Wednesday, June 08, 2011

U.S. Offers To Subsidize Greek Default

It isn't enough for the U.S. government to throw money at underwater homeowners to prevent them from walking away from crushing debt burdens.  Now it feels compelled to offer a subsidy to Greece to stave off a sovereign default.  Can't we just let people and countries go bankrupt so they can start over?  Uncle Sam sure is getting nervous about something. 

It's easy to draw an inference that the European banks exposed to Greek debt are also counterparties in interest rate swaps and other deals with U.S. banks.  A Greek bond restructuring will pull down banks on both sides of the Atlantic in a cataclysmic daisy chain.  Alternatively, if Greece and other bankrupt countries leave the euro to hyperinflate their debts away, the euro's collapse would drive currency investors into the U.S. dollar.  A resurging dollar would make U.S. exports more expensive and make a double-dip recession unavoidable for the U.S. economy.

This Greek melodrama really poses a Scylla-and-Charybdis dilemma for monetary policymakers.  The Scylla of debt default can compete with the Charybdis of currency destruction to see which will do greater damage to the U.S. economy in the near future.  European bankers may be ready to throw in the towel and let Scylla devour some of Greece's bond holders in exchange for stability.  Scylla has fans on this side of the Atlantic too; U.S. leaders are openly flirting with a temporary default on U.S. financial obligations

Dear readers, we may be weeks or even days away from a replay of the credit crunch of September 2008.