A- A A+

Are we in for another debt crisis?

David James |  29 March 2015  |  Economics

crashThere are growing concerns about a looming credit crisis, triggered by some of the more peripheral countries: Greece, Brazil, Malaysia. Of course it may happen, but it is not necessarily likely. It is true that sovereign debt default has great repercussions, as we have seen since the Latin American debt crisis of the 1980s. But that is not what caused the GFC. What caused the GFC was the mountain of derivatives sitting like a toxic waste dump atop the global financial system.

That toxic waste dump is still there, with over $700 trillion of derivatives leading to extreme uncertainty. And if something goes wrong in the "real" global economy, it can cause the waste to collapse on everyone. But it is not really certain if that trigger will be a collapse of sovereign debt, if that should happen. It all depends on what that would mean for confidence in the system, especially between banks, which is what led to the GFC.

One might also say that prior to the GFC, everyone was talking about the 'Goldilocks economy.' They were very wrong. It just shows that what happens in teh markets is usually very unexpected. So when everyone expects something to go wrong, one has to be sceptical.

And for SMSF investors the lesson is the same as usual: don't over-react by chasing the market.

 

Ann Pettifor of Prime Economics, who foreshadowed the credit crunch in her 2003 book The Coming First World Debt Crisis, says: “We’re going to have another financial crisis. Brazil’s already in great trouble with the strength of the dollar; I dread to think what’s happening in South Africa; then there’s Malaysia. We’re back to where we were, and that for me is really frightening.”

Since the aftershocks of the global financial crisis of 2008 died away, the world’s policymakers have spent countless hours rewriting the banking rulebook and rethinking monetary policy. But next to nothing has been done about the question of what to do about countries that can’t repay their debts, or how to stop them getting into trouble in the first place.

Developing countries are using the UN to demand a change in the way sovereign defaults are dealt with. Led by Bolivian ambassador to the UN Sacha Sergio Llorenti, they are calling for a bankruptcy process akin to the Chapter 11 procedure for companies to be applied to governments.

Unctad, the UN’s Geneva-based trade and investment arm, has been working for several years to draw up a “roadmap” for sovereign debt resolution. It recommends a series of principles, including a moratorium on repayments while a solution is negotiated; the imposition of currency controls to prevent capital fleeing the troubled country; and continued lending by the IMF to prevent the kind of existential financial threat that roils world markets and causes severe economic hardship.

If a new set of rules could be established, Unctad believes, “they should help prevent financial meltdown in countries facing difficulties servicing their external obligations, which often results in a loss of market confidence, currency collapse and drastic interest rates hikes, inflicting serious damage on public and private balance sheets and leading to large losses in output and employment and a sharp increase in poverty”.

It calls for a once-and-for-all write-off, instead of the piecemeal Greek-style approach involving harsh terms and conditions that knock the economy off course and can ultimately make the debt even harder to repay. The threat of a genuine default of this kind could also help to constrain reckless lending by the private sector in the first place.

 




Similar articles from Economics

Household debt looms large

David James | 3/15/2015

DebtAustralia's soaring private indebtedness is a growing problem. But is is not certain that much can be done about it.


Super concession our biggest tax expenditure

 | 12/15/2014

PieThe concessions on super are Australia's biggest tax expenditure according to the latest MYEFO statement. It raises some tricky economic and political issues.


Older generation v younger generations

 | 12/9/2014

OldThe growing divide between the older and younger generations in Australia will determine the political context for super over the coming decades.


Does the dropping oil price indicate deflation?

 | 11/30/2014

deflationThe sharp drop in the oil price has been replicated in gold, the $A and copper. It all points to an intensifying of deflationary pressure.


China cuts rates

 | 11/23/2014

RatesChina's decision to lower interest rates is a further sign that the world economy remains weak. It may mean a weaker Australian economy and lower Australian dollar, with implications for DIY investors.


 

Subscribe

Subscribe to the Personal Super Investor weekly email to keep abreast of developments in SMSF law and investment markets. SMSF investors looking to improve investment returns from shares, property, cash or other specialised investments, will find the PSI weekly newsletter an invaluable resource.

Subscribe now »

Disclaimer

The contents of this website are of a general nature only and have not been prepared to take into account any particular investor's objectives, financial situation or particular needs. Our content is not intended to be advice and must not be relied upon as such. You should seek independent advice tailored to your specific circumstances prior to making any decisions. Personal Super Investor does not provide financial product advice or recommend any financial products: Where this website or it derived newsletter/electronic publication refers to a particular financial product, whether it be within our editorial or a 3rd party advertising, advertising promotion or advertorial, then you should obtain a Product Disclosure Statement (PDS) relating to that product and consider the PDS before making any decision about whether to acquire the product. We also recommend that you should seek professional advice from a financial adviser before making any decision to purchase any financial product referred to on this website. We do not make any representation or warranty that any material on the Personal Super Investor website will be reliable, accurate or complete, nor do we accept any responsibility arising in any way from errors or omissions of our content or any content provided by any advertiser appearing the Personal Super Investor website. We will not be liable for loss resulting from any action or decision by you in reliance on the Material (whether editorial or advertising) on the Personal Super Investor website, nor any interruption, delay in operation or transmission, virus, communications failure, Internet access difficulties, or malfunction in your equipment or software. By using the site you acknowledge that we are not responsible for, and accept no liability in relation to any content contained on the site that you may use, including any other users’ use of the Personal Super Investor website in any circumstance. You use the Personal Super Investor website at your sole risk.