Greece – an exit from the euro now a possibility…

As markets now price in a full default on 2 year loans, and the next tranche of the bailout hangs in the balance until political chaos abates, the question now seems to be – is an exit from the euro inevitable? The people of Greece are against it, but politicians are threatening it and firms are getting prepared for the possibility. Finally, there is a fear of a run on the banks as deposits fall and the risk other countries may join the ‘default’ bandwagon.

Greeks do not want to leave the Euro

Although 60% of the Greek population view the austerity terms set for them to receive the next tranche of their bailout negatively, more than 7 in every 10 favour staying in euro. The main benefit to the country in the reinstatement of their own currency would be its inevitable depreciation, enabling the economy to regain competitiveness with respect to the (cheaper) price of their goods and services. UBS estimates this would be a 60% change in valuation. However, the bank also estimates borrowing costs would rise by 7%, hitting balance sheets and costing each citizen €11,500 in the first year outside the euro (€4,000 in subsequent years).

…But politicians point to the possibility

Nevertheless, politicians have begun pointing to the possibility of Greece leaving the euro. When faced with a potential referendum being held in Greece, subsequently called off, Sarkozy exclaimed that the “real question is whether Greece remains within Europe or not”. The Luxembourg Prime Minister tried a more diplomatic tact conceding it does not have to remain a member “at all costs”. Whereas Germany’s biggest newspaper far more brutally demanded “no more billions for the Greeks, Greece out of the euro!

…And firms are starting to prepare

And companies are starting to make preparations for Greece to return to their own currency. Tui, one of Europe’s largest travel companies see Greece leaving the euro as “more than a theoretical possibility” and have accordingly requested the freedom to pay bills in the new currency.

Lack of credibility puts the bailout at risk

A surprise and ultimately rejected call for a referendum and the ensuing political chaos put the next tranche of the bailout at risk. A last ditch attempt at appeasing the people, by putting the acceptance of the tough austerity measures they will have to endure to a vote, led to threats of expulsion from the euro. Subsequently, a coalition government has been formed until early elections can be called and the Prime Minister has stepped down from his position. The rumours that the leader of this new unity interim government, Papademos, wasn’t even in the country at that time doesn’t bode well for a new era of superior management!

Time is short as an €8bn bailout has now been withheld for over a month, until the situation is sorted out. 700,000 public sector employees and 2 million pensioners need to be paid at the end of the month and nearly €3bn for bonds maturing in December from the 19th onwards. However, Greece still has a bloated public sector, refuses to sell or lease more of their assets, misses out on what could amount to €30bn in tax avoidance each year and continues to generate a 10.5% deficit in terms of spending versus income. And with riots on the streets and wage and pension cuts already of 20% and upwards, flexibility to cut more is somewhat limited. Fundamentally of course, this won’t generate growth. With the resulting bailout a short term plug, and the economy still forecasted to shrink by 2.5% next year, the feeling of futility can be understood.

…and there are fears of a run on the banks

Worryingly, Greece deposits fell by €10bn, 6% of current deposits in October alone. And it’s no longer just the wealthy looking to relocate assets to the likes of Switzerland but by people needing the funds to survive. An audit of Greece’s largest banks could reveal in December €15bn of non-performing loans, whilst holding a disproportionally large amount of their own sovereign debt. Greek 2 year yields have risen above 100%, implying investors do not expect these loans to be repaid. It could take €30bn to recapitalise these banks.

… and the risk others may follow

If one country is allowed to renege on its debts, then there is the possibility of others demanding likewise. Ireland could follow suit and demand it is therefore unfair that they have to repay bond holders in full. However, although a possibility, it is not currently a probability. The stark austerity measures being imposed on Greece, and the scrutiny they are now under is enough to put other countries off that option for the moment. Ernst &Young Item Club estimate that a default by Portugal, Ireland & Spain would cause Eurozone output to fall by 6%, in a recessionary environment that’s not a number to take lightly!


    1. This means the possibility of a Euro break up is greater than it was a few months back. The UK would not be immune to the fallout, with our banks heavily exposed to the region. The question of how exactly the UK would be affected is hard to predict since the ways in which this could play out have vastly different outcomes. For example, if Germany were to leave, finally bowing to domestic pressure to halt propping up other less responsible countries, the Euro could depreciate by 2%. In contrast, if Italy were the culprit, no longer able to finance the world’s third largest bond market, then the currency would appreciate by 3%. These polar opposite movements would affect bank holdings likewise. The consistent thread running through both scenarios would be the political, economic and financial upheaval it would cause.
      Of course, over the longer term, the UK would no longer need to funnel money into a an ever-expanding ‘rescue fund’, countries could regain their competitive advantage and growth would return both for the Eurozone and the UK. The Eurozone is the UK’s largest trading partner.
      And as for your final question – where next to invest.. Watch this space as I finalise my 2012 outlook but the themes that continue to play out from last year are: a focus on quality, balance sheet strength, protected demand and purchasing power; it continues to be a case of being selective within asset classes…

    1. The two are not necessarily connected conclusions, however the economic fallout of Greece leaving the Euro would make it:
      1. Politically tricky for the remaining countries to not attempt to ‘punish’ Greece in that sort of manner and
      2. An inevitable consequence since the country may no longer be able to meet the membership criteria (stabile institutions, with a functioning market and adherence to the political, economic and monitory aims of the union).
      If Greece were to exit the Euro, it would cost each citizen the equivalent of E11,500 per person in the first year, keeping in mind many are already over-extended and have severe overdue debts. Banks could go bankrupt, there could be civil unrest and investors would flee..
      As for Greek people living outside of Greece – the main concern would be any investments or savings held at home. The re-introduction of a ‘new drachma’ would devalue substantially versus the euro and hence wipe out some value.
      Although severely negative in the short-term, the hope would be of course that this ‘cheaper’ currency would help the country regain its competitive advantage boosting exports and eventually growth..

  1. Well, it certainly looks like someone was asleep at the wheel. This problem didn’t happen over night. Why in the world someone in government didn’t take action ten years ago (or more) is baffling.

  2. Similar borrowing practices that led to the global financial crisis in 2008 are also central to to debt crisis in Greece. 16 nations use the euro as their common currency; however when the monetary union was created the “creators” negated to back it up with any political policies to help with budgets or eurozone committees to oversee member nations with times of economic chaos or change. Leaving all these eurozone economies “on their own”, forced to go with the tide and unable to separate themselves or prepare for anything coming down the economic world wind

    As politicians and firms now run around trying to solve the solution, you have to wounder why these safeguards were never put in place on a monetary system that affects so many. The long and short of it is the debt crisis facing Greece is where the members of the eurozone will either stand as one or fall alone. It is quite certain that even a Greece bailout will not save the euro at this point, especially with the economies of Portugal, Italy and Spain hanging in the balance. However maybe this will be a wake up call for policy changes and hopefully countries in trouble will respond with economic aggressiveness to help stimulate some sense of self survival amongst the rising debt surmounting them. It’s an all too familiar tale of how unregulated systems can lead to disaster that impact the lives of so many caught in the crossfire.

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