Greece, Dubai and the Threat of Sovereign Collapse

The Day of Reckoning is postponed, but not canceled. Markets in the US are closed today. Americans celebrate President’s Day, on which Bill offers some musings below. Trading across much of Asia is closed, too. Investors in China, Taiwan, Hong Kong, Singapore and Malaysia look to the heavens for guidance, wondering what the Lunar New Year will bring.

Elsewhere in Asia, investors took stock of more earthly goings on…and hit the “sell” button. Indexes fell in Bombay, Tokyo, Sydney and across the Middle East. People are worried about the Greeks and the Dubai Emiratis. Both sovereigns are deep in debt. Both suffer crises of solvency…and both seek to delay their own Day of Reckoning, when debts must be repaid and promises met.

Last Thursday, European Central Bank President, Jean-Claude Trichet, hinted that the euro-nations would come to the aid of their struggling Mediterranean cousins, provided that Greece take “extra measures to make its recovery plan credible.” Mr. Trichet yesterday defended his decision to extend the monetary olive branch to Greece and sought to quell murmurs of incredulity among investors who, by Friday, were unsure whether the continent would abide a full blown bailout of the moribund Mediterranean debtor.

“When President Sarkozy, Mrs. Merkel, Silvio Berlusconi in Italy and President Zapatero in Spain, in his capacity as president of the European Union, sign the same document, it’s serious,” Mr. Trichet assured Europe.

As members of the dubious “PIIGS” club – Portugal, Italy, Ireland, Greece and Spain – leaders Berlusconi and Zapatero would seem to have a vested interest in erecting a bailout precedent. They will likely be panhandling around Europe in the not-too-distant future themselves. But what about the others? How many Berliners, for example, are comfortable sending their money on a Mediterranean vacation without them?

“Not enough,” would be our guess. A poll published in the German newspaper Bild am Sonntag indicates that more than half – 53 percent – of Germans support booting Greece out of the euro-zone altogether. And anger is growing within Frau Merkel’s own ranks.

“If we start now, where do we stop?” Michael Fuchs, deputy head of Merkel’s conservatives in parliament, remarked of the Greek question.

From the ruins of Greece to the Middle East’s modern day Tower of Babel, the threat of sovereign collapse continues to weigh on investor sentiment. Dubai, home of the world’s tallest building and scariest elevators, is yet to come up with a plan on how it will restructure its own rotten debt. News from Zawya Dow Jones over the weekend hinted that the state-owned Dubai World might offer creditors 60 cents on the dollar for the $22 billion it has outstanding.

Predictably, the cost of insuring against a Dububble default rose sharply in trading this morning. The WSJ reports:

“Dubai’s five-year credit-default-swap spread – a key measure of credit risk – widened around 0.23 percentage point to 6.50 percentage points in early trading Monday, according to CMA DataVision.

“The widening means it now costs around $650,000 a year to insure a notional $10 million of Dubai’s sovereign debt against default for five years, up from around $627,000 at Friday’s close. A month ago, it cost $421,000.”

Debts…deficits…bailouts and backstops; the question of whether to let the weakest hands fold is by no means a new one. Late in 2008 and throughout most of last year, politicians in the US wrestled with the question of whether this or that private institution was “too big to fail.” Being spineless politicians, they didn’t wrestle very hard. In most cases, public funds were poured into the most profligate pockets in an effort to “save” idiot institutions from their own actions. We noted as much in our coverage of this year’s Unofficial, Unauthorized Daily Reckoning Financial Darwin Awards. But transferring debts from private to public balance sheets doesn’t make them disappear. Eventually, they have to be repaid…or defaulted on.

Allowing Europe’s PIIGS to feed at the public trough will undoubtedly undermine credibility in the already embattled euro. (The sixteen-nation currency currently trades at an 8-month low.) Trichet & Co. can cut their swine loose…or they can follow them over the cliff.