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Research Process

Process of Abstraction

1 - Sovereign Debt & Credit Crisis
2 - EU Banking Crisis
3 - Bond Bubble
4 - State & Local Government
5 - Risk Reversal
6 - Residential Real Estate -
Phase II
7 - Commercial Real Estate
8 - Central & Eastern Europe
9 - Chronic Unemployment
10 - US Banking Crisis II
11 - Pension - Entitlement Crisis
12 - North & South Korea
13 - Public Policy MIscues
14 - Rising Interest Pressures
15 - Food Price Pressures
16 -US Stock Market Valuations
17- Finance & Insurance Balance Sheet Write-Offs
18 - Japan Debt Deflation Spiral
19 -Cedit Contraction II
20 - US Reserve Currency
21 - US Fiscal, Trade and Account ImBalances
22 - China Bubble
23- Government Backstop Insurance
24 - Corporate Bankruptcies
25 - Slowing Retail & Consumer Sales
26 - Public Sentiment & Confidence
27 - Shrinking Revenue Growth Rate
28 - US Dollar Weakness
29 -Global Output Gap
30 - Oil Price Pressures
31 -Natural Disaster
32 - Pandemic
33 - Iran Nuclear Threat
34 - Crisis Programs Expiration
35 - Terrorist Event

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The reason for the current uproar is food price inflation and unemployment.

The latest alarming news from the BBC live blog:

Dubai-based al-Arabiya TV says protesters are trying to "storm" the Central Bank in Tunis. The bank is on Avenue Mohamed V, to the north of the interior ministry.

The Tunisian crisis may just be the first in a series of governments brought down by rising inflation world wide.

First, lets be clear: Tunisia is a unique case. The combination of food price inflation and unemployment isn't special, but the WikiLeaks reports on the country's ruling family and the government crackdown on protesters is.

But there's no reason to think this is going to be a one-off event.

The potential for spillover to countries with similar governments, lacking democratic safety valves for political unrest, is high.

Earlier this week, we pointed out the food riots that we're sweeping the world. Tunisia was there, but so where Algeria, India, and China.

The latter two governments are struggling to fight inflation, by increasing tightening measures. But they're big economies and unless things get completely out of control they're likely to be fine.

Algeria may not be so lucky, as inflation continues to spur citizens to the streets. Concerns may also rise in Morocco, where protests occurred in late 2010.

Pakistan may be another country to watch, with its already unstable political situation, and soaring inflation, with consumer prices rising 14.56% year-over-year.

UPDATE 2:21 PM ET: Over at The Guardian's live blog, their pointing out how Egypt is another good example of a country primed for a similar Tunisian-style scenario. Certainly, with similar inflation issues there and a weak government headed by a dictatorial leader, it fits.

Already Al Qaeda is pushing for Algerians and Tunisians to overthrow their governments. Populism, spurred on by hunger, could pose a big threat to already teetering weak regimes in 2011.

Check out these photos of the food riots sweeping the world

Interest payments as a percentage of our total government outlays has declined pretty dramatically since 1980.

Interest payments as a percentage of tax receipts

Interest payments as a percentage of GDP.

Borrowing has gotten much, MUCH, cheaper since those days. The red line is the yield on the 10-year Treasury


1- Lower Interest Rates


2- shorter maturities on Government Debt ( ie 1 year OptionARM versus 30 Fixed Rate Mortgage)

We're sensing a shift in the discussion about the debt ceiling. Now everyone assumes it won't be raised, at least not initially, and that there will be a period where the government has to "maneuver" to avoid a default.

Nomura walks through Tim Geithner's bag of accounting tricks:

1.    Shrink the Supplementary Financing Program (SFP): Since 2008 the Treasury has issued SFP bills in an effort to drain reserves from the banking system and support quantitative easing (QE). These bills count against the debt ceiling. A likely first step would be to allow these bills to expire. This could begin as soon as February.

2.    Redeem intra-governmental debt: There are two kinds of US government debt: that held by the public and that held in intra-governmental accounts, such as the Social Security trust fund. In a debt limit crisis, federal law allows the Treasury to redeem government securities held by the Civil Service Retirement and Disability Trust Fund – one of many such accounts. As securities held in intra-governmental funds count against the debt ceiling, early redemption enables the Treasury to issue debt to the public to generate operating cash. The Treasury must still pay benefits to fund members, but it could use early redemptions as a temporary stop-gap measure.

3.    Halt investment in trust funds: Similarly, federal law authorizes the Treasury to halt investment of surplus receipts (including reinvestment of principle and interest payments) in three government trust funds (the Civil Service fund, the Exchange Stabilization fund and the “G-fund”). These proceeds would normally be invested in Treasury securities that count against the debt ceiling. Temporarily delaying these investments would allow the Treasury to issue more debt to the public.

4.    Swap debt in trust funds: A branch of the Treasury department called the Federal Financing Bank (FFB) holds the debt of various government agencies. Agency debt does not count against the debt ceiling. In the 1995-96 crisis, the Treasury swapped Treasury securities held in the Civil Service fund with agency debt held by the FFB.

5.    Suspend sales of “slugs”: In his letter to Congressional leaders, Secretary Geithner said that the Treasury could suspend the sale of State and Local Government Series (SLGS) bonds – known as “slugs” – which are bought by municipal governments with surplus cash. While theoretically correct, SLGS outstanding have actually declined over the last year, so gross issuance is probably small.

They estimate this will give the government about $1.1 trillion in extra spending, lasting about 4 months, during which we could see much heightened debt market volatility.

We Really Are Due For A Sovereign Debt Crisis Right About Now

Sovereign debt crisis are actually pretty common so there's nothing particularly abnormal about the current situation in Europe, according to Rabobank.

There research shows that sovereign defaults go all the way back to the fourth century B.C. It's only been recently that everyone has forgotten and dismissed the threat of sovereign default.

From Rabobank:

In fact, if anyone would speak about it a few years ago, their economic understanding, and even possibly their sanity, would be questioned by all. Sovereign debt crisis was a thing of the past, or so the argument went. And if it did occur, it would most probably be in a ‘third world’ country. The simple reason was that industrialised countries had ‘graduated’ from periodic bouts of government insolvency given that they did not opt for a default since the 1960s.

The bank's exhibit, a chart from the economists Reinhart and Rogoff, showing sovereign default is in no way abnormal. Notable, the absence of "advanced economy" default since the 1960s. The eurozone crisis could be about to end that.

Europe fears motives of Chinese super-creditor

The EU authorities fear that China's purpose in buying eurozone debt may be double-edged, intended to push up the euro exchange rate against the yuan and gain advantage for exports.

Herman Van Rompuy, Europe's president, said during a visit to Downing Street that the Chinese may have "political" thoughts in the back of their minds for coming to Europe's help, and gave a strong hint that they are also engaging in currency manipulation.

"When they buy euros, the euro becomes stronger and their currency a little bit weaker. That is not neutral in regard to their competitive position. But I go no further in this topic. It could be too delicate," he said.

Mr Van Rompuy nevertheless welcomed the latest purchases of bonds from the eurozone periphery as a valuable gesture of support. "They invested even in some weak countries, so they are very confident in the solvency of some countries," he said.

China has emerged as the transforming force in the eurozone debt crisis over recent days, pledging to use part of its €2.87 trillion (£1.82 trillion) reserves to safeguard global stability. The question is whether the Communist regime is hoping to extract strategic concessions in exchange.

The footsteps of a giant creditor were clearly felt in Portugal's bond markets on Wednesday, and again on Thursday in Spain and Italy. Madrid sold €3bn of five-year debt at 4.54pc, a full percentage point jump from November but still below the danger level. Italy also enjoyed a benign auction.

The exact role of China is unclear. Chinese vice-premier Li Keqiang promised to buy Spanish debt during a visit to Madrid last week, reportedly up to €6bn (£5bn).

China was the secret buyer in a private placement of €1.1bn of Portuguese debt last week, according to the Wall Street Journal. Finance minister Fernando Teixeira dos Santos said China "may well have been" a key buyer in this week's debt auction.

China was not the only force at work. Traders say the European Central Bank (ECB) acted aggressively behind the scenes, calling some 20 dealers to buy Portuguese debt in the secondary market.

This created what amounted to a "short-squeeze" in Portuguese bonds just before auction, causing spreads to tighten dramatically and inflicting damage on market makers acting in good faith. City sources say this has caused some bitterness.

Charles Grant, head of the Centre for European Reform and author of a book on EU-China relations, said China's top goal is to secure an end to the EU arms embargo, imposed after the Tiananmen Square massacre in 1989. It rankles as humiliating treatment for a global superpower that has since changed profoundly.

The EU has refused to move on the sanctions until China ratifies the International Covenant of Civil and Political Rights, and China's arrest of Nobel peace dissident Liu Xiaobo has further complicated matters.

Yet Brussels has suddenly begun to shift gear. Baroness Ashton, the EU's foreign policy chief, said the embargo is damaging EU-China ties and called for new thinking to "design a way forward".

Mr Grant said Britain, France and Germany are all wary of giving ground, cleaving closely to US policy. Washington views China's growing military might as a strategic threat to the Pacific region. There have already been hot words over the South China Sea, and the Pentagon claims that China has an "operational" ballistic missile able to sink aircraft carriers at long range.

A WikiLeaks cable from the US embassy in Beijing last January cites the EU's mission chief, Alexander McLachlan, saying Spain had tried to curry favour with Chinese leaders, "seeking advantage at other EU states' expense". He said China was fully aware of Madrid's game but was exploiting intra-EU divisions to gain leverage.

China's second goal is to secure market economy status from the EU. This would make it much harder for the EU to impose anti-dumping measures against Chinese imports. As it happens, the EU has just lifted its punitive tariff on Chinese shoes.

Mr Grant said Beijing will not risk much cash to woo Europe. "They are very hard-nosed. They may splash some money around for goodwill but they are not going to waste the hundreds of billions that may be needed. Nothing short of meaningful action by Europe's leaders can genuinely stabilise the eurozone," he said.

China's sovereign wealth funds, including the central bank's exchange fund SAFE, have been severely criticised at home for losing money on US investment banks during the credit crisis, or on dollar losses from US Treasury debt. They will be careful about fresh risks in euroland.

"It is debatable whether China would actually be willing to become buyer of last resort of the debt of a country close to default," said Julian Jessop from Capital Economics. "Chinese officials are acutely aware of past losses and will not want to be seen to risk their peoples' capital on a lost cause. Their actions frequently fall short of expectations raised by their words."

Simon Derrick, from the Bank of New York Mellon, said that China must find somewhere to recycle its fresh reserves or lose control of its own currency. It is already sated with US assets. Holdings are 65pc in dollars, 26pc in euros, 5pc in sterling and 3pc in the yen.

"They may start buying some emerging market bonds but basically the only place they can go is into euros, and buying €6bn of Spanish debt is a good investment if it helps protect their other euro assets," he said.

Mr Derrick said Beijing appears to take the view that the ECB's monetary policy is fundamentally more rigorous than the money-printing ventures of the US Federal Reserve. "The Chinese have made it clear that they don't see any meaningful shift in US policy."

In the global beauty contest, Europe's debt still looks less ugly than the main alternative.