Debt surrealists defy reality: What looks like default not default

by Noriko Hama

Special To The Japan Times

Images of “The Treachery of Images,” the painting by the Belgian artist Rene Magritte, who wrote “Ceci n’est pas une pipe” (“This is not a pipe”) under his his impeccable portrait of a smoking pipe, keeps flashing off and on in my mind as I look at what is going on in the increasingly surreal world of global public finance.

Government after government is stumbling head on toward bankruptcy. The latest bailout package put together by the Europeans to support heavily indebted Greece (as well as Ireland and Portugal) involves a lowering of interest rates charged on the bailout loans, longer maturities on those same loans and a grace period of 10 years thrown in for good measure. Private-sector creditors have been asked to bare a share of the rescue burden by taking part in various bond-exchange schemes and existing loan rollovers. Estimates have it that the private sector stands to lose some 21 percent or so on the face value of their bond holdings.

In the real world all this would be more than enough evidence to declare default. The rating agencies, for all their inability to come to grips with reality in the runup to the Lehman crisis, seem to have got it right this time round by making it clear that a call of default is required once private creditors incur losses on their sovereign loan portfolios. The writing on the wall is all too clear for nations that cannot honor their debts without restructurings and forgiveness.

And yet the writing under the latest package reads: “This is not a default.”

It looks like default, it sounds like default and could very well be declared a default once the impact on the private sector becomes clearer. All this notwithstanding, the surreal designers of the deal are choosing to adopt the Rene Magritte method. In fairness to Magritte, his declaration of nonpipehood has perfect legitimacy in the sense that what we see is a painting of a pipe and not the pipe itself. But this kind of semantics has no place in public finance or schemes for dealing with government indebtedness.

Meanwhile, even Magritte himself would surely not think of writing, “This is just a borrowing ceiling problem” beneath a scene of President Barack Obama and U.S. congressional leaders slogging it out over how to avoid a federal government shutdown in August. That is so emphatically not the problem.

A government that can’t pay its debts on time without resorting to new borrowing has no business staying in business. A government that has to resort to borrowing from the public to fulfill its pension obligations to the public is clearly dysfunctional. Even the most surreal of the surrealists would surely balk at declaring this pipe a nonpipe.

Even on paper, it looks much too pipelike to deny its identity. Pretending that raising the borrowing limit is the solution is just too much of a flight from reality for me to stomach. “This is not a solution” ought to be the solidly nonsurreal subtitle that goes on whatever document the government and Congress manage to come up with between now and the day of reckoning.

As for the Japanese government, the only thing that stands between it and bankruptcy is the supposed loyalty of Japanese investors, who hold over 90 percent of existing government paper.

There is no doubt surreal policymakers would like to write, “This is our assurance of solvency,” or something to that effect under this particular picture. The real caption should be, “This is what got us here in the first place. Borrowing from the family makes you forget discipline. Oh dear, oh dear.

Noriko Hama is an economist and a professor at Doshisha University Graduate School of Business.