Words such as “crisis” “emergency” and phrases such as “time is running out” are daily used in news stories relating to current debt situations in Greece. Greece is the nation currently in the spotlight, and its default could lead to the “disintegration of the Eurozone,” as a Wall Street Journal article warns, spilling over into Italy and Spain. From there, according to On Wall Street, the “contagion” will spread in a “domino effect.”
Debt as Disease
The language of national debt reporting is consistently alarmist, inferring that when a nation defaults on its debts, the results are as catastrophic as the plague, spreading death and destruction around the world, or like the former Cold War model of the Red Menace spreading from nation to nation like falling dominoes. The domino effect, some may remember, was the metaphor used to increase U.S. involvement in Vietnam.
Fear and Jargon
The language is designed to terrify and is no doubt effective. When laymen then try to figure out what can be done to prevent the end of the world as we know it, financial experts pour out reams of jargon and numbers, which serve two purposes: it confirms their status as experts since they know all these technical terms and renders the situation completely unintelligible for laymen.
What is Default?
When nations default, they simply give up trying to repay loans they have taken out. This is similar to bankruptcy, which is painful but not fatal. If one nation defaults, will the world end? Probably not, but the banks who hold the loans will lose money, just as creditors lose money when a company declares bankruptcy. Banks and creditors do not like losing money; indeed, it is their job to make all the money they can. Yet bankruptcies happen, adjustments are made and life goes on. Every nation is different and complex financial policies can have variable results, but so far, none have resulted in the world ending.
Argentina Default and Recovery
Argentina defaulted in 2001, refusing to follow standard economic advice after that advice made matters worse. Coupled with debts inherited from previous dictatorships and corruption in high places, Argentina’s debts were untenable. Hard times and adjustments followed the default, but Argentina recovered more quickly than most after the crash of 2008 and has since experienced significant reductions in poverty levels, according to Global Edge, which states that Argentina experienced “5 consecutive years of greater than 8% annual GDP growth between 2003 and 2007. The economic recovery enabled the government to accumulate substantial official reserves (over $51 billion as of late August 2010). The reserves, combined with the absence of fresh borrowing from the international capital markets, helped insulate the economy from external shocks.” Higher taxes, no fresh borrowing and the accumulation of substantial government reserves have led to primary fiscal surpluses since 2003.
Iceland’s Recovery
Iceland, a relatively prosperous nation of 320,000 and according to the UN Human Development Index the 17th most developed nation in the world, was hard hit by the crash of 2008. The nation’s entire banking system failed and Iceland chose not to bail them out. Subsequent political unrest resulted in protests by one percent of its population- (a similar protest in the U.S. would consist of three million citizens.) The financial situation has led to continuing conflicts, particularly with the UK, which used provisions of terrorist legislation to freeze Iceland’s assets and is suing Iceland for repayment of money to U.K investors.
How to Handle a Bubble
As of 2010, Iceland is recovering, according to the New York Times. In a 2010 telephone interview, Arsaell Valfells, professor of business and finance at the University of Iceland said, “Excluding the financial system, the real economy is doing well. We’ve basically gone back to 2003 in terms of the level of standard of living. This is the proper process. If you go through a bubble economy and you need to correct it, the answer is not to convert private debt into public debt. Rather it is to restructure the debt to the level of the assets.”
Past Defaults
According to the Global Post, default clusters occurred during the Napoleonic Wars, through the 1840s “when almost half the world was in default,” during the Great Depression, and the Asian financial crisis of the 1990s. England experienced three defaults before 1600, France saw eight between 1558 and 1788, Nigeria five and China two (before communism.)
Will nations learn this time? Unlikely, say Carmen Reinhart and Kenneth Rogoff in their book, This Time Its Different: 800 Years of Financial Folly. “Technology has changed, and fashions have changed. Yet the ability of governments and investors to delude themselves, giving rise to periodic bouts of euphoria that usually end in tears, seems to have remained constant.”
Sources:
David Uren, Wall Street Journal, “Greek Debt Crisis Raises the Prospect of Eurozone’s Disintegration,” September 24, 2011
David Lindorff, “Vanguard Exec Warns of ‘Contagion” from Looming Greek Default,” On Wall Street, September 23, 2011
Global Edge: Argentina Economy
David Jolly, “Iceland Emerged from Recession in Third Quarter,” New York Times, December 7, 2010
Carmen Reinhart and Kenneth Rogoff, This Time It’s Different: 800 Years of Financial Folly, 2009, Princeton University Press.
