Greek Debt Crisis: The First Act in a Global Tragedy

by: Peter Cooper

It is easy to understand global financial markets rising on news that the Greek budget crisis might be over, albeit greeting Greek’s bearing gifts has a poor historical precedent.

It is also far from certain that the Germans are going to offer the Greeks any gifts in return. Chancellor Angela Merkel knows political suicide when she sees it. But cutting public spending to lower deficits is going to become a global theme this year, and sadly one that will not help economic recovery, at least in the first instance.

Dubai austerity package

Dubai government departments have just been asked to find another $1 billion in savings this week. So much for maintaining public expenditure to counter a difficult year for local business, but eminently sensible in view of the well-known debt problems of the emirate.

Yet look back at Europe. Last year, German auto exports fell by 29 per cent, machinery exports by 24 per cent and chemical exports by 20 per cent. This is a formidable economic slump in what was until last year the world’s biggest exporter.

If, as looks inevitable, we now see public spending cuts in Greece, Spain, Portugal, Italy, Ireland and possibly Belgium, how does that affect demand for German exports? It can hardly be good news can it?

Californian example

Over in America it is the states led by California where the most immediate public spending cuts are necessary. Even in the home of deficit finance there is a limit to public borrowing, and the first weakness is going to come in local bonds.

The real point is that the Great Recession can hardly be declared over. It can at best be half way through and pausing before the second half.

Is it therefore good news when the Greek Government announces 4.8 billion euros in deficit cuts, including pay cuts for civil servants? Sellers of German cars are going to have an even tougher time in Greece.

And yet from a global perspective this has to happen. There has been a great inflation of asset prices driven by excessive debt, and public spending has risen on the back of it, and now we have a great deflation as the worst excesses are corrected.

Investment implications

Will this be a gentle process with no volatility in financial markets? Obviously not, and the bias must be to the downside until the debt problems of the world are solved.

Politicians have two ways to deal with such problems. The hard way is with spending cuts like those announced in Greece or Dubai. The easy way is to inflate debt away as the Federal Reserve and Bank of England are trying to do by printing money.

But none of this is good for economic growth rates or financial markets. A flight to cash, precious metals and commodities will be the result as markets for real estate, equities and bonds tumble.

Disclosure: Author holds long positions in gold and silver