At another time, the fate of the head of the International Monetary Fund would not have mattered too much. But photos of Dominque Strauss-Kahn being led away in handcuffs by New York police have unsettled global markets.
And with good reason. The IMF, along with the European Union and the European Central Bank (ECB) is centre stage in a drama that has all the makings of an unravelling of the global financial system that would put the 2008 crisis in the shade.
Strauss-Kahn was due to hold talks in Europe today over the details of financial support to Portugal, which faces state bankruptcy, and about Greece, which is heading for default on its foreign debt despite a huge bail-out last year. Instead, Strauss-Kahn is due in court to face sex allegations relating to a hotel maid.
Most economists believe that Greece will default, with some loans having to be written off and longer repayments granted for the remainder. But the implications of such a move are so serious that Strauss-Kahn and European leaders like Germany’s Chancellor Merkel were desperate to find another solution.
Earlier this month, José Manuel González-Paramo, an ECB executive board member, said a Greek debt restructuring would be a disaster for the eurozone. There would also be knock-on effects on the balance sheets of banks in France, Britain and Germany that hold Greek debt. The risk premium demanded on Greek debt by international investors has rocketed.
"A restructuring would have legal and systemic consequences that are difficult to calculate right now but would in all probability be bigger than after the collapse of Lehman Brothers," he said. Just in case anyone needs reminding, when Lehman Brothers filed for bankruptcy in September 2008, it triggered a seizure at the heart of the global financial system and led to the deepest recession since the 1930s.
Greece’s predicament is just one of the consequences. Despite massive cuts in public spending - average pensions were cut by over 20% last year and civil servants wages slashed by 15% - the government’s deficit has actually risen because the recession has reduced tax and other revenues.
The country's debt has spiralled to 142% of national income. Portugal's total has reached 93% of GDP. Britain's annual debt of 10.5% last year pushed its total to 80%, compared with Germany's 83% and France's 82%. Greece’s Socialist Party government has announced plans to cut an extra €23bn in expenditure by 2015 and privatise €50bn in public assets, leading to threats of more strikes. There have been nine general strikes in the last 12 months.
At moments of crisis, the role of individuals like Strauss-Kahn – who played a key role in brokering help for Ireland, Portugal and Greece – is critical. So the enforced absence of the head of the IMF is not exactly what global capitalism was looking forward to this week.
As a former French finance minister, Strauss-Kahn personally knew most of the key leaders and officials managing the crisis. He was also due to challenge Nicolas Sarkozy for the French presidency next year on behalf of the country’s Socialist Party. That now seems improbable, leaving Sarkozy to walk home.
And if you think the financial crisis is confined to Europe, think again. President Obama has called on Congress to raise the upper limit on the federal deficit, which is currently running at $14 trillion a year. Yesterday he warned that if investors "around the world thought the full faith and credit of the US was not being backed up, if they thought we might renege on our IOUs, it could unravel the entire financial system".
If you’ve got any spare cash, it might be a good time put find a suitable mattress.
Paul Feldman
Communications editor
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