As one financial crisis recedes, another may be beginning. In Dubai this week, we've had a foretaste of what may be to come as governments around the globe seek to grapple with the explosive growth of fiscal deficits and public debt.
Like everyone else, my regard for the miracle of Dubai's fast-evolving skyline has always been tempered with a high degree of scepticism. As a monument to the vanity and hubris of Sheikh Mohammed bin Rashid al-Maktoum, Dubai has long looked like an accident waiting to happen. Such has been the pace of development that nobody could have been surprised by the debt default now threatened. Only the assumed support of Dubai's richer neighbour Abu Dhabi, which is now far from certain, has prevented it happening sooner.
Yet the important question for markets today is not whether Dubai and Sheikh Mohammed can survive the sandstorm; in fact, that is almost irrelevant. Dubai's debts of $80 billion (£48 billion) are a tiresome and unwelcome irritant which will cause further write-downs among western banks, but in the scale of things not of great significance: Britain is planning to raise more than three times that amount in the debt markets in this financial year alone.
Rather, the issue is whether this folie de grandeur of a desert kingdom is just an isolated, and therefore containable, incident, or a more worrying outrider for a wider sovereign debt crisis which might eventually engulf major, advanced economies. Everyone thought the financial implosion of the last two years was largely behind us – yet Dubai has reminded us that if nations start defaulting, then it may be about to enter a new and even more frightening phase.
Think of Dubai not so much as the hors d'oeuvre as the pre-dinner canapé, with the starter reserved for larger economies with distressed fiscal positions, such as Greece and Ireland, moving for the main course on to Japan and possibly even Britain and the US.
Already, there are rumblings. The cost of insuring sovereign debt against default has risen across the board, and for countries thought particularly at risk, bond yields are on a firm upward march.
Across the developed world, public debt is set on an explosive course. According to new estimates by Moody's, the credit ratings agency, the total stock of sovereign debt worldwide will have risen by more than 50 per cent between the start of the financial crisis in 2007 and the end of next year, to $15.3 trillion.
But this is just the beginning. On current projections, that total is set to rise by at least a further 50 per cent, before finally peaking in four to five years' time, and then only if governments have by then taken remedial action.
These are uncharted waters, quite without precedent in peacetime. In seeking to address the financial and economic crisis of the past few years, countries have come close to bankrupting themselves. It is as if, in treating the patient, a physician has infected himself with the same deadly disease.
Perhaps oddly, financing these fast-growing deficits has not so far been a problem, at least for the major advanced economies. Risk-averse investors have spurred high demand for sovereign debt, in the possibly misguided belief that there can be no haven safer than assets guaranteed by taxpayers and the ability of their governments to print money.
More perversely still, the crisis in Dubai has caused a renewed flight to the perceived security of G7 government debt. Money is being withdrawn from the periphery and reinvested in US Treasuries, German bunds, and even British gilts.
But if the banking crisis is anything to go by, that's not where the story ends. There, too, the implosion began with smaller, obviously flawed bit-players, who had self-evidently grown too rapidly and overstretched themselves.
Markets dashed to withdraw funding from Northern Rock, but in transferring the money to the likes of the Royal Bank of Scotland found that they had invested only in something even more unstable. The Rock, it turned out, was just an outlier in a systemically unsafe sector.
If Dubai is the sovereign debt equivalent of Northern Rock, then Greece might be its Bear Stearns and Japan its Lehman Brothers. But why stop there? For Citigroup, think the US, and for RBS and HBOS, think Britain. Only there would be no one to bail out their creditors if America or Britain showed signs of defaulting.
Of course, I am exaggerating to make a point. Nobody thinks this a likely outcome, even if it ought to be added that nobody thought the semi-nationalisation of RBS and HBOS remotely likely either. The judgment of the markets is that on present trajectories, the sovereign debt burden is just about manageable. But it's touch and go.
The credit ratings agencies are just itching to downgrade some of the big hitters, alongside the obviously more vulnerable, with Britain and America the first in line. If the markets start to demand a premium for their money, that's going to make the task of economic recovery and fiscal consolidation that much tougher. At the risk of sounding like a scratched record, this crisis is not over yet – not by a long chalk.
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