Calm Before The Storm: A Review Of Governments In Dire Straits

 A number of governments find themselves in severe financial trouble – these represent the fringe of the fiat money bubble, the fraying edge of it, if you will. They will provide us with a preview of what is eventually going to happen on a global scale. It would actually be better to say: what is going to happen on a global scale unless significant monetary and economic reform is undertaken in time. Obviously, we cannot be certain what the future holds in store – however, we can certainly extrapolate the path we are currently on.

Looking at efforts that have been undertaken in this respect thus far, they are partly insufficient and partly extremely wrong-headed. For instance, the euro zone received a rather clear wake-up call in the sovereign debt crisis of 2009-2012. The effort to create a “fiscal compact” that forces governments to limit their deficits and public debt to specific percentages of economic output is a laudable attempt to bring the problem under control. However, the effort is lacking in many respects. For one thing, the accord will likely prove unenforceable when push really comes to shove. It is already meeting with considerable resistance, and one suspects that enforcement against core countries like France will continue to be lax.

Secondly, there are many ways in which such fiscal targets can be achieved, and we can be certain that in many cases European politicians will opt for the worst methods. Simply hiking taxes and bleeding the private sector dry is not a workable or sustainable policy. What is required are massive cuts in government spending, combined with economic liberalization on a vast scale. In other words, the kind of reforms that the ruling classes of the European socialist super-state project are most unlikely to consider. Even if they were considering them, they would have to overcome a plethora of vested interests to implement them.

Thirdly, one of the methods chosen to get a grip on government finances is financial repression, aided and abetted by the central bank’s ultra-loose monetary policies. This is certain to lead to capital consumption and impoverishment, thus making the long term success of the fiscal compact strategy even less likely.


Venezuela supermarket

Empty shelves in a supermarket in Caracas. The government has tried to counter spiraling inflation with price controls – this is the inevitable result.

Photo credit: Getty Images



In Japan, efforts to curb the growth of the government’s enormous public debtberg are continually sabotaged by self-defeating policies. A recent example: First the government hiked the sales tax to increase its revenues. When economic growth predictably tumbles, the government decided to introduce a massive stimulus package, once again increasing its spending. Meanwhile, financial repression is in overdrive, and the BoJ is distorting interest rates to a never before seen extent. Via “QQE”, the government ends up owing more and more of its debt to itself – thereby fatally undermining the currency.

However, in the meantime, the biggest problems are surfacing in selected emerging markets and in Greece (which has been slipping from its developed country perch, and should by now probably be regarded as an emerging market economy as well). S&P Capital IQ has recently published a list of the top ten most risky sovereign credits.

Curiously, Argentina is missing from the list, possibly because it is considered to be in default already. However, Argentina’s most recent technical default is not a clear-cut affair (see our previous reports on the topic for background information: “Argentina, the Economic Backdrop to the Default” and “Sliding Down a Slippery Slope”). We provide a chart of Argentina’s current implied default probabilities below for the sake of completeness. First two charts from S&P showing the 10 most risky sovereign credits excl. Argentina, based on credit default swap spreads:


1-Venz und Ukie5 year CDS spreads on Venezuela and Ukraine as of year-end 2014, which are the two most risky credits on the list (Argentina is between the two in terms of CDS spreads) – click to enlarge.


The next chart shows the eight runner-ups, whereby only Greece seems to represent a grave risk at the moment. Pakistan’s credit risk has recently improved, and the situation of the remaining countries still appears fairly harmless at this stage. Apart from Greece, we find Cyprus (the crisis of which was and remains closely linked with that in Greece), as well as a few oil producers on the list, such as Russia and Nigeria.

The rest are mainly politically unstable countries, such as Pakistan, Iraq, Lebanon and El Salvador. Iraq has the dubious distinction of being both a major oil producer and one of the politically most unstable places on the planet. In fact, its default risk is remarkably subdued considering its situation, but that is probably due to the fact that its public debt amounts to only about 32% of GDP (a ratio that is set to worsen considerably in coming months though, mainly due to a decline in GDP)


2-Risky sovereigns, 8 runner-upsThe eight runner-ups: Greece, Pakistan, Cyprus, Russia, El Salvador, Lebanon, Iraq and Nigeria – click to enlarge.

Venezuela and Argentina

Since Venezuela and Argentina are the countries the governments of which are most likely to default in the relatively near future, here are a few more charts illustrating their situation.


3-Venezuela, implied default probabilityVenezuela’s implied annual default probability at the standard 40% recovery rate. Since the end of last year, 5 year CDS spreads have continued to rise and now stand at just over 5200 basis points – click to enlarge.


4-Bolivar, black market rateThe black market rate of Venezuela’s bolivar. The currency’s value has been in free-fall – click to enlarge.


As goods have disappeared from the shelves, the government has introduced rationing. A new profession has come into being in Venezuela in the meantime: Many people are now earning a living by queuing to buy staples for those who can afford to hire someone to wait in line for many hours. Many businesses now have employees whose only job is to spend the whole day in queues in order to buy supplies.

Argentina is still in better shape, but it is essentially on the same slippery slope as Venezuela in terms of economic and monetary policy.


5-Argrentina default probability

Argentina – implied annual default probability at the standard 40% recovery rate. Currently Argentina’s 5 year CDS spreads stand at nearly 3,000 basis points – click to enlarge.


6-Argentine pesoArgentina’s peso exchange rate – official vs. black market (via – click to enlarge.


Interestingly, the peso’s black market rate has actually recovered a bit from its worst levels recently, however, as the chart above indicates, these corrections happen from time to time and usually merely precede another lurch higher.



It is actually quite remarkable that only so few governments are in severe difficulties at this point, considering that global debt has increased by more than $30 trillion since 2008, with governments accounting for the vast bulk of the increase. However, it is clear that the main reason for this is that central banks have gone on an unprecedented money printing spree over the same time period. This is still masking the underlying problems to a large extent. However, it seems to us that this is merely the calm before the storm.


Charts and data by: S&P Capital IQ,, Deutsche Bank,,