Kenneth Rogoff, former IMF chief economist warned that a series of sovereign debt defaults is likely to be in the offing. From Bloomberg:
Following banking crises, “we usually see a bunch of sovereign defaults, say in a few years. I predict we will again,” Rogoff,…said at a forum in Tokyo today.
He said financial markets will eventually drive interest rates higher, and European countries such as Greece and Portugal will “have a lot of troubles….
“It’s very, very hard to call the timing, but it will happen,” Rogoff, 56, said in the speech. “In rich countries – – Germany, the United States and maybe Japan — we are going to see slow growth. They will tighten their belts when the problem hits with interest rates. They will deal with it.”…
Rogoff said Japanese fiscal policy is “out of control.” Japan has the world’s largest public debt, with gross liabilities that are approaching twice the size of the economy.
Rogoff is far from alone in seeing sovereign defaults as likely, but so far, the chorus of concern comes mainly from analysts and investors rather than well-known economists (Willem Buiter was notable exception in that regard). One correspondent said that one of his sources, with impeccable contacts, anticipates 12 sovereign debt defaults in the EU. And while Rogoff puts Greece and Portugal as top of his hit list, a recent Bridgewater report (no online source) took a hard look at Spain, and did not like what it saw:
On net, Spain owes the world about 80% of GDP more than it has external assets. As a frame of reference, the degree of net external debt Spain has piled up in a currency it cannot print has few historical precedents among significant countries and is akin to the level of reparations imposed on Germany after World War I. We don’t know of precedents for these types of external imbalances being paid back in real terms.
In the Great Depression, the debtor countries, who both defaulted and devalued their currencies by leaving the gold standard fairly early, did better than creditor countries (as in they suffered smaller drops in GDP and recovered faster). But it is not clear how this will play out in the EU, where the debtors cannot depreciate their currencies (and as we also noted, the recent example of Sweden v. Norway also suggests that currency devaluations are not always the tonic they are assumed to be).
Another complicating factor is that European bank will need to refinance over €1 trillion of debt in the next two years. This not only will pressure spreads on sovereign credits, but conversely, will lead to higher bank borrowing costs. Since banks in the eurozone on the whole are even more thinly capitalized than those in the US (they are even less are along in writing down dud assets), this will at a minimum dampen lending and has the potential to put pressure on particularly weak institutions. From Ambrose Evans-Pritchard at the Telegraph (hat tip reader Swedish Lex):
Roughly €560bn of EU bank debt matures in 2010 and €540bn in 2011. The banks will have to roll over loans at a time when unprecedented bond issuance by governments worldwide risks saturating the debt markets. European states alone must raise €1.6 trillion this year.
“The scale of such issuance could raise a significant ‘crowding out’ issue, whereby government bonds suck up the vast majority of capital,” said Graham Secker, Morgan Stanley’s equity strategist. “The debt burden that prompted the financial crisis has not fallen; rather, we are witnessing a dramatic transfer of private-sector debt on to the public sector. The most important macro-theme for the next few years will be how easily countries can service and pay down these deficits. Greece may well prove to be a taste of things to come.”
This is going to be an interesting next couple of years, and the odds are pretty high that it may not be interesting in a good way.