Governments seem to have replaced large banks as the primary source of economic turmoil in the last year. The past six months have seen three rounds of financial turmoil — triggered by threats of sovereign default — government’s being unable to repay their debts. First Dubai, then PIGS (Portugal, Ireland, Greece and Spain) and now Hungary.
This is not the first time that there has been the threat of government’s defaulting on their dues. Latin American countries had come close to a default in the 1980s while South East Asian ‘tiger’ economies very nearly defaulted on their commitments during the 1997 meltdown. But the disruptive impact seems far higher now. “This is because the global financial system is more closely integrated now,” says Mr Rajrishi Singhal, chief economist, Dhanalakshmi Bank. “The South American crisis hurt 20 banks but didn’t bring down any institutions,” he says. In case of many African nations, debt has either been bilateral to other governments or lending by multilateral institutions, he adds.
High foreign debt seems to be a major chunk of the problem. For Greece and Italy, the net foreign debt is more than the gross domesitc product, according to the IMF. “High debt is the natural fallout of an expansionary monetary policy,” says Mr Mridul Saggar, economist, Kotak Securities. Expansionary monetary policy refers to increased spending by governments during times of an economic slowdown.
Many of the governments in trouble have short-term debt which they are now unable to roll over. Roll over means replacing debt with new debt instead of paying it off. “Let us accept that 2010 will be the year of sovereign debt crisis,” says Mr Saggar.
He suggests that lenders to many of these nations would have to take a haircut on their loans. Even a global lender such as IMF cannot bail out these countries indefinitely as it is getting stretched.