only for buying its automotive counterpart, the Edsel.

No comments: