Illustration: Lazaro Gamio/Axios

The party seems only to be roaring ahead — Japan's Nikkei index today closed at its highest level since February, and U.S. and European stock markets finished the week up as well. But stubborn trouble in emerging markets has some economists worrying about an eruption of financial contagion resembling past global crises.

What's happening: Plunging currencies and stock markets in the emerging economies suggest a threat to the 9½-year stock market bull run, along with the global economy, with Europe especially in the line of fire, economists say.

Background: When economists worry about "financial contagion," they are thinking in part about 1997, when a crisis with the Thai baht set off a regionwide Asian economic crisis that, in 1998, reached Russia and sent its economy into a tailspin. The 2008–09 financial crash was an extreme example of contagion, spreading and nearly crashing the entire global economy.

The current picture of trouble begins with the end of low, flat interest rates, which have fueled the global economy since the financial crash: The U.S. has begun to raise rates, and the Fed is expected to increase them another notch later this month.

The other main indicator of a threat is a spike in dollar-denominated debt issued by emerging nations — it has soared to $11 trillion from just $3 trillion in 2009, according to Joe Brusuelas, chief economist at RSM.

As interest rates rise, countries like Turkey, South Africa, Brazil and Argentina will have to make higher payments on their debt, potentially putting them in a serious crunch. Advanced economies have relatively high exposure to the emerging economies: 10.3% of the U.K.'s total bank assets are linked to emerging markets; 6.9% of the EU's; and 5.3% of U.S. debt, Brusuelas said. "That is quite a bit," he said.

Of particular worry is Turkey, whose debt is 53.4% of GDP, Brusuelas said.

  • "If Turkey goes bankrupt — if it defaults — France, Germany and Italy are all on the hook," he said. "Europe will be in a major problem."
  • Spain is holding $82.3 billion in Turkish debt, France $38.4 billion, Germany $17.1 billion, Italy $16.9 billion, the U.K. $19.2 billion, and the U.S. $18 billion.

In an Aug. 31 note to clients, Christian Keller, head of economic research at Barclays, suggested that the U.S.-instigated trade war can exacerbate the emerging market crisis and help to spread the financial trouble globally.

"Mounting concerns about global trade and financial links in a world of increased protectionism and tightening dollar liquidity have the potential to create wider contagion, threatening the U.S.-driven global expansion."
— Keller, in a note to clients

The bottom line: Historically speaking, financial crises seem to arrive when the consensus mood is at an obliviously partying high. Which doesn't seem very far from the atmosphere now.

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