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Wondering what a Greek default might look like? History suggests it could claim extensive collateral damage.
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LONDON – The citizens of Greece are no doubt getting very weary of lazy headline writers describing their calamitous financial situation as a Greek tragedy.
And with good reason.
While Greece might be on the brink of defaulting on its sovereign loans — causing global markets to plunge and economies to decelerate — there’s nothing particularly Greek about this brand of financial drama.
Admittedly, Greece doesn’t exactly have a clean sheet. It lays claim to the first recorded incidence of sovereign default in 377 B.C. and has failed to repay its debts on numerous occasions in the 2,388 years since.
Even supposed bastions of financial reliability such as Germany, Britain, France and the United States have in the past also fallen into some kind of sovereign default.
In fact, if we’re using the history books to name and shame, almost every nation on Earth, except a small clutch of Asian and Nordic countries — and Belgium — has at one time or another failed to honor its obligations.
In the past few centuries, defaults have cropped up with such casual frequency that the inability of governments to learn from the past would seem more comic than tragic, if it weren’t for the millions of livelihoods destroyed as a consequence.
Given the plethora of defaults, have we learned any lessons? And if we have, wouldn’t now be a good time to share them, especially since Greece’s current predicament threatens to cast the global economy (Belgium included) into further turmoil?
History’s most obvious insight is that things are likely to get worse, and the collateral damage could be painful, according to Costa Vayenas, an emerging market analyst at investment bank UBS, who has researched back to the era when a dozen ancient Greek city-states defaulted on debts owed to a temple.
“The first lesson from [the past] is, when you have sovereigns defaulting, you tend to have several defaulting at the same time,” he told GlobalPost.
“History shows us it is never just one country; the issue tends to be broader, more systemic. Many nations are involved — and when things go bad, they go bad for many.”
This is certainly the case over the past 200-odd years, with clusters of defaults seen around the Napoleonic wars; through the 1840s when almost half the world was in default; the Great Depression of the 1930s; and the Asian financial crisis of the late 1990s.
Vayenas’ observations appear to confirm the doomsday scenarios some have predicted will materialize if Greece defaults. These see other nations pulled towards the brink because of exposure to Greek debt, or because of vain and costly euro zone attempts to stave off crisis..
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Most at risk are the European Union’s weaker partners, including the already bailed out economies of Portugal and the Republic of Ireland. Spain could also suffer, but this would be nothing unusual: it has chalked up a world-record 13 defaults over the past four centuries.
And Spain and Greece aren’t Europe’s only serial defaulters.
England experienced three defaults before 1600, beginning with Edward III’s failure to meet obligations to Italian lenders in 1340. In France, which saw eight between 1558 and 1788, lending was a potentially treacherous business, and defaults were sometimes called “bloodletting.” They often involved executing creditors.
Emerging markets have dominated the default map in modern times. Nigeria has reneged five times since independence in 1960 despite substantial oil wealth. Indonesia defaulted four times in the 20th century. China twice in 1921 and 1939, both before communism.
But prominent economies also get in over their heads. Post-communist Russia — teetering under chronic fiscal deficits and a costly Chechen war — finally jilted investors in 1998 after the dual shocks of the Asian financial crisis and the collapse of earnings from commodities. Argentina suffered in 2001 following a ride on the economic rollercoasters of hyperinflation and recession.
In pinpointing lessons from this lengthy list of sovereign scofflaws, Vayenas draws a distinction between debts issued in domestic and foreign currencies.
Local currency debts are the preferred option since sovereigns can simply resort to the short-term solution of creating more bank notes to service the debts. Not so if they’ve borrowed gold or another country’s cash, which many emerging markets are forced to do because their own currency isn’t sufficiently trusted by investors.
“This is in a sense what you’re seeing in Europe,” he said. “Euro zone countries have borrowed in a currency they can’t print.”
He says many default-scarred emerging markets have learned from this, subsequently using periods of prosperity to build up foreign currency reserves. Likewise, many have also realized the importance of strong banking institutions, backed by capital rather than spurious assets such as the sub-prime mortgage-backed securities that led to the 2007 global financial crisis.
“The result is that when we went through the crisis of 2007, some of the world’s best banks were found in these emerging markets that have been through difficult periods,” Vayenas added.
Can other countries also learn, making default clusters are a thing of the past? Not likely, according to economists Carmen Reinhart and Kenneth Rogoff. They argue in a 2008 National Bureau of Economic Research paper that such assumptions would be premature.
“Technology has changed, the height of humans has changed, and fashions have changed. Yet the ability of governments and investors to delude themselves, giving rise to periodic bouts of euphoria that usually end in tears, seems to have remained a constant,” they write.
A tragedy for sure — and not just for the Greeks.