STI lower at midday

INCUBATION PERIOD

There is no question we live in an interconnected world. Sub-prime mortgage defaults by homeowners in Irvine, California, infected banks in Europe and Asia, thanks to the miracle of securitisation.

So yes, European banks that hold Greek debt are vulnerable to losses.

The inter-bank lending market is showing signs of stress.

And the austerity measures required in Europe’s peripheral countries may spill over into reduced US exports.

That’s not the kind of contagion we keep hearing about.

On the other hand, it would be a mistake to interpret the flight-to-quality into US Treasuries last week as a sign of immunity.

The US is already infected with the debt virus. It’s still in its incubation period.

Bloomberg

WAKE-UP  CALL

That said, European leaders have invested too much political capital in a united Europe to turn back now.

Germany’s Parliament approved a package of loans to Greece on Friday, part of a €110-billion ($198-billion) package from the International Monetary Fund and European Union. Greece approved an austerity plan in exchange for the bailout.

“This should be a wake-up call to design mechanisms to deal with crises and enforce the rules” on debt and deficits, Professor Bordo says.

The 1992 Maastricht Treaty outlined four convergence criteria for joining the European Monetary Union, including a maximum deficit-to-GDP ratio of 3 per cent and debt-to-GDP of 60 per cent.

Last year, Greece’s deficit and debt were 13.6 per cent and 115 per cent, respectively, as a share of the economy.

All of the infected countries, and a few that haven’t caught the disease yet, are well in excess of those limits.

The United Kingdom, for instance, which is benefiting from capital flight out of Europe’s Club Med countries, ran a deficit last year that was 11.5 per cent of GDP.

FISCAL TRANSFERS

Europe has neither. Political union is still a dream.

Germans are still Germans, and Greeks are still Greeks.

The man on the street in Dusseldorf probably doesn’t understand why the German government has to fork over what could be his pension to a country for whom default is a way of life.

Political union isn’t a pre-requisite for dealing with a sovereign debt crisis. What’s needed is some kind of a priori agreement on how fiscal transfers are to be carried out, says Mr William White, chairman of the

Economic Development and Review Committee at the Organisation for Economic Cooperation and Development. In the case of the euro zone, “they were short of a few fiscal elements”, he says.

It’s far from clear the German public would have supported such transfers from strong to weak countries, Mr White says.

CHRONIC  DEFAULTER

Okay, maybe not quite as leaky a boat.

It would be hard to match Greece’s record of spending half the years since its independence in 1829 in default or rescheduling its debt, according to economists Carmen Reinhart and Ken Rogoff, authors of

A single currency, it turns out, isn’t a panacea for everything that ails Europe. The 11 nations that scrapped their sovereign currencies and adopted the euro in 1999 never constituted an optimum currency area as envisioned by economist and Nobel Laureate Robert Mundell, the father of the euro.

“They don’t have a mechanism to deal with crises when they come up,” says Mr Michael Bordo, professor of economics at Rutgers University and author of a book on the history of monetary unions.