Over the years, risk-averse investors like institutions and retirees have preferred treasury papers as a vehicle of investment. This is largely due to the belief that governments do not default and always honour their debt obligations.
Not any more. In 2009, investors in Europe began to see signs that the governments may default on their debt commitments and demanded more interest on the bonds they were holding. This in turn led to very high interest rates. This was the genesis of the sovereign debt crisis in Europe, which is now famously referred to as the Euro-zone crisis.
A sovereign debt crisis occurs when the lenders to a country’s government demand higher interest rates to cover for the high risks incurred in lending to that state. They can tell these high risks from the economic indicators. The thing about economics is that one item is connected to the other and in due time, the whole system can break down due to lavish demands from institutional and group lenders especially banks.
This is what is ailing Greece, Portugal, Ireland and, more recently, Spain. Tellingly, this scenario was brought about by the global economic recession, the real estate bubble and the failure of the EU to have standardised or common fiscal policies much as they have a common currency.
That’s like saying lets make money and each one spends as they deem fit! To date, there are no signs of the crisis coming to an end, yet there is a general fear from investors that the problem might have spread to the rest of Europe. Traditional economists are suggesting that the countries, especially Greece, implement an orderly default.
This is where the government can devalue a currency, hike inflation and pay back the loans but the values will be lower. Other noteworthy economists believe the Keynesian economics applied by the world’s superpowers should be continued even in this scenario.
In this case, the governments increase on expenditure to spur growth, create jobs and produce a ripple effect. Further, the governments will need to execute bailouts of the banks highly affected by the crisis. As a welfare economist, I support this group.
A premature orderly default might lead to a more acute problem of investor apathy and failure of the local banks. Further, this might lead to the spread of the problem in other European countries. Talking of spread, how much of the problem is felt in Kenya? Europe is, and has always been, a key business partner of our country.
This is in form of tourism, horticulture exports, tea and coffee exports, etc. Given the high interest rates in the region, demand is shrinking and this affects Kenyan exports. The orders, especially of horticulture, have been low and will continue to remain so in the foreseeable future.
Further, tourism from the Euro-zone has not been very good this year. For a country that targets middle-class tourists, this was a big blow to us. A weaker European economy will also mean little aid.
If your business targets aid-funded projects, you may need to worry a little. More importantly, investment will not be forthcoming. European investors who have interests in the affected countries will tend to hold on to their cash as they adopt a wait-and-see attitude.
However, on the other hand, it may mean well for Kenya as it will attract investors avoiding Europe and looking for growing economies to invest in. A weaker euro means that the exchange rate will be better in favour of the shilling, which is good for importers.
Yet the business is in exports. Ultimately, this is one reason there is instability in the country’s economic environment. The Kenya shilling is affected by these factors and more.
Overall, the euro zone crisis does not favour Kenya or Africa in any way. It may affect your pocket to a minimal level. However, at the end of the day, the final agent on your finances is you.
Not some sovereign debt crisis in the west.
William Odhiambo is the Managing Consultant of Elim Consulting. Elim Consulting conducts training, advisory and research on Finance, enterprise development and Economic Policy.
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