Since then, the U.S. government has auctioned off billions and billions of dollars of IOUs at higher and higher interest rates. The benchmark 10-year Treasury bond yielded 2.24 per cent back on Dec. 31, 2008 vs. nearly 3.8 per cent a year later. And while Treasury yields are still low by historical standards, the upward trend surely signifies that Uncle Sam's foreign creditors -- read: China -- are increasingly worried about America's rising deficits, not to mention Federal Reserve Chairman Ben Bernanke's ability to purchase enough bonds to keep rates low until the economy strengthens.
If Ben should lose his battle with the yield curve in 2010, or if the rest of the world finds a safer alternative in the event of another financial panic, then the first casualty will be U.S. Treasury bonds. Prices will plunge, yields will spike and Warren Buffett will be right again.
Written by Gregg Greenberg in New York
Get These Nations a Credit Counselor, Too
Sovereign debt holders aren't waiting to find out whether Dubai World's near miss on a $60 billion debt payment was an isolated event. Instead, they're preparing for additional woes in 2010 from financially weak EU nations and perhaps even triple-A rated countries that have borrowed heavily to support their financial systems.
In fact, financial institutions that have significant exposure to various kinds of sovereign debt are considering whether to set aside reserves against the risk that states may default. There's little doubt that the sovereign debt bubble has already started to burst. Anyone who dove into emerging-market bonds is certainly feeling buyer's remorse.
When Dubai's difficulty came to light in November, all eyes turned to Citigroup , which set up financing for Dubai World and has ties to the Arab state. Earlier this month, Abu Dhabi stepped up to bail out its struggling neighbor emirate with $10 billion, putting some fears to rest. But it's unclear whether or not Dubai can meet the rest of its financial obligations next year -- Dubai is a microcosm of the problems spread throughout our overleveraged world.
Fears about countries at the bottom of Europe's economic ladder have grown in recent weeks. Greece's ratings were slashed by three major ratings agencies and slapped with a negative outlook. Then Standard & Poor's lowered its outlook for Spain, which lost its triple-A rating nearly a year ago, as did Portugal. These events have stoked concern about other EU countries with reputations as spendthrifts or heavy borrowers, like Ireland, Latvia and Lithuania. Arguably, finding a solution is easier for smaller economies than it is for their more established counterparts -- high-growth nations can earn their way out of debt. For industrialized countries like the U.S. and the U.K., the alternative is tricky. They will have to use restraint -- via spending cuts and tax hikes -- without stifling the moderate growth necessary for an economic resurgence.
"AAA governments will probably not have the luxury of waiting for the recovery to be secured before announcing and perhaps also implementing credible fiscal consolidation programs," says Moody's analyst Pierre Cailleteau.
Even England's pristine credit rating remains at risk, since S&P cut its outlook to negative last spring, citing an enormous and increasing debt burden that may reach 100% of its GDP. And the U.S. doesn't seem too far behind -- American debt represents 85 per cent of its GDP and is expected to climb.
Massive monetary stimulus programs implemented this year and the economic stimulus program set to unravel in 2010 add more uncertainty. If not unwound carefully, these moves could further rock the global economic boat.
However, there's little worry that holders of AAA-rated sovereign bonds won't get paid. Cailleteau also notes that "there is no historical record of 'rich' countries defaulting on their debt" and that those governments are "more willing to default on social obligations -- such as changing the retirement age -- than on financial obligations." Other sovereign bond holders may not be so fortunate.
"Let's say Hugo Chavez finally decided to make good his threats and default," says CreditSights analyst Steven Zausner. "We would guess that a Venezuelan bank would be prohibited from making external debt payments, even if they had the foreign exchange reserves to do so."
Written by Lauren Tara LaCapra in New York