The vast majority of sovereign debt will end in effective default - at least that is according to Philippa ‘Pippa’ Malmgren, president of Principalis Asset Management.
Addressing delegates in Dublin for the Irish Funds Industry Association (IFIA)
Annual Global Funds Conference in September, she stressed that this was her personal opinion and then sought to outline four potential methods governments could employ to default, without necessarily having to pursue the fifth option of an Argentine-style refusal to repay all debt.
She said this should be “a principal focus” for the asset management industry, taking advantage of the disparate choices facing investors in different markets.
Malmgren said that a potential route for governments will be partial default - a haircut - with a claim that most obligations will be met, if later. “Usually when they do it to you once, you know you are going to get it multiple times,” she noted, saying that Spain was currently signalling its interest in pursuing such a route.
“A third option is the state defaults on its citizens,” she said, explaining that costs previously footed by governments were transferred to private individuals, or services were cut back to cope with reduced budgets. “We often call it austerity. This can go so far, but, eventually, the citizens will throw you out if you do too much.”
Citing the reported results of austerity on Greek children, with Athens hospitals treating some for malnutrition, she told attendees: “There is a limit to how much austerity a human being can withstand.”
Malmgren, an economic adviser to the George W Bush White House during his first year in office, said inflation was also an option for countries, as was currency devaluation.
Discussing recent monetary policy by central banks, including the Bank of England and US Federal Reserve, she said it was “inevitable” that inflation would be a result of policies to print money - such as quantitative easing, recently entering its third round following an announcement by Ben Bernanke to buy as much as $40bn (€31bn) of mortgage-backed securities a month for an unspecified amount of time.
She said she was sure both the US and the UK would “love” to devalue more, but that their attempts would be hampered by investors fleeing the euro-zone.
However, despite investors’ concerns surrounding the euro-zone, a second speaker sought to calm fears that the single currency would come to an end.
Speaking shortly after European Central Bank president Mario Draghi announced details of the Outright Monetary Transactions programme - whereby “unlimited” support could be granted to troubled members of the single currency through bond purchases in the secondary market - former Irish Taoiseach John Bruton said the actions had “pretty clearly indicated that the euro will be around for a long time to come”.
Bruton, who served as EU ambassador to the US for five years from 2004, said that while critics had been predicting the end of the euro since its inception, no one should be wishing for the dissolution of any currency union.
“There is too much at stake for the euro not to succeed,” he said, adding that any such break-up was a “ghastly thing” and that one need not look back as far as 1918 and the dissolution of the Habsburg empire to understand its impact - instead saying the collapse of the USSR and the end of the ruble offered a current example.
“Creditor Russia - the equivalent of Germany today - and debtors, all the rest - the equivalent of the Club Med members, Ireland and others today - all suffered equally,” Malmgren said.
“There was a 50% drop in income per head, there was hyper-inflation, there was starvation. People dying of lack of food in those countries, as a direct result of break-up of the rouble zone, in Europe, in our lifetime.”
Bruton argued that there would not be “much appetite” for a repeat of any such scenario.