Many people have written about how the European debt crisis parallels the Lehman crisis. But in my view, it’s the crisis of 1789 that is really similar.
When the United States became a Federal Union the thirteen States had varying levels of debt. Most of this had been contracted during the Revolutionary War. US debt was $54 million; state debt was $25 million. That’s roughly equal to $4 trillion and $2 trillion in today’s dollars, respectively. Federal notes, or scrip, had been trading at a discount as low as 25 cents on the dollar. Hamilton proposed to issue new Federal debt and assume all state debt to pay off the scrip at par.
The plan was audacious. It failed when it came up for a vote in Congress. Hamilton saw that the US could become a commercial power, but he needed to establish the nation’s credit for this to happen. In what later became known as the “dinner table compromise,” Madison and Jefferson agreed to support the plan if Hamilton would support moving the nation’s capitol south to site on the Potomac. As we all know, the compromise worked. Credit was established. Jefferson was able to transact the Louisiana Purchase in part because he could borrow the funds.
In Europe they need an Alexander Hamilton. The peripheral nations ran up a significant amount of debt in the early years of the currency union. There has been an adjustment period while these countries adjust to the reality of a strong currency. At the same time, the core nations have enjoyed the benefits of a larger currency space to tap into a much deeper and more liquid credit market. There’s no way that Siemens could have issued a $1.6 billion Deutschmark bond a couple years ago.
The Euro zone is a broad and liquid market with mature institutions that is stronger as a union than as separate states. One solution to their debt crisis would be assumption: the ECB assumes all sovereign debt, in exchange for rigid fiscal controls. The whole thing cries out for a compromise. Maybe they could—as in 1789—move the capital. But in this case, from Brussels to Bonn!
Douglas R. Tengdin, CFA
Chief Investment Officer
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