From Athens to America…

Is Greece the Lehman Brothers of the next crisis?

Rating downgrades for Greece, Portugal and Spain have triggered fears of a widespread sovereign debt crisis. While an IMF-backed European bailout package is being worked out, it may be a case of too little, too late and at best might help delay the disaster. Given the lack of a sense of urgency among European governments to stitch together a rescue package and the increasing estimates of the size of the bail-out, the financial markets have started pricing in a high chance of a default by Greece.

• What would a default by Greece on its debt obligations mean for Euro and EU (and for global financial markets)?
• Who is the next in line?
• Does UK face an imminent rating downgrade?
• Will the sovereign debt crisis spread beyond Europe?
• What happens to the ongoing global recovery?

The focus now is on the so-called PIIGS economies – Portugal, Ireland, Italy, Greece and Spain – the European economies running heavy debt burden and high deficit position. However, the growing risk aversion might trigger a sovereign debt crisis, where cost of raising money for the countries would increase. A general loss of confidence in the safety of sovereign debt will chill the financial system and would be disastrous for the still fragile recovery. See the position of debt and deficit for other major European economies.

Talking about the risks beyond the peripheral EU economies, virtually no rich country has a “sustainable” debt position. Whether it’s UK, US or Japan, none is running a tight enough budget or growing fast enough to stop the debt burden from rising. It may sound preposterous to compare Britain’s fiscal condition with Greece’s or to talk about the American economy in the same breath, but the stakes are too high to remain complacent.

While a default by Greece cannot be ruled out, it would be interesting to see how the events unfold over the next few months in Spain whose economy is much larger than Greece. If Spain comes out successfully, it would mean the sovereign debt crisis can be contained for now. In the longer run, position of high indebtedness of the rich nations would still be a major risk.