Eight Centuries of Government Defaults

Greenwich, CT is one of the most well known centers of financial entrepreneurship and therefore closely tied to the global economy. Thankfully, the next phase of the recovery poses less risk to our town than the original crisis.The financial crisis originated in the private sector and directly impact those who manage capital. However, the next phase is likely to place greater strains on governments. The massive shift of private debt to public debt has placed significant economic and fiscal pressures on governments around the world. This will no doubt result in defaults/restructuring of sovereign debt (like Greece) for many countries. However, the defaulting/restructuring of government debt is normal and part of the recovery process. You should take the time to understand and not fear government defaults. In fact it is surprising how well the global capital markets have performed during period of high sovereign defaults and restructurings.

I would like to pass on a research paper that addresses eight centuries of financial crises: Click to download the research paper.

This paper, by two professors (one from Harvard the other from University of Maryland), takes a look at the history of financial crises dating from England's fourteenth-century default to the current United States sub-prime financial crisis. It spans all regions of the world and incorporates lessor known credit episodes, including the defaults and restructurings in India and China.

Here are 10 facts found by their research:

1. Serial default is a nearly universal phenomenon as countries struggle to transform themselves from emerging markets to advanced economies.
2. Major default episodes are typically spaced some years (or decades) apart, creating an illusion that "this time is different."
3. Crises frequently emanate from the financial centers with transmission through interest rate shocks and commodity price collapses.
4. US sub-prime financial crisis is not unique.
5. Other crises that often accompany default: inflation, exchange rate crashes, banking crises, and currency debasements.
6. Periods of high international capital mobility have repeatedly produced international banking crises.
7. Crisis-prone countries, particularly serial defaulters, tend to over-borrow in good times, leaving them vulnerable during the inevitable downturns.
8. Domestic debt buildups often happen in the aftermath of external default, precisely because countries have difficulty borrowing abroad
9. Spikes in commodity prices are almost invariably followed by waves of new sovereign defaults.
10. The notion that today's emerging markets are breaking new ground in their extensive reliance on domestic debt markets, is hardly new.