Despite the fierce liquidity driven rallies in global stock and financial markets this year, the smart money has long understood that the global financial crisis that began in 2007 had not ended. The financial panic of September 2008 was followed by the great recession of 2009. It is likely that 2010 will become known as the year the global financial crisis morphed into a global (not just European) sovereign debt crisis, which will separate the sheep from the goats, or more accurately the strong from the weak.

Ironically, in retrospect it can be argued that with its “voluntary” sovereign debt restructuring, the Jamaica Debt Exchange (JDX), Jamaica has achieved another “first” in marking the true beginning of this worldwide sovereign debt crisis, although this was not understood by many at the time. It is instructive to do a quick comparison of Jamaica’s situation with Greece and Ireland, and then look at some of the wider implications of the crisis for Europe.

Greece’s problem was one of high government debt and deficits, much of which was hidden by their former government, the true extent of which the new Socialist government was forced to acknowledge just after it took power. For example, it was revealed that the true fiscal deficit was actually double the level the former government had admitted to before their election. Greece has a low productivity economy, is dependent on tourism (with not much in the way of other industry), and has a very large informal economy with a consequent weak tax base. All of this should sound very familiar to Jamaicans. A key difference between Greece and Jamaica was that Greece’s adoption of the Euro had allowed it to borrow, until this year, at much lower rates than it would have been able to on a stand alone basis (a small spread over benchmark German rates).

Ireland’s situation was quite different to that of Greece, although the end result now seems similar. Government debt and fiscal deficits have been relatively low and transparent, with a debt to GDP ratio of only 25 per cent in 2007. Over the twenty year period,1987 to 2007, the economy had grown at a rate of approximately six per cent, sufficient to raise them into the top ranks of per capita GDP, on the back of massive foreign direct investment, particularly in manufacturing, and a very sharp increase in productivity. All of this is clearly very different from Jamaica’s experience. However, the Irish sovereign debt crisis is a result of one of the world’s biggest ever financial crisis as a proportion of GDP (the Irish appear likely to push Jamaica out of the medals), with the collapse of virtually all its indigenous banks as the result of massive bad lending in property and real estate.

Essentially, the Irish financial crisis was due to a fatal combination of low interest rates from the adoption of the Euro, access to virtually unlimited Euro funding by the local banking system, the over confidence of a generation that had seen nothing but good times, and the incestuous relationship between the bankers, property developers, politicians and regulators in a small community. The key event in their financial crisis was when Prime Minister Brian Cowen (who importantly had been their Finance Minister for most of the decade before becoming Prime Minister) felt obliged to provide a blanket guarantee of bank deposits (including the senior debt of the banks) by the Irish government on September 30th 2008. Just as had occurred in Jamaica more than a decade previously, this meant that the horrendous losses of the banking system would now be assumed by taxpayers, imperilling the credit worthiness of the state. In many ways, the Irish crisis is very similar to the financial crisis of the US and the UK, the main difference being the much larger relative size of Ireland’s internationally swollen banking system, which became a multiple of their much smaller GDP. As a rule, the banking/financial system of a country should not be much larger than the size of their domestic economy.

By comparison, Jamaica had a relatively brief banking and property boom of about a year before its own financial crisis, but the Irish boom was at least five to six years, between 2002 and 2007. When it ended around late 2007, Ireland’s real estate was amongst Europe’s most expensive. I remember distinctly advising a Digicel executive in Christmas of 2007 (who was comparing Irish real estate prices with much lower Miami prices) that such excess could only end very badly. The key point to note, which we will explore in greater detail another time, is how Jamaica was able to postpone the ultimate consequences of its own financial crisis, the technical default of the JDX, for well over a decade.

Whilst the Irish could no doubt have usefully studied Jamaica’s own financial crisis, or many of the others mentioned in Ken Rogoff’s masterpiece on financial crises “This time is different”, the key thing Jamaicans must understand in assessing what will happen next is the difference between productive and unproductive debt. Any country where agents (either private or public) finance value destroying projects with debt on a large scale (where the return on investment is consistently below the cost of capital) is going to have a problem as the debt must eventually be paid back. The sovereign debt crisis in Europe is driven by investors questioning the ability of governments to pay back their debt, particularly as they have foregone the “silent default” option of “printing money” by being part of the Eurozone. Ironically, the level of interest rates at which international bond markets are panicking about the ability of European governments to repay is similar (or lower) than the level of interest rates Jamaica pays on its own international borrowing. Another reason for Jamaicans to pay close attention is that after Portugal, the next country on the list of international bond vigilantes is one of Jamaica’s largest sources of foreign direct investment, Spain. Like Ireland, Spain’s public debt was relatively low before the crisis, but it had possibly the largest real estate boom in Europe in absolute, not just relative terms, and questions are being raised about its banking system, which like Ireland, is very heavily invested in financing real estate.