As Greece falters, fears stretch around world

Concern over the country's debt has triggered talk of global contagion and market panic

Published April 29, 2010 12:47PM (EDT)

The debt troubles in Greece are intensifying and, even more dangerous, spreading fear across Europe and beyond.

That is triggering talk of a potential global contagion, similar to what happened after the investment bank Lehman Brothers collapsed in 2008, setting off the worst financial crisis in the United States since the 1930s and contributing to a deep global recession.

"Greece as an economy is tiny but the danger is contagion and market panic," said David Wyss, chief economist at Standard & Poor's in New York.

"If people get scared that Greece could default, they are going to be scared that Portugal will default and then other countries. Once people panic, they panic about everything. We saw that in the wake of the Lehman Brothers failure."

Markets worldwide have been roiled by a wave of bad news from Europe, starting with a downgrade of Greece's heavy debt load and then downgrades of the debt held by Portugal and Spain.

In Asia, there are not yet significant concerns about the creditworthiness of the region's governments but big economies like China and Japan still have much at stake. Europe is an important export market for both and their manufacturers are counting on sending ever more goods to the continent. China and Japan are also among the biggest investors in the debt issued by other nations, the U.S. especially, with holdings worth hundreds of billions of dollars.

Some lenders in the region, meanwhile, are already fretting that Europe's problems will chill the financial system, making it harder for banks to borrow the short and long-term money that helps fund their own lending to businesses and consumers. There are also concerns the turmoil in Europe could convince China to delay any appreciation of its currency -- widely viewed as undervalued -- aggravating tensions with the U.S. and other trading partners.

Nariman Behravesh, chief economist at IHS Global Insight, a U.S. forecasting firm, said the challenge will be for the International Monetary Fund, the world's lender of last resort, and other European countries to come up with a rescue package credible enough to convince financial markets that authorities are determined to limit the spread of the problem.

Economists note that countries that endure banking crises often end up having debt crises a short time later. That is because governments borrow heavily to prop up their banking systems, which sends their own debt burdens soaring.

That debt buildup has occurred in the United States, which has seen its publicly held debt jump from 36 percent of the total economy in 2007, before the crisis hit, to 64 percent this year. That's the highest level since 1951, when the country was still paying off the debt run up to fight World War II.

Debt levels of all developing countries are rising to levels not seen over the past 60 years, the IMF said in an economic survey released last week.

The U.S. government forecasts that its publicly traded debt as a percentage of the total economy will reach 77 percent by 2020. By comparison, Greece's debt burden exceeds 100 percent.

"The Greek problem highlights a broader problem across the globe," said Mark Zandi, chief economist at Moody's "Governments used their resources to end the financial panic and the Great Recession, but now they have to figure out how to pay for it."

He added, however, that the United States has one thing in its favor that other countries such as Greece do not: A competitive economy capable of producing solid growth to increase government revenue.

Japan, the world's second biggest economy, isn't Greece either, economists say.

Even though it shoulders the biggest public debt burden in the industrialized world, the country does not face an imminent crisis.

More than 90 percent of its debt is funded domestically, putting the country at low risk for capital flight. Servicing that debt remains manageable because of low interest rates. Moreover, Japan holds the world's second largest store of foreign reserves and consistently posts a current account surplus.

The turmoil in Greece has in fact led investors to turn to Japanese government bonds as a safe haven.

"Claims that Japan's debt mountain is about to explode have been around for over a decade," said Richard Jerram, head of Asian economics at Macquarie Capital Securities, in a recent report.

But the future is another matter.

Prime Minister Yukio Hatoyama's government will issue a record 44 trillion yen ($473 billion) in bonds to fund this fiscal year's budget. Fitch Ratings warned last week that Japan's credit rating could worsen if Tokyo does not rein in snowballing debt, which reached 201 percent of gross domestic product in 2009. Deflation, slow growth and dwindling household savings could eventually undermine Japan's ability to fund itself.

The rest of Asia is on sounder financial footing, especially considering its rapid growth. The region underwent a "profound deleveraging" in the 1990s following its own financial crisis, mandated by the IMF's strict bailout conditions, said Glen Maguire, chief Asia economist at Societe Generale.

China's government reports its debt at about 20 percent of GDP. But Tom Orlik, an analyst in Beijing for Stone & McCarthy Research Associates, says the figure is far higher than official numbers suggest. Add in local government debt and nonperforming loans in the government-owned banks, and the level tops 50 percent of GDP, he said.

"The number is higher than the government acknowledges, and that is well known, but it is still not a very alarming number," Orlik said.

The European turmoil, however, may compel Beijing to postpone any moves to allow its currency to rise until the international outlook is clearer, said Ken Peng, China economist for Citigroup in Beijing.

China has tied its yuan to the dollar since late 2008 to help its exporters compete amid weak global demand. Washington and others complain that keeps the yuan undervalued, giving China's exporters an unfair price advantage and swelling its trade surplus.

"The government reaction to any major disturbance is to avoid moving," Peng said. "The enthusiasm for de-pegging has probably fallen."

While Asia appears strong enough to avoid the debt problems engulfing Greece and Europe, it hasn't been immune to the anxiety the turmoil has produced. Asian equity markets have been hammered this week, in line with deep share declines in Europe and the U.S.

Signaling what may lie ahead, the chief executive of ANZ Banking Group Ltd., an Australian lender with operations across Asia, warned Thursday that the sovereign debt crisis in Europe could make it harder for banks to access credit.

"I am still quite worried about the global economy," Smith told reporters. "Europe is a mess."


AP Business Writer Joe McDonald in Beijing and AP Writer Rod McGuirk in Canberra, Australia contributed to this report.

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