The Desperate Plight of Submerging Nations

Countries may succeed in bailing-out their banks, but who will bail-out these countries? From tiny Iceland (population 320,000), which is still on the verge of bankruptcy, to Pakistan (population 173 million), which is on the verge of running out of money to pay for imports, over a dozen countries are on the watch list for a sovereign debt default. Even some countries with (until recently) thriving economies, such as Brazil, Turkey, Mexico, and Russia, are under review for sovereign credit downgrades.

What helped fuel this crises was a currency arbitrage innocuously called "carry trades." They work like this. A bank, hedge fund or other kind of arbitrageur sells the currency of a country with a very low-interest rates and then buys the currency of a country paying a higher-rate. By simply holding the currency, the arbitrager collects the "carry," which is the difference in the two interest rates. As this game was played over the past five years, arbitragers sold short trillions of dollars and yen, since they were the only low-interest currencies that they could safely sell short in such huge volume, and they bought an equivalent amount of currencies in emerging markets in Latin America, Eastern Europe, South Asia and Africa that paid higher interest rates. They required little, if any, capital as collateral to support such carry trades, especially if they were banks. Their only risk was that the local currencies would lose their value against the dollar and yen. They were willing to assume this risk since they believed it unlikely that Japan, being an exporting economy, would not allow its yen to rise, or that the US dollar would substantially rise. But then came a near collapse of the global banking system, which, surprise, sent the dollar shooting up. Facing catastrophic losses on their massive carry trades, arbitragers moved to unwind them by selling local currencies at whatever price they could get and buying back the dollars and yen that they were short. This unwinding sent local currencies into a further tail spin-- the Brazilian Real, for example, lost over one-third its value-- while driving the dollar and yen ever higher. In the panic, these once emerging, and now submerging economies, lost much of the hard currencies that they desperately needed to meet debt commitments these countries default as Argentina did in 2002 and did in Russia 1998? Will the International Monetary Fund ride to the rescue and prop up the teetering dominoes before they default?

For the prudent looking into an abyss of global panic, what stares back, at least for the moment, is the the US dollar, which may be the only safe harbor big enough to ride out a gathering storm of sovereign debt defaults.

--Edward Jay Epstein

Comments

[cylindar]

Forget the dollar as a safe harbor. The dollar is an erzast's device that is 99% air and 1% substance. You are the biggest of fools if you think the dollar has any foundation in fact. Oh you are the biggest of fools!

[larry278]

I keep Iceland's example in mind when Hank Paulson speaks of bail-outs by the USA of failed banks. What happens to the USA when it runs out of money to fund any more bail-outs? Will any nation or group of the monied be willing to bail-out the USA? What will the USA have to do to get a bail-out & what will the USA have to do for whomever bails-out the USA & for how long?
The question isn't if the USA will run out of money but when will the USA run out of money if we continue bail-outs for banks & who knows what else.
Hank Paulson & Ben Bernanke must be kept on a very strong, very short leash which is tightly fastened to a strong post anchored firmly into a large concrete block, There will be no episodes of walking the dog for Paulson or Bernanke till they no longer have any access of any of America's money. That also goes for anyone who replaces them.

[kaski]

The owners of the IMF and World Bank are counting on destroying third world economies so they can take over their mineral, oil, illegal drug trade and land. Thus owning that country in much the same way the Romans tried to rule the world by putting their puppets into power and over taxing the people and taking everything back to Rome. The world MUST rid itself of these privately owned banking corporations such as the Federal Reserve and the Rothschild controlled Bank of England that own the IMF and World Bank. The world will never know peace until we do!!
"The modern theory of the perpetuation of debt has drenched the earth with blood, and crushed its inhabitants under burdens ever accumulating." Thomas Jefferson

[kd1s]

How very interesting. So the value of the dollar and the yen go up. Meanwhile the economies in those countries affected go down. How long before the multinationals move in and setup shop?