The sovereign debt crisis turns from Greece to the United Kingdom
Everybody hates the pound sterling.
As of March 9 the futures market showed a greater proportion of bearish bets against the pound than back in September 1992 when currency traders wagered that the British government wouldn’t be able to defend the pound and keep the country in the European Exchange Rate Mechanism. That system, a precursor to the euro, required countries to keep their currency within a trading band against other currencies in the system.
When the United Kingdom government finally threw in the towel and let the pound slide it fell 24% in three months. Traders made millions or more: George Soros’ Quantum Fund made $1 billion.
So far this year the pound has lost 6.9% on fears that either the economy will stall short of full recovery or that the government won’t be able to rein in spending—or both. This most recent fall, though, is part of a longer pattern of decline. The pound is down 38% since 1974 against a basket of currencies from the world’s 10 largest economies, according to Bloomberg.
The United Kingdom economy has been the slowest of the world’s developed economies to recover from the global slowdown. In recent months the numbers have actually taken a turn for the worse with factory production falling in January—for the first time since August—and the trade deficit climbing to the biggest gap in 17 months. Forecasters, including those who work for the Labor government, have been left scratching their heads as an expected surge in exports from a cheaper pound has failed to materialize.
But the biggest problem is that the Labor government of Prime Minister Gordon Brown has been singularly inept in its efforts to assure the financial markets that it has a plan for reducing a deficit projected by the government to hit $270 billion in fiscal 2010. (The U.K. economy is about 6.5-times smaller than the U.S. economy so this deficit is equal to $1.7 trillion in U.S. terms. The huge U.S. budget deficit is projected to hit $1.4 trillion in fiscal 2010. For 2009 the U.K. deficit is estimated at 12.4% of GDP. In Greece the deficit hit 12.7% of GDP.)
The financial markets have already rejected the government’s plans for reducing future deficits as based on overly optimistic projections for 3.5% annual economic growth from 2011 on. Read more
Trouble in Japan and the U.K. add up to a stronger U.S. dollar
Expect the dollar to keep moving higher in the near term.
Credit rating worries in Japan and disappointing economic numbers in the United Kingdom pretty much guarantee that the U.S. dollar will continue to gain on the yen and the pound.
On January 25 Standard & Poor’s lowered its credit outlook on Japan’s AA-rated sovereign debt to “negative” from “stable.” Japan’s government doesn’t have a plan to cut its budget deficits, S&P said. The cost of protecting against a default on Japanese government debt within the next five years in the derivatives market rose by 0.05 percentage points to 0.9 percentage points.
The long-term worry is that Japan’s aging population and stagnating economy will eat into one of the world’s largest pools of savings. Domestic Japanese investors hold 90% of the country’s debt.
And in the United Kingdom? Read more
The next financial crisis has a name and it’s the United Kingdom
It’s one thing when it’s Greece or Portugal. A credit downgrade or warning for those two countries isn’t exactly headline news for most investors. For most of our portfolios these are peripheral markets.
Ireland in trouble too? Yawn. Don’t own any Irish stocks.
Italy? What’s new? Italy’s always running a deficit.
Spain? That’s a surprise. Time to check the portfolio. But, whew, don’t own any Spanish stocks.
The United Kingdom? Whoa. Now we’re getting serious. How could the home of Big Ben, the Queen, the Bank of England, the pound sterling, and double-clotted cream be facing a credit downgrade? And maybe even worse. The cost of insuring against a U.K. default in the derivatives market is only slightly lower than the price of insuring against a default by Portugal.
I don’t think the United Kingdom is headed toward a default on its debt. But it is in the midst of a crisis that could reopen wounds in a global financial system that is still healing from the last crisis.
And it’s not even on the radar screen for most U.S.-based individual investors. I’d put a currency and credit crisis in the United Kingdom at the top of my list for huge potentially market-shaking—and unexpected–events in 2010. (For more on the most expected but still potentially market-shaking financial crisis of 2010—that is Japan—see my post http://jubakpicks.com/2010/01/04/japans-huge-budget-gamble-will-push-up-global-interest-rates/ )
Well, put it on your radar screen now. That fast-moving blip is one that you need to be tracking. A financial crisis in the United Kingdom would be bad enough on its own. But I’m 100% certain that the moment a crisis gets down and dirty nasty in London—and it’s certainly headed that way–investors around the world will start asking, If it can happen in the United Kingdom, why not in the United States?
Here’s the problem. Read more
