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Quick Edit | Too irrational to fail?

Quick Edit | Too irrational to fail?
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First Published: Wed, Apr 28 2010. 11 42 PM IST
Updated: Wed, Apr 28 2010. 11 42 PM IST
After confronting a series of banks that were too big to fail, investors now have to contend with such countries. With rating agency Standard and Poor’s downgrading Greece’s debt, markets worldwide are falling; India’s Sensex shed 310 points.
So, is there an orderly way Greece can wind down its tragedy—that is, fail? Policymakers are shying away from debt restructuring, but the bigger question is whether markets will shy away.
Here, Citigroup global economist Willem Buiter calls attention to what’s called the debt Laffer curve. Arthur Laffer’s original curve was meant to show that after a peak, a rise in income-tax rates worsens revenue. Its debt avatar suggests that beyond the peak, a rise in debt is worse for everyone, including lenders.
If Greece has crossed that peak, it would be collectively rational for investors to accept a write-down. But when they’re staring down an abyss—a series of nations with weak public finances—this could be too much to expect. They weren’t exactly rational the last time, when faced with crises at Lehman, Merrill and others.
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First Published: Wed, Apr 28 2010. 11 42 PM IST