Debt crisis will hit home in the second half of the year

The latest report of Global Europe Anticipation Bulletin's (GEAB) LEAP/E2020 points to a crisis of unprecedented proportions that could happen in the second half of this year. For then, all the world's financial operators will realise that the West will not be able to honour the debt it has accumulated over the past two decades. The Western economies have been living beyond their means. And there is no easy way out from this debt crisis due to the sheer magnitude of the problem.

"For LEAP/E2020 it is, in effect, around October 2011, due to the plunge of a large number of US cities and states into an inextricable financial situation following the end of the federal funding of their deficits, whilst Europe will face a very significant debt refinancing requirement, that this explosive situation will be fully revealed," said the report (see http://www.leap2020.eu/GEAB.

In Europe, almost 1 trillion euros will be raised by both governments and the banks to continue the roller-coaster ride. Of this amount, some 400 billion euro will be accounted for by fund-raising exercises from the banks, while the remaining 500 billion euros will come from European governments, which are already suffering heavy financial distress. The credit-rating agencies have threatened to downgrade the credit-worthiness of the bonds of the peripheral European nations.

If the European nations are to face steeper costs for their funding, they certainly will find it hard to pay back their debts or make their bonds attractive to investors. Greece has already entered the support programme of the International Monetary Fund and the European Union. Ireland has also joined the queue. If Portugal and Spain were to suffer from the contagion effect, they will put an even heavier burden on Europe.

The problem is that there is no prospect of growth in Europe. Without growth, tax revenues will not be forthcoming. Without enough tax revenues, governments will need to borrow more to finance their debt, or they will have to adopt austerity, which will trigger social unrest. There is no easy way out.

In the US, the situation is no better. Municipal bonds are also on the verge of default. Large states such as California and Illinois are bankrupt. Some 100 cities in the US, with a combined debt of US$2 trillion, will not be able to honour their debt obligations. At the same time, the US federal debt is spiralling out of control.

The US federal debt has already surpassed $14 trillion, jumping by $4 trillion over the past two years due to the urgent need to bail out the economy. With the debt almost equivalent to the GDP, there is little prospect that the debt owed by the government will be paid.

"Yet the contemporaneous shocks in the United States and Europe make for a very disturbing set-up comparable, according to our team, to the Bear Stearn crash which preceded by eight months Lehman Brothers' bankruptcy and the collapse of Wall Street in September 2008. But the GEAB readers know very well that major crashes rarely make headlines in the media several months in advance, so false alarms are customary!" said the LEAP/E2020 report.

There are four constraints facing the Western governments, according to LEAP/E2020:

1. The absence of economic recovery in the US, which strangles all public bodies (including the federal states accustomed to an easy flow of debt and significant tax revenues in recent decades).

2. The accelerated structural weakening of the US in monetary, financial, as well as diplomatic affairs, which reduces its ability to attract world savings

3. The global drying up of sources of cheap finance, which precipitated the crisis of excessive debt in Europe's peripheral countries in the eurozone (like Greece, Ireland, Portugal, Spain) and the United Kingdom. It is also starting to touch key countries (the US, Germany, Japan) in a context of very large European debt refinancing in 2011.

4. The transformation of the eurozone into a new "sovereign" area that gradually develops new rules for the continent's public debts.

If the Western governments do not have enough tax revenues to pay for the debt, and if they are unable to raise further debt to refinance the old debt, they will resort to money printing, as the US has already done. Then we'll witness a free fall of currencies, followed by runaway inflation. This will be far worse than the crisis of 2008 when the global financial system was on the verge of a complete collapse.