Sovereign Crisis from Economic Stimulus to Debt Austerity Snowball Effect
By: Mike Larson
Jun 18, 2010
A blockbuster draft report from the European Commission saw the light of day recently, thanks to some reporting from Bloomberg. It highlights an incredibly dangerous Catch-22 facing many sovereign nations — the “Snowball Scenario.”
Let me give you an example how this works …
Suppose country A’s economy goes into the tank. The government responds by borrowing boatloads of money and spending like mad on stimulus packages.
The markets allow it to go on for a while. But then investors start to get antsy about all the debt being added to the government’s balance sheet. So they start dumping its bonds, driving prices lower and rates higher. That, in turn, forces the country to implement austerity measures to get its debt and deficit under control.
Those moves send the economy BACK into the crapper! Government spending has to rise yet again to pay for things like unemployment insurance, new stimulus packages, and so on … at the same time tax revenues fall. That drives debts and deficits even higher.
The end game in this snowball scenario? A sovereign default!
And that’s not just a theory. In fact …
Snowballs Are Already Rolling Downhill in Spain, Greece, and Portugal