06.17.2011 1

Europe Debt Crisis a Window Into America’s Future

By Robert Romano – The sovereign debt funding crisis ravaging Europe is a window into America’s future, should Congress fail to find a way to rein in the $14.3 trillion national debt this decade. The only difference is there will not be anybody to bail us out.

In Europe, troubled sovereigns like Greece (€110 billion), Ireland (€85 billion), and Portugal (€78 billion) have all received massive loans from the European Union, International Monetary Fund, and the European Central Bank. Already the first bailout to Greece has failed, and the banks are pushing for another one.

These bailouts actually fail to help the sovereigns settle any debt — they do not pay off any principal owed. Instead, these are merely kick-the-can refinance loans, ostensibly to provide temporary relief until bond markets can or are willing to once again fund the nations in full.

So, the result of the bailouts is these nations go deeper into debt — which is no solution at all.

In other words, countries like Greece’s debts have become so large, they cannot be refinanced, let alone repaid, without a printing press.

So far gone are these nations’ finances, many observers acknowledge that some form of debt restructuring and even partial default is a necessary step to take to once again bring order to their fiscal houses.

That’s the debate going on now over Greece’s debt. Germany is now advocating that bondholders take a hit on Greek debt — a bond swap would result in longer maturities, stretching them out by seven years.

This contrasts with France and the European Central Bank’s (ECB) approach of forcing bondholders to keep on purchasing Greek debt, no matter how risky. The European Central Bank too is on the hook directly for €45 billion in Greek debt, not to mention tens of billions of Greek debt it accepted as collateral when making loans. France too owns about €10.28 billion of Greece’s €340 billion debt. This explains their opposition to even a partial default.

These international financial institutions simply cannot afford to take losses of that magnitude. And after the 2008 bailout experience, it appears that they cannot take losses on anything.


Greece represents less than one percent of the global economy, yet we are to believe that its default will take down some of France’s most prominent financial institutions: BNP Paribas, Credit Agricole and Societe Generale. Some have drawn the parallel to 2008 where the failure of one institution posed a systemic risk to others, and contend that a similar domino effect would occur.

Then, the Federal Reserve printed $1.25 trillion out of thin air to prop up financial institutions all over the world that bet poorly on housing. The only sufficient explanation as to why was because the failure of these banks posed a systemic risk — to government. Sovereigns depend on these same institutions for financing government spending, and if they fail, government cannot continue to borrow.

So it is with sovereign debt. The ECB believes the German proposal will trigger a “credit event” and increase the risk of default in other eurozone nations. They’re probably right, but that doesn’t mean governments shouldn’t just get out of the way and let the dominoes fall.

Too Big to Save

Systemic risk explains how the Irish debt crisis has unfolded. After its real estate bubble popped, Ireland guaranteed all of its banks obligations, and now is sinking in financial quicksand.

It turns out the banks that bet poorly on housing were too big to save. If only Ireland had followed the example of Iceland, and let those institutions fall, and it would not be burdened with a debt that cannot be refinanced.

To help the situation, the International Monetary Fund put a proposal on the table to restructure Ireland’s debt to “haircut 30 billion of unguaranteed bonds by two-thirds on average,” according to Dublin professor of economics Morgan Kelly.

Ireland would have accepted the restructuring, but then Treasury Secretary Timothy Geithner intervened, essentially vetoing any default. Why? Because he knows that if European bondholders take losses, again, there will be less money to lend to other sovereigns — like the U.S., the biggest debtor of them all.

So, making investors pay is off the table. And gone is any pretense that we are dealing with private banks or independent sovereign states.

At the end of the day, foreign interests, in this case global financial institutions, are plain as day dictating public policy. They were protected from losses in 2008, and they’re being protected today, this time from any haircut on sovereign debt. Sovereignty is being sold out, and taxpayers are getting the bill.

The End is Near

In the U.S., the gross debt has already reached 95.5 percent of the nation’s entire Gross Domestic Product. By 2021, the debt will soar to over $26 trillion, raising the legitimate question of when (not if) the debt will become so large that it cannot even be refinanced, let alone repaid, as it has in Greece already. By then, gross interest payments will have risen to well over $1 trillion annually.

So, what will the U.S. do? What it has been doing: Print money to pay the debt. In 2009, 80 percent of treasuries were “purchased” by the Federal Reserve, and in 2010, the central bank’s stake was 70 percent, according to Pimco.

But this cannot continue forever. And when it ends, one needs to look no further than Europe for how the great unraveling will unfold. Except, there will be nobody big enough to bail us out.

Robert Romano is the Senior Editor of Americans for Limited Government.

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