August 8th, 2011
06:27 PM GMT
U.S. downgrade or European debt crisis? Which is more important? I keep getting asked this question again and again. And it is a good question to ask. Both crises have enormous implications, some more immediate than others.
The U.S.downgrade has a slow burning effect. For instance, U.S.bonds being used to guarantee Israel's debt have been downgraded. Housing loan groups Fannie Mae and Freddie Mac have also been downgraded because they rely on U.S. treasury bonds as their ultimate guarantee.
And certainly the credit rating downgrade changes the rules forever – as PIMCO CEO Mohamed El-Erian said on Saturday, the global financial system is constructed around the U.S. AAA rating being a constant, it is the cornerstone around which everything is built. Even though it may be restored at some time in the future, the fact is that it has gone, the unthinkable has happened.
And we haven’t even begun to consider what this means for China and those other countries with vast U.S.treasury debt. The downgrade's effects will continue operationally, psychologically and economically for some time to come.
The European debt crisis is much more of a firestorm ready to get out of control at any moment. We saw the speed with which Ireland went from saying "no bailout" to "send money" in a few days.
It could be the same with Italy, which is why the European Central Bank had to move fast over the weekend. For the time being, buying Italian bonds seems to be calming the markets. Don’t be fooled though. It is, at best, treating the symptoms of the crisis, it is not a cure. Watch out for European officials to continue to push for greater integration… if they can.
So, if you are wondering which is the more important, downgrade or euro debt? The answer is both are serious and ultimately can have effects way beyond the shores where they are based.
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