Last 2 years there have been many numbers of stories about how many banks went burst, how people lost their life savings, employment and their homes. What started as a sub-prime crisis in U.S. snowballed into a huge credit crisis over the globe, especially developed countries. Countries which topped in quality of life indices like Iceland went burst overnight. Recently it is the turn of Dubai and Greece to go burst. There is a fear that many more countries would go burst in 2010. When a country is unable to honour its credit obligations, it goes burst and this is known as Sovereign risk.
Recent episodes like Greece and Dubai have clearly highlighted that the chances of a sovereign defaulting on its debt is perhaps higher now than any other time in history. Hence, banks do not want to take chance.
As per a leading daily, top managers of some large banks are now discussing whether they need to start making provisions for different forms of sovereign risk, in the same manner as they now make reserves for corporate or emerging market risks. Whether this could be executable is not known for sure. What we know for sure is just as mortgage and corporate risk were the big themes of 2008 and 2009; sovereign risk is likely to emerge as one of the biggest themes in 2010.
Also there is now a unanimous consensus among leading Economists across the globe that U.S. Dollar would find it very difficult to maintain its supremacy and would be greatly weakened. This would result in reduced global supremacy too. U.S.’s strength has been its dollar, technology and defence. With economic strength reducing it is likely have to reduced power in global affairs. This cannot be palatable for it. So it may start more wars to ‘end all wars’ so that it can have resources plundered from other countries. These wars can be fought under the disguise of eliminating terrorism or protecting western civilization from other ‘barbaric civilizations’ or ending oil monopoly or championing for the cause of democracy. The irony is that modern civilization demands wars are fought under a ‘noble cause’. Even historically, we’ve killed each other for ‘noble reasons’ in the name of religion, language, ethnicity etc.
Let us see how the dollar is going to be weakened.
It is very difficult to find a Chinese central banker getting a chance to air his personal views. But that protocol was broken recently. The Deputy Governor of the People’s Bank of China has let his views known to an academic audience. And it really turned out to be an eye opener of sorts. He feels that there aren’t just enough US dollars around to buy the gigantic US debt that is likely to come onboard in the coming months.
It should be noted that until 2006, the US ran a current account deficit to the tune of US$ 800 billion. This means that exporters to the US got US$ 800 billion annually and they used most of this to buy US debt. But with the US consumer going into a shell after the crisis, the current account deficit has come down an eye popping 50%, thus leaving the exporters with just US$ 400 billion with which to buy US debt.
On the other hand, debt issuance by the US has increased at an alarming pace, thus creating demand supply mismatch of epic proportions. Little wonder, investors are placing huge bets that price of US debt or in other words US treasury, would go into such a free fall that it would be difficult to arrest its decline. Of course, the US Fed can come to the rescue and buy all the excess debt, but this would mean injecting trillions and trillions of dollars worth of cash into the system and giving an open invitation to runaway inflation. Clearly, there seems to be no easy way out for the US out of its current mess.
As stated above, U.S. may resort to increasing its defence spending by waging more ‘noble’ wars which would obtain it control over more global resources (read oil), which would also fuel its failing economy. If you’ve read Samuel Huntington’s ‘ Clash of Civilization and the remaking of World Order’ and look it what’s happening now in the world, one gets a feeling that certain civilizations and countries would disappear from this planet and we may see a new world order in the coming decades. If nuclear weapons are used, Life as we know may cease to exist. If it all there is a destruction of this planet, it won’t be from any external sources (movie like 2012), but by our own mankind. This may very well happen even during our life time.
(with inputs from Equitymaster)