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Home > Blogs > Anthony Harrington > Greek tragedy, part 3: Deal? Some deal!

Greek tragedy, part 3: Deal? Some deal!

Finance Blogger: Anthony Harrington Anthony Harrington

On the evening of Thursday March 26th, it looked as if the Greek government had been thrown a lifeline supposedly woven out of the combined efforts of the EU and the IMF (in reality comprised of some rather unlikely suggestions by German Chancellor Angela Merkel). The fact that the lifeline had a slab of concrete at the end of it, aimed at the swimmer’s head, possibly detracted from the effort, but it was the nearest thing to a lifeline a stunned Greece has yet been offered.

If—and it is a huge if—the rescue package actually comes into being, it will undoubtedly result in years of extreme austerity for Greece and its citizens. In the eyes of many analysts (for example, brokers Charles Stanley’s Jeremy Batstone-Carr’s analysis, “A support package for Greece”—unfortunately only available to journalists), if Greece really does put in place a belt-tightening program capable of reducing the fiscal deficit to the EU’s now-mythical 3% of GDP over the next three years, it will probably knock the country’s GDP back by between 15% and 20% from its 2007 peak. This in turn will condemn the country to a prolonged depression during a period where the majority of EU countries expect to see a return to reasonable growth.

Then there is the matter of how Greece is going to be able to finance the various EU “bilateral” loans envisaged under the bailout plan. (The Merkel plan involves EU countries lending to Greece in the same proportion as their capitalization ratios for the European Central Bank).

These loans may well come with an interest repayment at 6% or more. While, as Charles Stanley’s analysis points out, Greece has been able to fund a debt-to-GDP ratio of between 90% and 100% for the last 10 years, this was during a period where the country’s economy grew at an average of 8%—not when it was shrinking by 15%!

It is safe to say that this package, if adopted, is undoubtedly going to entail civil unrest on a grand scale in Greece. We had rioting in the streets at the mere suggestion of austerity so heaven only knows what the reality itself will provoke as the hard months turn into hard years. In the light of this, a number of learned onlookers and analysts are turning over the idea of what might happen if Greece just chucked it all in and went back to the drachma (which was replaced by the euro in 2001/2).

The lure of this move is that at a stroke the country would be free at last to depreciate its way out of its debt, letting the drachma crash down to whatever level it found comfortable. Greek exporters, able to undercut virtually all their foreign competitors, would find external markets all around them opening up like flowers in the sunshine.

The downside, however, would be huge. External creditors, once burned, are likely to buy almost anything else in future rather than Greek bonds. On top of this, as US commentator John Mauldin notes in a recent newsletter (March 26, 2010, “What does Greece mean to you?”):

“Why is Greece important? Because so much of their debt is on the books of European banks. Hundreds of billions of dollars worth. And just a few years ago this seemed like a good thing. The rating agencies made Greek debt AAA, and banks could use massive leverage (almost 40 times in some European banks) and buy these bonds and make good money in the process.”

Greece bailing out of the euro and depreciating its way out of its debts would be more than a hiccup for European banks—especially if Portugal, which, like Greece, currently says it has absolutely no intention of leaving the euro, were to follow, with Spain falling after that. In other words we seem to be in for a long game of poker, with the Germans pretending that they can keep Greek pain in Greece. It simply is not going to happen that way and the quicker European politicians grasp the interconnectedness of the dominos they are tapping and wobbling, the better…

Further reading on Greek debt



Tags: EU , European Monetary Union , government bonds , Greece , IMF , sovereign debt
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