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The same instruments that hobbled AIG concealed Greece's mounting debt problems.
PITTSBURGH — Greece’s financial peril is a reminder that unregulated, complex financial instruments can pose hefty risks for governments much as they can destroy the balance sheets of big banks and companies willing to make wagers that they don’t have the money to cover — whether they be swaps or sub-prime mortgages.
Though the effects of unregulated hedging are the same whether in the U.S. or Europe, there is no global consensus on how to use regulation to eliminate ploys that disguise the real financial condition of either a country like Greece or a company like the AIG Group, the collapsed American insurer that took a $180 billion federal bailout.
Greece’s near financial collapse and pleas for help from Washington and the EU countries have much in common with the financial meltdown in the U.S. 18 months ago. A combination of running up explosive debt and then disguising it with inscrutable financial instruments like credit default swaps, a form of insurance against bond defaults, has been contributing to the ongoing global financial crisis.
Greece’s predicament presents yet another opportunity to consider how governments worldwide might use regulation to avoid the near bankruptcy of countries, trillion-dollar bailouts of banks and corporations, exorbitant bonuses, hidden deficit spending and resultant recessions that cause unemployment and financial misery for everyone.
Peter Morici, former chief economist at the U.S. International Trade Commission and now a professor at the University of Maryland business school, said credit default swaps and speculators did not cause Greece’s collapse, especially since not many swaps were written against Greece’s $400 billion in outstanding debt. They may have covered up the problem by “putting off the day of reckoning,” but the real problem is “a big deficit and a squirrely government,” he said.
Greece has insisted that speculative trading in the instruments boosted the cost of the country’s borrowing power as speculative trading in swaps intensified, the bet being the country’s debt would worsen.
That was the message that Greek Prime Minister George Papandreou brought to the U.S. in a White House visit with President Barack Obama early this month. His plea was that countries should regulate speculative trading in swaps.