AM 60 and still working so as not to be a burden to my three children, who give me some pocket money. I was the breadwinner/home-maker of the family when they were very young.
I’m conservative and I love my family. I love to see everyone sitting down for dinner at least once weekly, to enhance the family bond.
My younger son, who lives with me, is married to an Indonesian woman who would only come downstairs at about 1pm, when he wakes up for work. She will not acknowledge the presence of others in the house if they do not speak to her first. At times, she just walks past me as if I were a piece of glass.
She had been staying with us well before she married my son. I was not in favour of their marriage but gave in when my son insisted. I even signed as a witness for their registration.
Apart from sweeping the floor which I have swept and mopped before leaving for work, she hardly does any housework. She only cooks dinner when she feels like doing so. I do my husband’s and my own laundry, while my daughter does hers and helps with the housework when asked.
I speak and joke with my daughter-in-law when she wants to communicate, even though I do not like her, for which I cannot give any reason. I have never scolded her or shouted at her for not helping with the housework. Most of the time she stays in her room when I am in the house.
Once when I commented to my son that his wife was not helping with the housework, he retorted that since my daughter did not help, why should his wife do. He has been staying in the house for years but has never helped with the financial upkeep, or to clean it.
The first time we had a spat, my daughter-in-law left the house and only returned after three months. One morning, she kept quiet when I asked why she looked as if everybody had offended her. When asked further, she exploded, saying that I did not like her and so forth. I countered that I had never scolded or asked her to do anything and I had to accept the fact she was married to my son.
She is behaving as if I am the cause of her problems. My son condones his wife’s behavior. He has not advised her to respect her elders, or told her her duty and responsibilities in the house. I feel she is trying to tell me that she is the one in control.
My son seldom speaks to me now, and they’re planning to move out. It’s not that I cannot live without them; what really hurts is that despite trying to build a happy family I am being labelled a tyrant.
Tyrant
IT would be best for all when your son moves out. Having them in the house is creating too much tension and unhappiness.
Do not blame yourself or worry that you are deemed a tyrant. You are a great mother who has sacrificed much for your family. But perhaps your son and his wife feel that your earlier objection to their marriage marks your disapproval and dislike. This would have made them more sensitive to what you say and do.
Your son must love his wife very much and has been trying very hard to protect her. However, he seems to lack maturity and understanding of the situation.
While you have been trying your best to accept your daughter-in-law, they prefer to stay at arm’s length and keep from being too close and warm. From the bad start, she might have felt unwanted and unwelcome in your home. She probably had been badly advised to stay aloof to avoid quarrels and altercations. And being so insecure about her position, she wouldn’t want to start her married life being treated like the housemaid in her husband’s house.
Your son and his wife should appreciate your trying so hard to hold the family together. They should also understand that you are only human and there would have been moments when you could not hold back your disappointment or disgruntlement. They could also have tried harder to fit in instead of acting like strangers in your house.
You face a very common problem of trying to live with the daughter-in-law. Each of you has a story to tell as both sides try to justify words and actions. The best way is to simply accept your son’s decision to move out and wish them well.
If they have bought a house, be happy for them. Invite them back for the weekly family dinner, and be warm and gracious to your daughter-in-law. Treat her like family, and do not be overly polite. Hopefully, time will heal the rift.
Thelma StarMag, Sunday May 9, 2010
Sunday, May 9, 2010
Mail-order ‘bride’ is married
KUALA LUMPUR: A store manager’s dream of marrying a young and beautiful Vietnamese bride was dashed when she turned out to be another man’s wife.
Tan Ching Seng, 30, and his family thought it worthwhile to fork out RM17,000 to a matchmaking agency when he first saw the woman at the KL International Airport.
“I was excited and was looking forward to a happy marriage. I thought it was God’s gift that I was able to marry this attractive woman.
Marriage woes: Chong (right) and Tan holding up the wedding photos and marriage certificate at the press conference in Kuala Lumpur “But I was shocked and didn’t know what to do when she told me that she had already been married in Vietnam in 2006,” Tan said at a press conference organised by MCA Public Services and Complaints Department head Datuk Michael Chong.
Tan found this out only after Nguyen Thi Vinh, 25 – Ah Hoong to Tan’s family – failed to come home on March 10 after returning to Vietnam when her grandmother died.
“When I managed to contact Ah Hoong a month later, she told me the shocking news.
“She claimed she had been cheated by the agent as she was supposed to come to work in Malaysia and not for marriage,” Tan said, adding that it was only then that he realised why Ah Hoong always “gave excuses” and “looked sad” when he wanted to sleep with her.
He said Ah Hoong even sent him a copy of her wedding photograph and marriage certificate,
Tan said he now wanted the agents to refund him the fee which he and his family had borrowed from relatives.
Chong said the department would help Tan take legal action against the agent.
Source: The Star Saturday May 8, 2010
Tan Ching Seng, 30, and his family thought it worthwhile to fork out RM17,000 to a matchmaking agency when he first saw the woman at the KL International Airport.
“I was excited and was looking forward to a happy marriage. I thought it was God’s gift that I was able to marry this attractive woman.
Marriage woes: Chong (right) and Tan holding up the wedding photos and marriage certificate at the press conference in Kuala LumpurTan found this out only after Nguyen Thi Vinh, 25 – Ah Hoong to Tan’s family – failed to come home on March 10 after returning to Vietnam when her grandmother died.
“When I managed to contact Ah Hoong a month later, she told me the shocking news.
“She claimed she had been cheated by the agent as she was supposed to come to work in Malaysia and not for marriage,” Tan said, adding that it was only then that he realised why Ah Hoong always “gave excuses” and “looked sad” when he wanted to sleep with her.
He said Ah Hoong even sent him a copy of her wedding photograph and marriage certificate,
Tan said he now wanted the agents to refund him the fee which he and his family had borrowed from relatives.
Chong said the department would help Tan take legal action against the agent.
Source: The Star Saturday May 8, 2010
Saturday, May 8, 2010
Down-to-earth advice on life and investing
A Gift to My Children: A Father’s Lessons for Life and Investing
Author: Jim Rogers
Publisher: John Wiley & Sons
JIM Rogers is the co-founder together with George Soros of the famous Quantum Fund, which gave gargantuan returns to its investors.
According to the author’s notes, Quantum grew an astounding 42 times in the seventies, compared to a mere 47% for the S&P 500 which tracks the broad US market.
It made Rogers (and Soros) a millionaire many times over and enabled him to retire at the tender age of 37.
It also enabled him to make a fabled motorcycle trip of many thousands of kilometres across six continents, bringing him closer to the peoples of the many lands he visited and letting him form a better picture of the investment potential of countries around the globe.
Rogers followed that up with another overland trip in a specially designed car taking him and his wife through 116 countries (and 15 civil wars) and a journey of over 150,000 miles.
When you are a maverick celebrity investor and an outspoken commentator who has a proven track record, people stop and listen when you speak and they do read when you write.
And that’s what has happened with Rogers, a best selling author of somewhat offbeat investment books.
Two of those books included travel as well, chronicling his two major odysseys – Investment Biker (1994), and Adventure Capitalist (2003).
I was intrigued by the title of the latest book, A Gift to My Children: A Father’s Lessons for Life and Investing, and wondered what it was that Rogers would want to leave his kids.
Most assuredly, their worldly requirements would be taken care of so what is it that he will leave his kids in a book?
The other thing that I was curious about is that the book was thin – a mere 86 pages – as befits books for children. I have found that slim books often say more than fat ones much more quickly and gravitated to it.
One thing for sure, Rogers is not a conventional man, although much of the advice that he dispenses in the book is, well common sense, which Rogers describes as “not so common”.
Sample: Question everything, never follow the crowd, and beware of boys (yes, both his children are girls). One more: The quickest way to success is to do what you like and give it your best.
But let me take issue with him over a couple of things. He had his first child at the age of 61 in 2003 (what took him so long, considering he retired at the age of 37?) And he had his second in 2008, at the age of 66.
No, I am not questioning him over his wisdom of having children that late in life because a lot of things can account for that.
But really to name your first child Happy and the next one Baby Bee, is rather, shall we say, imprudent. That could give the poor kids some serious headaches in future.
(Note: Finance and statistical theory suggest that to a get a return of 42 times in a decade or less means you would have to be less than prudent – that is you have to take excessive risks. No major risk, no major gain.)
It’s good to see that he emphasises being ethical. “...You must respect and follow the rules, laws and ethical practices without which society cannot exist. This is expected of everyone,” he says.
But turn the page over and this is what he has to say about his ex-wife: “I was once married to a woman who was always nagging me to buy a new sofa, a new TV and so on. I’d explain that if we saved and invested wisely, one day we could afford ten sofas or whatever. Needless to say, we did not stay married long, and now I am lucky to have your mother, who shares the same attitude towards personal finances.”
That’s a rather cheap shot and really was quite unnecessary as a public lesson on thrift. And does he expect his children (and us) to believe that the marriage broke down only because he and his ex-wife did not see eye-to-eye on personal finances?
Good ethics dictate that he should have kept his personal differences, well, personal, instead of making it so public.
But perhaps I am nitpicking. Overall, the book is a novel effort at giving younger people – and even some adults – some pretty good, down-to-earth advice on life and investing, as the subhead of the book indicates.
On top of that, it gives some valuable insights into the workings of the mind of one of our better-known and more successful investors, revealing the thought processes and methods, in broad strokes, that went into the eventual investment decision.
There are nuggets of wisdom. Example: What is happening now has happened before and will happen again. He said this when explaining why you need to become a student of history.
It’s a book about the big picture, the sweeping strategies and philosophies. It is that much more attractive and eminently readable because of that.
And it makes you want to read Rogers’ other books, which I might, especially the ones on his travels.
Book Review by P. GUNASEGARAM
Author: Jim Rogers
Publisher: John Wiley & Sons
JIM Rogers is the co-founder together with George Soros of the famous Quantum Fund, which gave gargantuan returns to its investors.
It made Rogers (and Soros) a millionaire many times over and enabled him to retire at the tender age of 37.
It also enabled him to make a fabled motorcycle trip of many thousands of kilometres across six continents, bringing him closer to the peoples of the many lands he visited and letting him form a better picture of the investment potential of countries around the globe.
Rogers followed that up with another overland trip in a specially designed car taking him and his wife through 116 countries (and 15 civil wars) and a journey of over 150,000 miles.
When you are a maverick celebrity investor and an outspoken commentator who has a proven track record, people stop and listen when you speak and they do read when you write.
And that’s what has happened with Rogers, a best selling author of somewhat offbeat investment books.
Two of those books included travel as well, chronicling his two major odysseys – Investment Biker (1994), and Adventure Capitalist (2003).
I was intrigued by the title of the latest book, A Gift to My Children: A Father’s Lessons for Life and Investing, and wondered what it was that Rogers would want to leave his kids.
Most assuredly, their worldly requirements would be taken care of so what is it that he will leave his kids in a book?
The other thing that I was curious about is that the book was thin – a mere 86 pages – as befits books for children. I have found that slim books often say more than fat ones much more quickly and gravitated to it.
One thing for sure, Rogers is not a conventional man, although much of the advice that he dispenses in the book is, well common sense, which Rogers describes as “not so common”.
Sample: Question everything, never follow the crowd, and beware of boys (yes, both his children are girls). One more: The quickest way to success is to do what you like and give it your best.
But let me take issue with him over a couple of things. He had his first child at the age of 61 in 2003 (what took him so long, considering he retired at the age of 37?) And he had his second in 2008, at the age of 66.
No, I am not questioning him over his wisdom of having children that late in life because a lot of things can account for that.
But really to name your first child Happy and the next one Baby Bee, is rather, shall we say, imprudent. That could give the poor kids some serious headaches in future.
(Note: Finance and statistical theory suggest that to a get a return of 42 times in a decade or less means you would have to be less than prudent – that is you have to take excessive risks. No major risk, no major gain.)
It’s good to see that he emphasises being ethical. “...You must respect and follow the rules, laws and ethical practices without which society cannot exist. This is expected of everyone,” he says.
But turn the page over and this is what he has to say about his ex-wife: “I was once married to a woman who was always nagging me to buy a new sofa, a new TV and so on. I’d explain that if we saved and invested wisely, one day we could afford ten sofas or whatever. Needless to say, we did not stay married long, and now I am lucky to have your mother, who shares the same attitude towards personal finances.”
That’s a rather cheap shot and really was quite unnecessary as a public lesson on thrift. And does he expect his children (and us) to believe that the marriage broke down only because he and his ex-wife did not see eye-to-eye on personal finances?
Good ethics dictate that he should have kept his personal differences, well, personal, instead of making it so public.
But perhaps I am nitpicking. Overall, the book is a novel effort at giving younger people – and even some adults – some pretty good, down-to-earth advice on life and investing, as the subhead of the book indicates.
On top of that, it gives some valuable insights into the workings of the mind of one of our better-known and more successful investors, revealing the thought processes and methods, in broad strokes, that went into the eventual investment decision.
There are nuggets of wisdom. Example: What is happening now has happened before and will happen again. He said this when explaining why you need to become a student of history.
It’s a book about the big picture, the sweeping strategies and philosophies. It is that much more attractive and eminently readable because of that.
And it makes you want to read Rogers’ other books, which I might, especially the ones on his travels.
Book Review by P. GUNASEGARAM
p.guna@thestar.com.my
Building the banks of tomorrow
THE recent global financial meltdown has forced financial services institutions (FSIs) to go back to basics and look at the real drivers of sustainable growth.
With 2010 said to be the “Year of the Comeback” for Asian FSIs, it is a crucial time for these institutions to identify emerging trends and capture new opportunities.
Many FSIs do not realise that they are losing growth momentum and experiencing mounting liabilities.
Today, traditional revenue pillars such as consumer credit, mortgages, and commercial real estate are turning into major liabilities.
Banks for example have invested heavily in meeting the needs of baby boomers in the past.
These customers are now pushing out plans to retire, revisiting their portfolios and spending less. Income from interests and fees associated with this generation is at greater risk due to a reduction in applications for loans and the transfer of wealth to the next generation.
Fortunately, Generation Y (Gen Y) has emerged as the next target market that will impact FSIs, particularly retail banks.
Gen Y, also known as the millennials, are those born in and after 1980. This generation is expected to transform every industry they are associated with.
Today, Gen Y makes up about 40% of the Malaysian workforce. Their numbers are growing.
Their increasing disposable income means they will supplant baby-boomers and silvers as the largest customer segment by population. Malaysia’s FSIs need to recognise this untapped market to capture first-mover advantage.
What could be more compelling than opportunities to lead the market, increase revenue and set the pace for future growth?
According to a global study conducted by Cisco Internet Business Solutions Group in October 2009, banks can potentially boost revenues by up to 10% by embracing Gen Y consumers.
The study revealed that Gen Y consumers trust their banks. Despite the challenging financial market last year, they relied on their banks to be primary advisors for their financial priorities, where top concerns were debt reduction, expense management and financial education.
Younger customers also want banks to address their needs on social and technology platforms like mobile devices, video, and social networks.
The same study highlights that nearly 40% of Gen Y consumers are interested in interacting with an advisor via video, compared to 17% for boomers and silvers.
This highlights the importance of connectivity and relationships for this demographic.
While online presence and strategies are nothing new to Malaysia’s FSIs, the Gen Y characteristics have introduced a new set of expectations.
Malaysian FSIs need to think and plan out-of-the-box to get the attention of and achieve success with Gen Y customers.
Investing for the future
Identifying innovative ways to engage with customers will ensure banks are on the right track towards sustaining growth in this highly competitive landscape.
A report by PricewaterhouseCoopers last year stated that the future belongs to organisations that can spot abilities to add value to market segments where customers are willing to pay for their products.
It is about the courage to act on these insights and invest in some businesses while making the decision to shrink others.
Modern FSIs that are prepared to reap new market opportunities are those that are quick to realign to better serve their most profitable customers – differentiating themselves from the second tier players.
Where Gen Y is concerned, personal financial management (PFM) services are central to emerging revenue growth opportunities.
Targeting a group that is unique in demand, self empowerment and engagement, PFM tools are likely to attract the younger crowd, and generate higher profits, balances, product and service consumption, and loyalty.
Innovative capabilities are key in helping customers gain control and improve consumer relationships.
It is also necessary to develop and elevate an online financial services community comprised of family, friends and peers centred on the common objective of better financial management.
Companies that understand and engage this generation on their level will achieve brand loyalty.
It is time for local FSIs to transform their organisations by better connecting data systems between locations, improve communications among branches, effectively reduce physical transactions and provide secure self-service applications and multiple delivery channels.
Appropriate utilisation of modern networking and collaborative technologies is probably the fastest way to advance the capabilities of FSIs. But technology alone is not the answer. Such investments can only bear fruit when they are planned and incorporated in a strategic manner to redefine an FSI’s operations and environment – not only to become Gen Y ready, but also to reduce cost, improve productivity and increase revenue.
Any technology investment has to drive an impactful shift on the overall business approach. Eventually, merely getting connected is no longer sufficient.
The future places great emphasis on the creation of an integrated value proposition that meets the needs of Gen Y to help manage their finances, debt and spending by offering professional advice in an automated fashion.
As the world around us develops at a pace faster than anyone can imagine, we must be agile and willing to keep up, else we get lost in the transition.
It is important for FSIs to stay current with their customers, across all demographics, to become the bank for everyone’s future.
Only then will they be able to leap further to greater heights, as what Sun Tzu says in The Art of War – opportunities multiply as they are seized!
With 2010 said to be the “Year of the Comeback” for Asian FSIs, it is a crucial time for these institutions to identify emerging trends and capture new opportunities.
Many FSIs do not realise that they are losing growth momentum and experiencing mounting liabilities.
Today, traditional revenue pillars such as consumer credit, mortgages, and commercial real estate are turning into major liabilities.
Banks for example have invested heavily in meeting the needs of baby boomers in the past.
These customers are now pushing out plans to retire, revisiting their portfolios and spending less. Income from interests and fees associated with this generation is at greater risk due to a reduction in applications for loans and the transfer of wealth to the next generation.
Fortunately, Generation Y (Gen Y) has emerged as the next target market that will impact FSIs, particularly retail banks.
Gen Y, also known as the millennials, are those born in and after 1980. This generation is expected to transform every industry they are associated with.
Today, Gen Y makes up about 40% of the Malaysian workforce. Their numbers are growing.
Their increasing disposable income means they will supplant baby-boomers and silvers as the largest customer segment by population. Malaysia’s FSIs need to recognise this untapped market to capture first-mover advantage.
What could be more compelling than opportunities to lead the market, increase revenue and set the pace for future growth?
According to a global study conducted by Cisco Internet Business Solutions Group in October 2009, banks can potentially boost revenues by up to 10% by embracing Gen Y consumers.
The study revealed that Gen Y consumers trust their banks. Despite the challenging financial market last year, they relied on their banks to be primary advisors for their financial priorities, where top concerns were debt reduction, expense management and financial education.
Younger customers also want banks to address their needs on social and technology platforms like mobile devices, video, and social networks.
The same study highlights that nearly 40% of Gen Y consumers are interested in interacting with an advisor via video, compared to 17% for boomers and silvers.
This highlights the importance of connectivity and relationships for this demographic.
While online presence and strategies are nothing new to Malaysia’s FSIs, the Gen Y characteristics have introduced a new set of expectations.
Malaysian FSIs need to think and plan out-of-the-box to get the attention of and achieve success with Gen Y customers.
Investing for the future
Identifying innovative ways to engage with customers will ensure banks are on the right track towards sustaining growth in this highly competitive landscape.
A report by PricewaterhouseCoopers last year stated that the future belongs to organisations that can spot abilities to add value to market segments where customers are willing to pay for their products.
It is about the courage to act on these insights and invest in some businesses while making the decision to shrink others.
Modern FSIs that are prepared to reap new market opportunities are those that are quick to realign to better serve their most profitable customers – differentiating themselves from the second tier players.
Where Gen Y is concerned, personal financial management (PFM) services are central to emerging revenue growth opportunities.
Targeting a group that is unique in demand, self empowerment and engagement, PFM tools are likely to attract the younger crowd, and generate higher profits, balances, product and service consumption, and loyalty.
Innovative capabilities are key in helping customers gain control and improve consumer relationships.
It is also necessary to develop and elevate an online financial services community comprised of family, friends and peers centred on the common objective of better financial management.
Companies that understand and engage this generation on their level will achieve brand loyalty.
It is time for local FSIs to transform their organisations by better connecting data systems between locations, improve communications among branches, effectively reduce physical transactions and provide secure self-service applications and multiple delivery channels.
Appropriate utilisation of modern networking and collaborative technologies is probably the fastest way to advance the capabilities of FSIs. But technology alone is not the answer. Such investments can only bear fruit when they are planned and incorporated in a strategic manner to redefine an FSI’s operations and environment – not only to become Gen Y ready, but also to reduce cost, improve productivity and increase revenue.
Any technology investment has to drive an impactful shift on the overall business approach. Eventually, merely getting connected is no longer sufficient.
The future places great emphasis on the creation of an integrated value proposition that meets the needs of Gen Y to help manage their finances, debt and spending by offering professional advice in an automated fashion.
As the world around us develops at a pace faster than anyone can imagine, we must be agile and willing to keep up, else we get lost in the transition.
It is important for FSIs to stay current with their customers, across all demographics, to become the bank for everyone’s future.
Only then will they be able to leap further to greater heights, as what Sun Tzu says in The Art of War – opportunities multiply as they are seized!
By ANNE ABRAHAM
Anne Abraham is Cisco Malaysia managing director.
PIIGS countries can’t fly – the Greek tragedy !
ON my way back to Kuala Lumpur after attending Asia Vision 21: Values, Conflicts and Change in Asia organised by Harvard’s Asia Centre and Harvard Kennedy School’s Ash Centre, I could not help but feel sorry for the people of Greece given the predicament they are now in.
Greece’s problems are well known. My economics teacher Martin Feldstein had in late April judged Greece to be already insolvent and “at that point, will default”, or more politely, in negotiated default.
This can take many forms, including an “organised restructuring of the existing debt, swapping new debt with lower principal and interest for existing bonds.” That’s certainly one way to go where everyone (including creditors) shares the pain.
Over the February Chinese New Year holidays, the debt “death trap” that engulfed Greece was all over the place. In my Feb 27 column “The kiss of debt”, I discussed Greece’s dilemma and argued Greece might have been able to avoid the outcome if it were not in the Euro-zone and had its own currency, the drachma, back.
Greece was not alone in this. Together with the other Euro-zone PIIGS (Portugal, Italy, Ireland, Greece and Spain), these so called Club-Med members of the European Union (EU) share common traits: weak fiscal and debt positions, weak exports, weak balance of payments, and weak productivity (too high wages) caught in a zone with a strong euro, which made them all the more uncompetitive.
Desperate times, desperate measures
As I see it, they have only one way to go to restore competitiveness – fiscal retrenchment and structural reform. But the PIIGS don’t have a track record of fiscal discipline.
Greece, for example, lacks the economic governance of the EU and fiscal discipline of the Germans. Yet, it has to make the most of a weak hand at a 3-way poker involving the EU, capital markets and potential social unrest at home.
I then concluded: “In my view, they can best do this under an IMF (International Monetary Fund) programme and not in the shadow of the European Commission (EC) and the ECB (European Central Bank) without smelling like a bailout. The IMF gives them the best option to re-establish lost policy credibility.”
As events unfolded, I was in the “ballpark”. Many of the Euro-zone’s 16 member governments had opposed the IMF’s involvement because it reflected badly on the EU’s inability to resolve its own internal problems.
Early this week, the EU and IMF proposed a three-year 110bil euro (about 1/3 of Greece’s debt) deal that will extract huge sacrifices from the Greek people.
As I understand it, the IMF leads the rescue by providing 30bil euros, Germany 22bil euros, France 17bil euros, and the rest from the remaining 13 EU members.
In return, the bitter medicine for the Greeks will include: deep cuts in the fiscal deficit from 13.6% of gross domestic product (GDP) to EU limit of 3% by 2014, reduction in public debt topping at 150% of GDP in 2013 to 144% in 2014 and progressively lower thereafter, and stiff austerity with a combination of pay and budget cuts and tax increases.
The package needs EU approval this weekend. Essentially, the EU and IMF have given Greece only 12-18 months to show it can reform itself. Then, it’s back to the markets for more cash. This is tough by any standard. Especially when the package will bring about cumulatively 8% fall in GDP.
Greece’s problems are well known. My economics teacher Martin Feldstein had in late April judged Greece to be already insolvent and “at that point, will default”, or more politely, in negotiated default.
This can take many forms, including an “organised restructuring of the existing debt, swapping new debt with lower principal and interest for existing bonds.” That’s certainly one way to go where everyone (including creditors) shares the pain.
Over the February Chinese New Year holidays, the debt “death trap” that engulfed Greece was all over the place. In my Feb 27 column “The kiss of debt”, I discussed Greece’s dilemma and argued Greece might have been able to avoid the outcome if it were not in the Euro-zone and had its own currency, the drachma, back.
Greece was not alone in this. Together with the other Euro-zone PIIGS (Portugal, Italy, Ireland, Greece and Spain), these so called Club-Med members of the European Union (EU) share common traits: weak fiscal and debt positions, weak exports, weak balance of payments, and weak productivity (too high wages) caught in a zone with a strong euro, which made them all the more uncompetitive.
Desperate times, desperate measures
As I see it, they have only one way to go to restore competitiveness – fiscal retrenchment and structural reform. But the PIIGS don’t have a track record of fiscal discipline.
Greece, for example, lacks the economic governance of the EU and fiscal discipline of the Germans. Yet, it has to make the most of a weak hand at a 3-way poker involving the EU, capital markets and potential social unrest at home.
I then concluded: “In my view, they can best do this under an IMF (International Monetary Fund) programme and not in the shadow of the European Commission (EC) and the ECB (European Central Bank) without smelling like a bailout. The IMF gives them the best option to re-establish lost policy credibility.”
As events unfolded, I was in the “ballpark”. Many of the Euro-zone’s 16 member governments had opposed the IMF’s involvement because it reflected badly on the EU’s inability to resolve its own internal problems.
Early this week, the EU and IMF proposed a three-year 110bil euro (about 1/3 of Greece’s debt) deal that will extract huge sacrifices from the Greek people.
As I understand it, the IMF leads the rescue by providing 30bil euros, Germany 22bil euros, France 17bil euros, and the rest from the remaining 13 EU members.
In return, the bitter medicine for the Greeks will include: deep cuts in the fiscal deficit from 13.6% of gross domestic product (GDP) to EU limit of 3% by 2014, reduction in public debt topping at 150% of GDP in 2013 to 144% in 2014 and progressively lower thereafter, and stiff austerity with a combination of pay and budget cuts and tax increases.
The package needs EU approval this weekend. Essentially, the EU and IMF have given Greece only 12-18 months to show it can reform itself. Then, it’s back to the markets for more cash. This is tough by any standard. Especially when the package will bring about cumulatively 8% fall in GDP.
Debt jitters spread
As I had expected, the EU (especially France and Spain) is reported to have fought hard to keep the IMF out of the deal, but ended up endorsing a set of measures that bears IMF’s imprimatur.
This was deliberate; intended to persuade financial markets that Greece has a chance (I think, slim) of succeeding.
Nevertheless, market reaction since has been swift and severe across the board. On May 5, the US dollar strengthened to a 12-month high; the euro dropped to a one-year low (US$1.28). The euro depreciated close to 11% against the US dollar this year. As optimism over economic recovery in the US contrasted with doubts about successful resolution of the Greek debt crisis, sell-off in Asian equity accelerated in Europe and US.
European stocks tumbled to two-month lows, while bond markets of the weaker Euro-zone numbers fell as loss of confidence rattled investors across all asset classes.
Since May 4, the Dow fell 2½% and the FTSE Eurofirst 300 Index closed 3% lower, while Asian stocks were mostly lower, with the Shanghai Index down 2%.
The Vix SAP 500 Index (a gauge of expected equity market volatility) rose to 24-25, the highest one-day spike since October 2008. It continues to stay elevated, reflecting trading on event risk.
Overall, the Greek debacle casts a long shadow over market sentiment. Many risks still remain. Topmost is fear of contagion. Worry is centered on the other PIIGS, notably Portugal and Spain, since they may also need to be rescued.
I have seen estimates of the total size of a possible liquidity backstop for the PIIGS in the region of 500bil-1 trillion euros.
Bear in mind they are all facing interest rate increases at a time when they can least afford.
The private sector in many of these countries is simply not viable at rising higher rates. Last week, Spain joined Greece and Portugal in being downgraded by Standard & Poor’s, the credit rating agency. While Spain’s credit rating remains well above Greece’s junk status (BB+) and ahead of Portugal’s A-, its fall to AA was a severe blow.
After all, Spain’s budget deficit stands at 8.9% of GDP and Portugal, 7.6% in terms of public debt to GDP, Spain’s ratio is 60% and Portugal 82%.
My own sense is that it will not be easy for Spain and Portugal to avoid going to the IMF/EU for loans as they both have deteriorating public finances and rather weak economies. The only way out for them is to get international help early. It is now an issue of market psychology. I am convinced that if the EU (especially Germany) had sealed Greece’s deal in February, the rescue package would have been more cost effective.
Vicious cycle
By now, the vicious cycle at play should be familiar. First, the country’s financial situation deteriorates. Then, its debt is downgraded which in turn triggers off a sharp rise in market borrowing rates. That leads to further financial deterioration.
Second, the proposed package looks tight. The market estimates Greece will need at least 150bil euros to have a reasonable chance of success.
The only certainty so far is its ability to meet the 8.5bil euro bond payment in two weeks. To assume that Greece will do well enough by end-2011 to be able to borrow from the capital markets is too optimistic.
Bringing its budget deficit target down to 4.9% in 2013 will require about 50bil euros over three years.
In addition, past debt has to be serviced and Greece has another 70bil euros to repay by mid-2013. Thus, such financing already takes up 120bil euros.
There is simply no way around the arithmetic implied by the scale and urgency of the deficit reduction, debt servicing and the accompanying economic decline. I am not surprised the market is sceptical.
Third, fiscal consolidation is tough; without it, the pain inflicted could make the burden very painful. Burden sharing is critical. The political consequences should not be underestimated.
It is incredible that the rescue involves no hair-cuts and no restructuring. This package can be likened to what the IMF did to Latin America in the 1980s, which lead to a lost decade.
Without debt restructuring, the beneficiaries will be foreign creditors who get away fully paid (no hair-cut). The risks make it well-nigh impossible for Greece to return to the market for more loans later on.
Fourth, the package calls for very demanding austerity and sacrifice by the Greeks. Workers protests and strikes during the week reflect very real risks. As a result, markets are on a panic mode, draining bond markets of liquidity and forced-sales because of sovereign debt downgrades.
Unclear future
The climate of confidence has definitely changed for the worse. It is unclear whether the Greek government – facing angry unions and young workers – can push through and maintain the austerity steps it promised.
It is also unclear if the uncompetitive Greek economy, mired by recession still, can survive the sacrifices melted out while remaining in the Euro-zone. It remains unclear how the political tensions within and among the rich Euro-zone countries on handling the debt crisis will play out.
There is a sense that Germany in particular does not like any bailout. What is clear is the Greeks are ill-prepared for a long period of potentially back-breaking austerity, devoid of social justice. Without support of the public who are already outraged at corrupt politicians (whom they hold accountable for the crisis), the rescue is doomed to fail.
Why the mess? Most headlines in recent days were centered on Greece’s high debt as the villain – a profligate government who mismanaged the nation’s finances.
This is certainly part of the story. But the Greek tragedy has its roots in Greece being a member of the Euro-zone. Prior to the global recession, the state of Greece’s finances wasn’t so bad.
Its budget deficits and debt levels were high but manageable. It attracted its share of capital inflows on the belief that Greece’s bonds (as a member of the EU) were safe investments.
The 2007/2008 crisis changed all that. With easy money fast disappearing in the face of falling revenues and rising costs and a good life, Greece soon became uncompetitive and its economic situation worsened. As they say, the rest is history.
Unfortunately, as a member of the Euro-zone, Greece had to give up its own currency (and adopted the euro in its place) and control over interest rates. The only way out for Greece is to make drastic budget cuts (i.e. deflate) – which can be very painful – to become more competitive.
Unlike non-Euro nations, Greece could not adjust by depreciating its own exchange rate (since it doesn’t have its own currency anymore), and the euro (controlled by Germany) was not about to inflate.
Its finances became precarious. So much so its bonds were downgraded to junk status. This simply meant that the euro value of Greece’s GDP is unlikely to revert its 2008 level until 2017 according to S&P. Greece simply is unable to grow out of its troubles.
The concern is that the EU has no reliable financial mechanism to help members in trouble to adjust.
This is precisely what Euro-sceptics like Feldstein and Paul Krugman feared, bringing with it a crisis that can undermine the EU as a monetary union without political union.
Without its own currency, there is no market signal to warn Greece that its deficits and debt reached unacceptable levels. Euro-sceptics remain unconvinced that the EU’s problems are anything but over. Maybe, a real default is what is needed to test the EU as a viable political and economic union.
Lessons
The Greek tragedy should be instructive. For regionalists in Asia in a hurry to emulate the EU and push for monetary union – however loose – recent experience offers valuable lessons.
Among the necessary conditions are allowance for a crisis resolution mechanism, provision of effective fiscal policy co-ordination, and arrangements for a reliable mechanism to reduce intra-regional imbalances.
These point to the need for strong, disciplined support and ready access to sufficient funds to cushion off adjustments among problem members.
The endgame is obvious – avoid, at all costs, giving-up degrees of freedom you already have in policy adjustments, without sacrificing safeguards needed to protect national interests.
Governments need flexibility to act quickly and with clarity in times of crisis. Krugman is right on what he thought Greece did wrong in joining the EU: they denied themselves the ability to do some bad things (like printing money), but they also denied themselves the ability to respond flexibly to events.
WHAT ARE WE TO DO
Former banker Dr Lin is a Harvard-educated economist and a British Chartered Scientist who now spends time writing, teaching and promoting the public interest. Feedback is most welcome at
starbizweek@thestar.com.my.
As I had expected, the EU (especially France and Spain) is reported to have fought hard to keep the IMF out of the deal, but ended up endorsing a set of measures that bears IMF’s imprimatur.
This was deliberate; intended to persuade financial markets that Greece has a chance (I think, slim) of succeeding.
Nevertheless, market reaction since has been swift and severe across the board. On May 5, the US dollar strengthened to a 12-month high; the euro dropped to a one-year low (US$1.28). The euro depreciated close to 11% against the US dollar this year. As optimism over economic recovery in the US contrasted with doubts about successful resolution of the Greek debt crisis, sell-off in Asian equity accelerated in Europe and US.
European stocks tumbled to two-month lows, while bond markets of the weaker Euro-zone numbers fell as loss of confidence rattled investors across all asset classes.
Since May 4, the Dow fell 2½% and the FTSE Eurofirst 300 Index closed 3% lower, while Asian stocks were mostly lower, with the Shanghai Index down 2%.
The Vix SAP 500 Index (a gauge of expected equity market volatility) rose to 24-25, the highest one-day spike since October 2008. It continues to stay elevated, reflecting trading on event risk.
Overall, the Greek debacle casts a long shadow over market sentiment. Many risks still remain. Topmost is fear of contagion. Worry is centered on the other PIIGS, notably Portugal and Spain, since they may also need to be rescued.
I have seen estimates of the total size of a possible liquidity backstop for the PIIGS in the region of 500bil-1 trillion euros.
Bear in mind they are all facing interest rate increases at a time when they can least afford.
The private sector in many of these countries is simply not viable at rising higher rates. Last week, Spain joined Greece and Portugal in being downgraded by Standard & Poor’s, the credit rating agency. While Spain’s credit rating remains well above Greece’s junk status (BB+) and ahead of Portugal’s A-, its fall to AA was a severe blow.
After all, Spain’s budget deficit stands at 8.9% of GDP and Portugal, 7.6% in terms of public debt to GDP, Spain’s ratio is 60% and Portugal 82%.
My own sense is that it will not be easy for Spain and Portugal to avoid going to the IMF/EU for loans as they both have deteriorating public finances and rather weak economies. The only way out for them is to get international help early. It is now an issue of market psychology. I am convinced that if the EU (especially Germany) had sealed Greece’s deal in February, the rescue package would have been more cost effective.
Vicious cycle
By now, the vicious cycle at play should be familiar. First, the country’s financial situation deteriorates. Then, its debt is downgraded which in turn triggers off a sharp rise in market borrowing rates. That leads to further financial deterioration.
Second, the proposed package looks tight. The market estimates Greece will need at least 150bil euros to have a reasonable chance of success.
The only certainty so far is its ability to meet the 8.5bil euro bond payment in two weeks. To assume that Greece will do well enough by end-2011 to be able to borrow from the capital markets is too optimistic.
Bringing its budget deficit target down to 4.9% in 2013 will require about 50bil euros over three years.
In addition, past debt has to be serviced and Greece has another 70bil euros to repay by mid-2013. Thus, such financing already takes up 120bil euros.
There is simply no way around the arithmetic implied by the scale and urgency of the deficit reduction, debt servicing and the accompanying economic decline. I am not surprised the market is sceptical.
Third, fiscal consolidation is tough; without it, the pain inflicted could make the burden very painful. Burden sharing is critical. The political consequences should not be underestimated.
It is incredible that the rescue involves no hair-cuts and no restructuring. This package can be likened to what the IMF did to Latin America in the 1980s, which lead to a lost decade.
Without debt restructuring, the beneficiaries will be foreign creditors who get away fully paid (no hair-cut). The risks make it well-nigh impossible for Greece to return to the market for more loans later on.
Fourth, the package calls for very demanding austerity and sacrifice by the Greeks. Workers protests and strikes during the week reflect very real risks. As a result, markets are on a panic mode, draining bond markets of liquidity and forced-sales because of sovereign debt downgrades.
Unclear future
The climate of confidence has definitely changed for the worse. It is unclear whether the Greek government – facing angry unions and young workers – can push through and maintain the austerity steps it promised.
It is also unclear if the uncompetitive Greek economy, mired by recession still, can survive the sacrifices melted out while remaining in the Euro-zone. It remains unclear how the political tensions within and among the rich Euro-zone countries on handling the debt crisis will play out.
There is a sense that Germany in particular does not like any bailout. What is clear is the Greeks are ill-prepared for a long period of potentially back-breaking austerity, devoid of social justice. Without support of the public who are already outraged at corrupt politicians (whom they hold accountable for the crisis), the rescue is doomed to fail.
Why the mess? Most headlines in recent days were centered on Greece’s high debt as the villain – a profligate government who mismanaged the nation’s finances.
This is certainly part of the story. But the Greek tragedy has its roots in Greece being a member of the Euro-zone. Prior to the global recession, the state of Greece’s finances wasn’t so bad.
Its budget deficits and debt levels were high but manageable. It attracted its share of capital inflows on the belief that Greece’s bonds (as a member of the EU) were safe investments.
The 2007/2008 crisis changed all that. With easy money fast disappearing in the face of falling revenues and rising costs and a good life, Greece soon became uncompetitive and its economic situation worsened. As they say, the rest is history.
Unfortunately, as a member of the Euro-zone, Greece had to give up its own currency (and adopted the euro in its place) and control over interest rates. The only way out for Greece is to make drastic budget cuts (i.e. deflate) – which can be very painful – to become more competitive.
Unlike non-Euro nations, Greece could not adjust by depreciating its own exchange rate (since it doesn’t have its own currency anymore), and the euro (controlled by Germany) was not about to inflate.
Its finances became precarious. So much so its bonds were downgraded to junk status. This simply meant that the euro value of Greece’s GDP is unlikely to revert its 2008 level until 2017 according to S&P. Greece simply is unable to grow out of its troubles.
The concern is that the EU has no reliable financial mechanism to help members in trouble to adjust.
This is precisely what Euro-sceptics like Feldstein and Paul Krugman feared, bringing with it a crisis that can undermine the EU as a monetary union without political union.
Without its own currency, there is no market signal to warn Greece that its deficits and debt reached unacceptable levels. Euro-sceptics remain unconvinced that the EU’s problems are anything but over. Maybe, a real default is what is needed to test the EU as a viable political and economic union.
Lessons
The Greek tragedy should be instructive. For regionalists in Asia in a hurry to emulate the EU and push for monetary union – however loose – recent experience offers valuable lessons.
Among the necessary conditions are allowance for a crisis resolution mechanism, provision of effective fiscal policy co-ordination, and arrangements for a reliable mechanism to reduce intra-regional imbalances.
These point to the need for strong, disciplined support and ready access to sufficient funds to cushion off adjustments among problem members.
The endgame is obvious – avoid, at all costs, giving-up degrees of freedom you already have in policy adjustments, without sacrificing safeguards needed to protect national interests.
Governments need flexibility to act quickly and with clarity in times of crisis. Krugman is right on what he thought Greece did wrong in joining the EU: they denied themselves the ability to do some bad things (like printing money), but they also denied themselves the ability to respond flexibly to events.
WHAT ARE WE TO DO
By TAN SRI LIN SEE-YAN
Former banker Dr Lin is a Harvard-educated economist and a British Chartered Scientist who now spends time writing, teaching and promoting the public interest. Feedback is most welcome at starbizweek@thestar.com.my.
Eurozone leaders approve Greece aid package
 Eurozone laders agreed to "accelerate" plans to reduce public deficits |
Leaders of the 16 EU member states that use the euro have approved an 110bn euro ($145bn; £95bn) loan to Greece to prevent its debt crisis from spreading.
In return for the three-year loan, Athens must cut public spending.
The euro's value has fallen because of fears that countries such as Spain and Portugal could suffer similar problems.
The eurozone leaders also announced proposals for a European Stabilisation Mechanism to preserve financial stability.
'Serious situation'
At a meeting in Brussels on Friday, the eurozone leaders gave their approval to the EU-International Monetary Fund rescue package for Greece, and committed to "accelerate" plans to reduce deficits.
 |  We have several instruments at our disposal and we will use them  Jose Manuel Barroso European Commission President  |
All institutions, including the European Central Bank, would use the "full range of means available to ensure the stability of the euro area", they said in a statement.
"We will defend the euro whatever it takes. We have several instruments at our disposal and we will use them," Mr Barroso told a news conference afterwards.
He declined to give any details of the plans, which will be presented to the finance ministers of all 27 EU member states at a meeting on Sunday, but said it would be done under "existing financial possibilities" in the budget.
The BBC's Jonny Dymond in Brussels says Greece's bail-out is requiring a lot more money than was suggested just a few weeks ago.
What went wrong in Greece?
"[We] are full aware that we face a serious situation in the eurozone. It is about responsibility and it is about solidarity. We will face the situation together," said Herman Van Rompuy, the president of the European Council. The leaders hope to have the new European Stabilisation Mechanism, which would have up to 70bn euros at its disposal, in place before markets open on Monday to prevent investor fears over Greece spreading to other countries with high deficits, low growth or low competitiveness. Germany's Chancellor, Angela Merkel, said the mechanism would send a "very clear signal" to market speculators to back off. She had earlier spoken to US President Barack Obama, who called for a "strong policy response" extending to the international community. Source: BBC, 8 May 2010 02:04 UK, Newscribe : get free news in real time |
Greek bailout is a small price to pay to protect us all
Only the hedge fund millionaires shorting the Greek debit would benefit from the demise of the euro
Europe's eyes are on the outcome of a knife-edge election. But it's not ours. A possibly more important one is taking place tomorrow, in North Rhine Westphalia, Germany. At stake is no less than the future of the euro, with voters in the industrial heartland of the Ruhr delivering their verdict on the extraordinary €22.4bn (£19bn) that German taxpayers are stumping up as their share of the rescue package for Greece.
A growing backlash against a country punch-drunk on debt, where, according to press reports, workers retire on average at 53, and where state pensions are 95% of average pay, means the coalition led by German chancellor Angela Merkel will no doubt suffer a bloody nose.
In Britain, foolhardy eurosceptics are gleeful. A voter backlash (they hope) will mean the bailout, although approved by the Bundestag on Friday, could fail to rescue Greece as markets guess that an under-financed package will receive no more cash from Europe's paymasters.
Cue a speculative attack on Portugal, then Spain, and then the final unravelling of the hated euro project. Oh, and we Brits can look forward to cheap Greek holidays as the plucky pound weathers the storm.
But let's be clear. A collapse of the euro, even if contained to the "Club Med" countries, will kebab our own personal finances, too. And I write as someone who has been persistently sceptical about the benefits of sterling joining the euro. The British eurosceptics salivating over the prospects of Brussels humbled and Athens punished for profligacy are not just hypocrites – our deficit is not far off Greece's – but simply shooting themselves in the foot. The only winners from a demise of the euro would be the hedge fund millionaires shorting Greek debt.
A Greek default would send shockwaves through the European banks – mostly French and German – which hold Greek bonds. It's what happens next that threatens to turn this into another Lehman – many times over.
Total foreign bank exposure to Greece, Portugal and Spain combined comes to around €1.2 trillion. European banks have lent most of this, with British banks – hardly in a position to cope with yet more write-downs – exposed almost as much as their German and French counterparts.
As their capital reserves are decimated, lending will shrink, the feeble economic recovery will go into reverse and, as the euro weakens, the hoped-for renaissance in manufacturing exports will wither away. Meanwhile, Greek workers – many of whom earn no more than €1,000 a month – will be suffering vicious pay cuts while the shipping millionaires find safe harbour in an offshore tax haven.
If we want to be isolationist about this, we should be praying that the Germans continue to bail out Greece before any of the bill ends up in our hands. And it's not as if the Germans are writing a blank cheque. What they are doing is lending money to Greece at 5%. Since the German state can borrow funds at below 4% it may, over the longer term, even make a profit.
It's a small price to pay for stability in Europe's financial system which, after all, is still centred on London.
A growing backlash against a country punch-drunk on debt, where, according to press reports, workers retire on average at 53, and where state pensions are 95% of average pay, means the coalition led by German chancellor Angela Merkel will no doubt suffer a bloody nose.
In Britain, foolhardy eurosceptics are gleeful. A voter backlash (they hope) will mean the bailout, although approved by the Bundestag on Friday, could fail to rescue Greece as markets guess that an under-financed package will receive no more cash from Europe's paymasters.
Cue a speculative attack on Portugal, then Spain, and then the final unravelling of the hated euro project. Oh, and we Brits can look forward to cheap Greek holidays as the plucky pound weathers the storm.
But let's be clear. A collapse of the euro, even if contained to the "Club Med" countries, will kebab our own personal finances, too. And I write as someone who has been persistently sceptical about the benefits of sterling joining the euro. The British eurosceptics salivating over the prospects of Brussels humbled and Athens punished for profligacy are not just hypocrites – our deficit is not far off Greece's – but simply shooting themselves in the foot. The only winners from a demise of the euro would be the hedge fund millionaires shorting Greek debt.
A Greek default would send shockwaves through the European banks – mostly French and German – which hold Greek bonds. It's what happens next that threatens to turn this into another Lehman – many times over.
Total foreign bank exposure to Greece, Portugal and Spain combined comes to around €1.2 trillion. European banks have lent most of this, with British banks – hardly in a position to cope with yet more write-downs – exposed almost as much as their German and French counterparts.
As their capital reserves are decimated, lending will shrink, the feeble economic recovery will go into reverse and, as the euro weakens, the hoped-for renaissance in manufacturing exports will wither away. Meanwhile, Greek workers – many of whom earn no more than €1,000 a month – will be suffering vicious pay cuts while the shipping millionaires find safe harbour in an offshore tax haven.
If we want to be isolationist about this, we should be praying that the Germans continue to bail out Greece before any of the bill ends up in our hands. And it's not as if the Germans are writing a blank cheque. What they are doing is lending money to Greece at 5%. Since the German state can borrow funds at below 4% it may, over the longer term, even make a profit.
It's a small price to pay for stability in Europe's financial system which, after all, is still centred on London.
Friday, May 7, 2010
What Will Happen If Greece Defaults? Insights From Theory And Reality
For the last 50 years sovereign defaults only concerned developing countries. The recent predicaments of Greece have raised the spectre of a default in a high-income country. This column by Eduardo Borensztein, Regional Economic Advisor at the Southern Cone Department of the Inter-American Development Bank, and Ugo Panizza Chief of the Debt and Finance Analysis Unit in the Division on Globalization and Development Strategies of UNCTAD, and first published on VoxEU.org, argues exchange-rate depreciation has helped shrink the costs of default and spur economic recovery in past episodes. As part of the Eurozone, Greece may pay a steep cost if it were to default.
Sovereign debt is different. Private debt contracts can be enforced in court and court rulings enforced by asset seizures. By contrast, public-debt creditors:
The economist's natural answer is that it must be the case that repaying is cheaper than defaulting (Dooley 2000). But what are the costs of default? In a seminal paper that kick-started the sovereign debt literature, Eaton and Gersovitz (1981) focused on reputational costs and showed that, under certain conditions, the threat of permanent exclusion from financial markets is a sufficient condition for repaying. Successive work by Bulow and Rogoff (1989) emphasised the possibility of trade sanctions. Cole and Kehoe (1998) showed that positive lending can be sustained even if creditors cannot punish defaulting countries. In this class of theoretical models incentives to pay come from the fact that a default would reveal negative information about the government to other parties that are engaging in transactions with the defaulting government (for a detailed discussion, see Panizza et al. 2009).
Measuring the costs of default
In a recent paper (Borensztein and Panizza 2009), we look at four possible costs of default: loss of reputation, reductions in trade, costs to the domestic economy, and political costs.
Sovereign debt is different. Private debt contracts can be enforced in court and court rulings enforced by asset seizures. By contrast, public-debt creditors:
- Lack procedures for enforcing sovereign debt contracts – partly due to the principle of sovereign immunity.
- Have ill-defined claims on the sovereign's assets as they cannot attach assets located within the sovereign’s borders, and typically have limited success in going after sovereign assets located abroad.
The economist's natural answer is that it must be the case that repaying is cheaper than defaulting (Dooley 2000). But what are the costs of default? In a seminal paper that kick-started the sovereign debt literature, Eaton and Gersovitz (1981) focused on reputational costs and showed that, under certain conditions, the threat of permanent exclusion from financial markets is a sufficient condition for repaying. Successive work by Bulow and Rogoff (1989) emphasised the possibility of trade sanctions. Cole and Kehoe (1998) showed that positive lending can be sustained even if creditors cannot punish defaulting countries. In this class of theoretical models incentives to pay come from the fact that a default would reveal negative information about the government to other parties that are engaging in transactions with the defaulting government (for a detailed discussion, see Panizza et al. 2009).
Measuring the costs of default
In a recent paper (Borensztein and Panizza 2009), we look at four possible costs of default: loss of reputation, reductions in trade, costs to the domestic economy, and political costs.
When we look at trade costs, we add support to Rose's (2005) result that default episodes are associated with a drop in bilateral trade, but we are not able to identify the channel through which default has an effect on trade. In a companion paper (Borensztein and Panizza forthcoming), we also find a trade effect using industry-level data but, again, we find that the effect tends to be short lived and only lasts two to three years.
When we explore the effect of default on GDP growth, we find that, on average, default episodes are associated with a decrease in output growth of 2.5 percentage points in the year of the default episode.
However, we find no significant growth effect in the years that follow the default episode. In fact, quarterly data indicate that output contractions tend to precede defaults and that output starts growing after the quarter in which the default took place (Levy et al. forthcoming). This suggests that the negative effects of a default on output are likely to be driven by the anticipation of default.
Delayed defaults
While economic models often assume that policymakers have the incentive to default too early or too often, in the real world politicians and bureaucrats go to a great length to postpone what seems to be an unavoidable default. In the case of Argentina, for instance, even Wall Street bankers had to persuade the policymaking authorities to accept reality and initiate a debt restructuring (Blustein 2005).
There are two possible reasons for this reluctance. The first relates to the fact that default episodes seem to have high political costs. We find that, on average, ruling governments in countries that defaulted observed a 16 percentage point decrease in electoral support. We also look at changes in top economic officials and show that in any given tranquil year there is a 19% probability of observing a change in the finance minister, but after a default episode the probability jumps to 26%. The presence of such political costs has two implications. On the positive side, a high political cost would increase the country’s willingness to pay and hence its level of sustainable debt. On the negative side, politically costly defaults might lead to ‘‘gambles for redemption’’ and possibly amplify the eventual economic costs of default if the gamble does not pay off and results in larger economic costs.
It is also possible that policymakers postpone default to ensure that there is broad market consensus that the decision is unavoidable and not strategic. This would be in line with the model in Grossman and Van Huyck (1988) whereby ‘‘strategic’’ defaults are very costly in terms of reputation – and that is why they are almost never observed in practice – while ‘‘unavoidable’’ defaults carry limited reputation loss in the markets. Hence, choosing the lesser of the two evils, policymakers would postpone the inevitable default decision in order to avoid a higher reputational cost, even at a higher economic cost during the delay. If this interpretation is correct, a third-party institution that can sanction when countries cannot avoid a debt restructuring could play an important role in reducing the deadweight loss of default.
What about Greece?
The recent experience suggests that the economic costs of default may not be as high as it is commonly thought, and that economic recovery has often started soon after default. It is worth noting, however, that in all defaults studied in our work the economic recovery was helped by exchange-rate depreciation. Since this does not seem to be an option for countries that belong to the Eurozone (for reasons that are well explained in Eichengreen 2007), Greece may pay a steep cost if it were to default. For this reason, we hope that rescue plan launched on 2 May will work and that Greece will not belong to the sample when we update our paper on the costs of default.
References
Blustein, Paul (2005), And the Money Kept Rolling In (and Out): Wall Street, the IMF, and the Bankrupting of Argentina, Public Affairs, New York.
Borensztein, Eduardo and Ugo Panizza (2009), “The Costs of Sovereign Default”, IMF Staff Papers, 56:683-741.
Borensztein, Eduardo and Ugo Panizza, (2008), “Do Sovereign Defaults Hurt Exporters?”, Open Economies Review
Bulow, Jeremy and Kenneth Rogoff (1989), “A Constant Recontracting Model of Sovereign Debt”, Journal of Political Economy, 97:155-178.
Cole, Harold and Patrick Kehoe (1998), “Models of Sovereign Debt: Partial versus General Reputations”, International Economic Review, 39:55-70.
Dooley, Michael (2000), “International Financial Architecture and Strategic Default: Can Financial Crises be Less Painful?”, Carnegie-Rochester Conference Series on Public Policy, 53:361–377.
Eaton, Jonathan, and Mark Gersovitz (1981), “Debt with Potential Repudiation: Theoretical and Empirical Analysis”, Review of Economic Studies, 48:289-309.
Eichengreen, Barry (2007), “The euro: love it or leave it?”, VoxEU.org, 17 November.
Grossman, Herschel and John Van Huyck (1988), “Sovereign Debt as a Contingent Claim: Excusable Default, Repudiation, and Reputation”, American Economic Review, 78:1088–1097.
Levy Yeyati, Eduardo and Ugo Panizza, forthcoming, “The Elusive Costs of Sovereign Default”, Journal of Development Economics.
Panizza, Ugo, Federico Sturzenegger, and Jeromin Zettelmeyer (2009), “The Economics and Law of Sovereign Debt and Default”, Journal of Economic Literature, 47:651-98.
Rose, Andrew (2005), “One Reason Countries Pay their Debts: Renegotiation and International Trade”, Journal of Development Economics, 77:189-206.
When we explore the effect of default on GDP growth, we find that, on average, default episodes are associated with a decrease in output growth of 2.5 percentage points in the year of the default episode.
However, we find no significant growth effect in the years that follow the default episode. In fact, quarterly data indicate that output contractions tend to precede defaults and that output starts growing after the quarter in which the default took place (Levy et al. forthcoming). This suggests that the negative effects of a default on output are likely to be driven by the anticipation of default.
Delayed defaults
While economic models often assume that policymakers have the incentive to default too early or too often, in the real world politicians and bureaucrats go to a great length to postpone what seems to be an unavoidable default. In the case of Argentina, for instance, even Wall Street bankers had to persuade the policymaking authorities to accept reality and initiate a debt restructuring (Blustein 2005).
There are two possible reasons for this reluctance. The first relates to the fact that default episodes seem to have high political costs. We find that, on average, ruling governments in countries that defaulted observed a 16 percentage point decrease in electoral support. We also look at changes in top economic officials and show that in any given tranquil year there is a 19% probability of observing a change in the finance minister, but after a default episode the probability jumps to 26%. The presence of such political costs has two implications. On the positive side, a high political cost would increase the country’s willingness to pay and hence its level of sustainable debt. On the negative side, politically costly defaults might lead to ‘‘gambles for redemption’’ and possibly amplify the eventual economic costs of default if the gamble does not pay off and results in larger economic costs.
It is also possible that policymakers postpone default to ensure that there is broad market consensus that the decision is unavoidable and not strategic. This would be in line with the model in Grossman and Van Huyck (1988) whereby ‘‘strategic’’ defaults are very costly in terms of reputation – and that is why they are almost never observed in practice – while ‘‘unavoidable’’ defaults carry limited reputation loss in the markets. Hence, choosing the lesser of the two evils, policymakers would postpone the inevitable default decision in order to avoid a higher reputational cost, even at a higher economic cost during the delay. If this interpretation is correct, a third-party institution that can sanction when countries cannot avoid a debt restructuring could play an important role in reducing the deadweight loss of default.
What about Greece?
The recent experience suggests that the economic costs of default may not be as high as it is commonly thought, and that economic recovery has often started soon after default. It is worth noting, however, that in all defaults studied in our work the economic recovery was helped by exchange-rate depreciation. Since this does not seem to be an option for countries that belong to the Eurozone (for reasons that are well explained in Eichengreen 2007), Greece may pay a steep cost if it were to default. For this reason, we hope that rescue plan launched on 2 May will work and that Greece will not belong to the sample when we update our paper on the costs of default.
References
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