Managing Essentials Managing Essentials Managing Essentials Managing Essentials International International International International Failing states and their debt Failing states and their debt Failing states and their debt Failing states and their debt Until three years ago it was conventional wisdom that states could not go bankrupt but would always be able to settle their debt. Or, to be more precise, “normal states” cannot fail. There have been quite a few state bankruptcies though with the last major one being Argentine in 2001. However, these events have been dismissed as anomalies that only happen somewhere in the wilderness of Africa or South America. Also from the theoretical side states cannot go bankrupt; it i s easy to say why as states can print money. However, the more they do it without a substantial basis in their economies, the less it is worth. Too much inflation hurts the economy and the inhabitants, but surely reduces the nominal debt. In hyperinflation all debt can be paid off with worthless money; this danger is evident. All major industrial countries have consequently been cautious not to experience this phenomenon . They look proudly on their monetary history with currencies now hundreds of years old. The notable exception is Germany, which twice, in 1924 and 1947, had to live through a complete collapse of its monetary system. Not astonishingly German governments are very conservative when it comes to upholding the value of their currency. To borrow money in hard times is not a bad idea for a government, sometimes it even seems unavoidable. Under normal circumstances a state should be able to fund itself out of its tax base, but there are costly “special events” which will only pay off in the end. These events have historically been wars. World War I was the first to be financed by all sides for a major part by issuing “war bonds” to the natural lender of first r esort for the state, its citizens. The modern state debt model is based on th e assumption that spending helps to overcome temporary economic hardship . Why should t he state not borrow to overcome a crisis? First, wisely invested money helps the economy and a part of it will flow directly back by t axes paid. To build infrastructure, give credit to small businesses, support research, and fund education immediately serves the labor market. In addition, these investments prepare the ground for more ra pid growth in the future. If in fact tax revenue rises, driven by the expected growth together with inflation, states have no problem in repaying their debt and also its interest. This, simplified, is the notion of J. M. Keynes, and places like the Hoover Dam and many highways demonstrate how well it worked in the famous US American “New Deal” of the 1920s. With this theoretical and historical background, reasonable state debt was regarded in the self perception of states as a safe haven u ntil some years ago, at least when it came to “serious countries”. In contrast to private and corporate debt, banks did not have to reflect risks taken in this sector by adjusting core capital. Therefore, especially after the banking crisis of 2008 and t he pressure on banks to take less risk, state debt became more and more an object of financial trade; however, all trade incorporates an element of speculation. That this speculation got out of hand is due to significant changes in the global economy during the last two decades. “Growth” is one magic word in t he reasoning of understanding state debt. However, the organic growth of many developed countries began to slow down significantly about two decades ago as their markets saturated. Historical powerhouses like France , Germany, and Britain grew by exporting their manufactured goods and services. Until four years ago the USA was criticized for spending too much,
