Sovereign Debt: US and European Debt May Impinge on Canada

Sovereign DebtI have been writing economic analysis for almost 25 years now.  That doesn’t entitle me to a badge of honor or even your respect.  In fact some of you might say that I’m simply a bugger for punishment or I’m still looking for a life.  Needless to say, I enjoy all kinds of economic commentary, which I read consistently.  It just so happens now in 2011 there is an economic crossroads to portage.  I must say the debt contagion in Europe and the United States is giving me a queasy feeling. How can you deal with debt, which has far outgrown your capacity to service it?

Yes, it is a long story.  However, increasingly that long story about European and American debt is affecting our markets on almost a daily basis.  For instance today Canadian, American and European stocks were caught in a downdraft with triple digit losses based on the problems in Europe and the United States.  In Europe there is just too much debt to go around especially in Greece, Italy, Ireland, Portugal and Spain.  In the United States, Pres. Obama continues to try to get agreement with Congress on raising the US debt ceiling.

It is a very tough problem for the Europeans, made tougher because of the European common market and their common currency.  It is further being complicated by Europe’s flawed history of not particularly liking each other.  So you have the very strong economy in Germany, which may be asked to bail out all the weak economies in places like Greece and Italy.  You could imagine that is not very good domestic politics in Germany.  The problem is the Euro is the common currency and so smaller countries can no longer print money to inflate themselves out of their fiscal problems.  A default by one nation will surely cause credit to dry up in banks around the world and tighten lending, with the world’s fragile economy in the balance.

Our American friends have a different type of problem.  They are the world’s richest economy with the world’s default currency.  That comes with many advantages as in default for them is unthinkable for the rest of the world.  Despite that, our American friends are in negotiation to raise the debt ceiling by August 2nd in order to service their burgeoning US debt.  It is the classic American cat and mouse game between a Democratic president and a strong Republican Congress.  So far there has been no movement, both sides polarized by what needs to be done with no common ground on how to get there.  The specter of American default is insane.  So agreement will happen but it might be kind of messy.   Meanwhile, US unemployment is at 9.2%, the housing market is terrible and the province of Alberta added more jobs last month then the whole United States.

Pinch me and wake me up. This does not build confidence in our economic future.  Any little nuance within each of these economic zones would send the global economy tumbling.  If not that, a few hiccups could affect Canadian banks.  I want none of it, but increasingly simply massaging this debt issue, as something that will be dealt with later cannot be.  It seems like the Europeans and Americans continually want to avoid the problem and are unwilling to make the hard choices.

President Obama unwittingly said during the debt negotiations the other day, legislators should “eat their peas.”  In other words he is forcing the issue because it would seem he knows how difficult this choice is.  Huge trillion dollars spending cuts are coming in the United States and it will not be pleasant.  However, even a big country like the United States cannot continue to spend uncontrollably into perpetuity.  The bill finally comes in.

What we are talking about here is the debt is becoming so onerous that the interest payments can no longer be paid.  In fact nobody much worries about that when countries are involved but it just got so big, to such an extent, it would seem the world economy is at a knifepoint.  At least it must feel that way in some European countries.  I don’t know how you would feel if you were the average Greek man on the street looking for a job.  Good luck.

A few years ago former finance minister and Canadian Prime Minister Paul Martin faced the same debt wall in his projections.  Those projections were not as onerous as what the Europeans and Americans face today.  At that time the political carnival in Canada made it easy for him and Prime Minister Jean Chretien to make the tough spending decisions.  Subsequently, Canada is a fiscal star today, despite the big federal spending of the last 18 months.

So do we need tough choices now?  I dunno.  However, I do know these problems in Europe and the US are starting to cost us real money and I don’t think Canadians will come out of it unscathed.