What will happen to Greece?

[D_Tully Tunnelrat]

Kicking the Can Down the Road...

Wolfgang Munchau, a columnist on Europe in the FT, believes the EU loan to Greece is merely a stop gap measure, because there is no mechanism, or coherent policy to fund future fiscal short falls for Greece, or any other EU country in chronic deficit; a point already made many times here.

It is clear that this "bail-out" represents a wealth transfer from Greece to Berlin, similar to how the IMF has worked, and has been deeply resented, most recently by Asia, and Argentina, for many years. In fact, Germany could very well have bought up all 50B in new Greek euro bonds at rates of 5-7%, issued their own German bonds at 3.5%, and have made up to 3.5% on all 50B, but that would have been seen as too naked a monetary grab by Europe's economic strong man - an image which conjures overtones no one wants to revisit.

Because of certain aspects in the nature of Greece's economy - a low consensus on financial reforms, a weak financial infrastructure, and a weak infrastructure, Munchau believes it will eventually default, even if there was strict adherence to the austerity plan. Unfortunately history strongly supports his thesis, as Greece has a long history of defaulting on it's bonds. Even more unfortunate will be the consequences of same, as there is no recent precedent for a collapse of this magnitude in Europe, although defaults can widely range from paying back nothing to almost all of the original loan. The collapse of Lehman in the US, was a default of about a similar dollar value: $600B, and we all remember that sinking feeling.

Since Greece could well be a precursor to what may come for almost all industrialized democracies, indeed even for States in the US, although Federalism creates a fiscal buffer zone, which may give rise to an internal US IMF, Greece by virtue of being first, may not suffer the same fate as Lehman. After all in the US, Bear Stearns, the US canary, was bailed out, where Lehman was not. The distinction being whom each institution owed money to. So, it's worth noting who the Greeks, Spaniards, Irish, and Portuguese owe money to, as that could determine who gets bailed and who does not. But that's the future, rather than now, when the EU leaders kicked the (economic) can down the road.

Here's a link to his article. I have encapsulated some of it here, as it may only be available to paid subscribers.
FT.com / Columnists / Wolfgang Munchau - A Greek bail-out at last but no real solution

 

[798686]

The key question is surely why the EU is making this "nice gesture". I can see two sorts of answers:

1) The "nice gesture" buys time. A solution for Greece and the Euro is now only possible with Greece outside of the Euro, but the Euro was set up as an indissoluble currency union (shades of the Titanic not having enough lifeboats as it was unsinkable). It is a legal, political and economic challenge to unravel the unworkable Euro membership and all methods seem pretty extreme. So yes the EU does need time and buying time is therefore important.

2) The politicians are in denial. Very many European politicians have bought into the EU project and the Euro at an emotional level and have accepted the idea of the inevitability of ever-closer union and see all setbacks as beneficial crises. Politicians may be putting their political views above the economic advice they will be receiving. They will be supported by lawyers who rightly point out that the legal knots have been tied.

I think it's a mixture of the two. You're right about their obsession with the European project - it's been so ingrained in ppl, that many truly believe 'more Europe' is always the right/only answer to everything. It's become a sort of religion that people dare not question.

I do think they're monitoring the situation tho, economically, and the Germans especially aren't stupid. I think they are doing as little as they can get away with, but are prepared to step in if needed. Not sure they can really countenance the thought of Greece leaving or the Euro collapsing tho - and it's so important to them, they'd probably do almost anything to have it continue in some form or other.

 

[Jason]

Munchau seems to have a strong argument.

they'd probably do almost anything to have it continue in some form or other.

Yes Germany probably would. The whacky idea set out somehwere above is that the Euro continues but in addition Germany and other nations of the Eurozone issue national bearer bonds which are used for domestic exchanges. Thus in Germany you get paid in German Bear Bonds and buy goods in the shops in this "currency" using "vouchers". The Euro continues to exist but withers as these national bear bonds are used more and more. They would have most of the features of currency and could be exchanged for Euros or one another at a fluctuating exchange rate.

 

[Drifterwood]

Thanks Duc, I am really enjoying your contributions.

Here's a thought. What happens when you incur long/medium term debt on short term spending that leaves you with no redeemable value?

And worse, long term debt incurred on an asset that was overvalued when you bought it, and costs more to service than it will be worth in the future?

These things apply equally to people, businesses and countries.

 

[D_Tully Tunnelrat]

Thanks Duc, I am really enjoying your contributions.

Here's a thought. What happens when you incur long/medium term debt on short term spending that leaves you with no redeemable value?

Pleasure.

You have precisely hit the nail on the head of the dilemma we all face. Back in an era where your parents, or grandparents gave financial primers, no one would have ever considered this method of financing, as it's fiscal folly, for as soon as either rates rise, long or short, and/or, if you borrowed short term against a long term asset, and its value falls, you are squeezed, and cash becomes king. If you've ever bought stocks on margin, and gotten a margin call, it's the same thing. This time it was a global call.

Amazingly we had an institutional regulatory structure in place since the '29 crash (Glass-Stegall in the US, as I am sure you had the same equivalent over there) strong enough to not to repeat this kind of stupidity, however thanks to a combination of Reagan-Thatcher inspired reduced financial oversight (where NY and London alternated as THE world's financial centers), and obsessive-compulsive Phds with ever more abstract and abstruse quantitative theories: CDO, MBS, etc. (which blithely ignore the 2% of reality that eventually does happen), we forgot it all, or worse, were simply struck dumb by the ever increasing complexity of financial "innovation." To wit: Former US Fed Paul Volcker's favorite line is that the only financial innovation he's seen in the last 20 years is the ATM.

This time it's different always ignores human nature, which is we generally won't do something unless we have to, i.e. paying taxes. Now we all are going to see if there is enough stimulus globally, as this is no longer solely a national, or regional issue, to offset the decimation of trillions in global debt, caused by declining real estate assets in most developed, and developing nations. (US, now Singapore investor, Jim Rogers, and equally legendary US short seller Jim Chanos, agree that China Real Estate - Mainland, Hong Kong, and Taiwan is in a stratospheric bubble, which may only be offset by ever greater infrastructure projects, ala Japan, for the next 20 years.) My greatest concern is that we have not learned our collective lesson, and the next bubble maybe even more extreme, but will rise in another area, say green energy. Tulips, anyone?

If you get a chance, catch Paul Krugman, Nobel prize winning economist, who has a column in the NY Times. He has an amazing ability to cut through financial clutter, whether you agree with him or not (he's a classic Keynesian), he's a clear, humanistic lens, with a sharp eye for numbers that matter.

 

[Jason]

Very boring statement on Greece from the IMF:
Press Release: IMF Statement on Greece

 

[dandelion]

Amazingly we had an institutional regulatory structure in place since the '29 crash (Glass-Stegall in the US, as I am sure you had the same equivalent over there) strong enough to not to repeat this kind of stupidity, however thanks to a combination of Reagan-Thatcher inspired reduced financial oversight (where NY and London alternated as THE world's financial centers), and obsessive-compulsive Phds with ever more abstract and abstruse quantitative theories: CDO, MBS, etc. (which blithely ignore the 2% of reality that eventually does happen), we forgot it all, or worse, were simply struck dumb by the ever increasing complexity of financial "innovation."

I think the issue may revolve around complex financial instruments, but in reality is straightforward. Banks are businesses, whose job is to push around money and take a cut on the transaction. They dont care what happens to the customers so long as they make a profit. No one has demonstrated that the banking industry, on the whole, failed to achieve this. They made loads of money. The worst consequences for the industry were taken care of by national governments, as the bankers themselves must have known they would be. The couple who got nasty surprises were those the americans allowed to fail, but the result of doing that was so terrible the US rapidly changed its policy. On the whole, those institutions are now back to busines as usual. In all this where is any reason for any bank to behave differently in the future? The clear lesson for bankers is that it still pays to take risks.

 

[StrictlyAvg]

I think the issue may revolve around complex financial instruments, but in reality is straightforward. Banks are businesses, whose job is to push around money and take a cut on the transaction. They dont care what happens to the customers so long as they make a profit. No one has demonstrated that the banking industry, on the whole, failed to achieve this. They made loads of money. The worst consequences for the industry were taken care of by national governments, as the bankers themselves must have known they would be. The couple who got nasty surprises were those the americans allowed to fail, but the result of doing that was so terrible the US rapidly changed its policy. On the whole, those institutions are now back to busines as usual. In all this where is any reason for any bank to behave differently in the future? The clear lesson for bankers is that it still pays to take risks.

Yep, but I don't think even they would have the neck to put themselves in a position where another taxpayer bailout was required. Not for another generation or so anyway...
Taxpayers can revolt if they're pushed hard enough. :frown1:

 

[dandelion]

Yep, but I don't think even they would have the neck to put themselves in a position where another taxpayer bailout was required. Not for another generation or so anyway...
Taxpayers can revolt if they're pushed hard enough. :frown1:

but thats the point, they cant. The banks go down, the world economy goes down. Sure, let it fall and teach them. Shame you'll spend the rest of your life relying on barter and growing carrots to eat.

 

[Jason]

Greece has financial problems now because:
a) it told lies about its economy in order to join the Euro (which it was in no position to join);
b) it has spent over the decade since joining substantially more than it earns, making a bad position worse.

I don't see how these problems can be blamed on the banks. Greece has been able to spend more than it earnt because it could borrow the difference, because it was seen as an acceptable risk. But when its lies came to light it became clear that it was not an acceptable risk, and the markets reacted accordingly.

 

[D_Tully Tunnelrat]

On the whole, those institutions are now back to business as usual. In all this where is any reason for any bank to behave differently in the future? The clear lesson for bankers is that it still pays to take risks.

On this you are 100% correct. If was a failure of global leadership which simply became deathly afraid of any additional change, at a time of terminal downward velocity in the markets, and so, as is most often the case, the politicians punted.

BUT - there is no reason there cannot be an orderly mechanism to unwind any size financial institution, if there is the will. Furthermore higher capital requirements should be placed upon larger banks, and thirdly, banks can be forced to separate their proprietary investment activities (high risk/reward) from their commercial banking enterprises, the latter are essential for any modern economy. That was the very point of distinction in our Glass-Steagall Act.

As to Greece, what is apparent is that they were not held to any standard, which should have been imposed upon by EU regulators on Day One, not Day 3,560. This was not a fault of greedy bankers, but regulatory weakness, as if a school marmish "Don't do that," would have been sufficient chastisement to stop the Greeks from living beyond their means.

Last note on Greece is that they did not get interest rate terms that really would have helped them. The 5% loan rate from the EU, which can only be metered out in a 2:1 ratio with IMF $ (at a interest lower rate), will effectively negate any potential refinancing savings. The total Greek GDP savings at 5% rates, will be only about .2%, so the aid pkg. is not giving them real relief. In fact, the only way it becomes active is if the Greeks cannot obtain market financing, which effectively means they'll have to declare themselves insolvent.

What the EU fails to realize in their attempt at holding the Greeks to task is that "as Greece goes, so goes the euro." Punish Greece only at risk of punishing all of the EU, as currencies are really the ultimate confidence game. The time for strong disciplinary action was 10 years ago; this is frankly a case of too little too late. Furthermore this "mechanism" only came into being because Fitch dropped Greece's credit rate a notch, which disallowed using Greek national bonds as collateral for EU loans. How someone determined the future of all EU finance should rest on the opinion of a small, private agency, is baffling. Perhaps not so if one is a bureaucrat.

 

[Jason]

EU countries that are not already on the Euro are legally bound by the accession treaties to join (though UK has an opt out, as of a sort does Denmark and Sweden has found a great loop-hole). Yet the financial systems of many of them make Greece look like a model of good practice. If these countries do indeed join the Euro then they are so many more Greek tragedies waiting to happen. The markets know this, and right now I don't think any of them could be brought in.

Estonia could in theory join in 2011 but the decision keeps getting pushed back. Most (all?) other countries look like 2013. Latvia is presently pegged to the Euro using a floating peg (prior to joining). However Latvia is seeking IMF help and will almost certainly be required to de-peg. Bulgaria is pegged to the Euro, a fixed peg - this may well come under threat with weaknesses in the Bulgarian economy. Romania, Hungary, Lithuania all have substantial problems. It seems very likely that accession dates will be pushed further and further into the future, and requirements made ever more stringent after the Greek debacle. The strongest candidates are Poland and the Czech Republic. However the popular mood in the Czech Republic may well be very anti-Euro.

Additionally Denmark has a referendum forthcoming on its EU opt outs (including its present practice of keeping the Danish Crown though on a fixed peg with the Euro). The schedule is 2011 - I don't think a date has been set. It is quite possible that Danes will vote to keep their opt outs and see the potential to unpeg the Danish Crown from the Euro at need to be something worth having.

It seems that Sweden is keeping their fudge for a while at least, and remaining outside the Euro.

A consequence of the Greek tragedy is that the expansion of the Euro seems already to have been halted.

For the Eurozone the Greek problems is unresolved. The next phase surely sees it reinterpreted by the markets as a Eurozone problem. Markets are a confidence trick. If the Euro project isn't going forward (and it's not) then it's gone sour.

 

[dandelion]

Greece has financial problems now because:
a) it told lies about its economy in order to join the Euro (which it was in no position to join);
b) it has spent over the decade since joining substantially more than it earns, making a bad position worse.

I don't see how these problems can be blamed on the banks. Greece has been able to spend more than it earnt because it could borrow the difference, because it was seen as an acceptable risk. But when its lies came to light it became clear that it was not an acceptable risk, and the markets reacted accordingly.

The reason Greek bad accounting has come to light is because there is a world recession which has cut incomes-everyones incomes. If there had not been this crash we would not now have a Greek tragedy. They would still be merrily fudging along, with or without the connivance of other members. Greece's unique difficulty is past financial irregularities. Our own is over reliance upon financial services. If the US banks hadnt screwed up the system both of us would still be rolling along, indeed we would no doubt be celebrating Mr Browns uniquely good 13 year record run.

 

[Jason]

Greece broke the rules when they joined and for every year of the next ten. The recession has been the catalyst in creating their tragedy at this time. But it would have happened anyway, though perhaps a year or two later without the recession.

 

[eurotop40]

Greece broke the rules when they joined and for every year of the next ten. The recession has been the catalyst in creating their tragedy at this time. But it would have happened anyway, though perhaps a year or two later without the recession.

And this reaffirms the intrinsic superiority and infallibility of the WASP man.

 

[D_Tully Tunnelrat]

Interesting historical parallel: in the 1830s-40s, the Federal system in the US was similar to the EU union now in that there was no revenue sharing between the Fed and the States - as there was no income tax.

During the depression in that decade, the result of a land speculation/credit bubble, many states took on huge obligations, which they could not meet: Indiana, and Illinois defaulted; Florida, Louisiana, Arkansas, and Mississippi repudiated. The Feds chose to not bail out the States, which prolonged the Depression: 1837-1843.

One other interesting oddity from that time period; then the US paid Chinese merchants for purchases in silver, but with introduction of opium (Opium War), into China, their new addiction forced the Chinese to paying for it in hard currency (Sterling), which was quickly replaced by the easier to be shipped, Bills of Exchange, which were issued by UK buyers of US cotton, in Sterling. Since all the Sterling, previously shipped to China, now remained in the States, the money supply ballooned. The parallel to now is that in '02, the Chinese and Japanese issued huge (30B) amounts of Yuan and Yen, which they then used to purchase US Treasuries, artificially lowering US rates, creating easy to repay loans, and a new speculative real estate bubble, just like in 1836.

Gresham's Law states that bad money drives out good, in cases where they are of equal value, which is ultimately the case for all paper currencies. Have we unknowingly entered into a one world currency, with only notional/regional preferences between the different colored bits of paper?

Gresham's law - Wikipedia, the free encyclopedia

 

[Jason]

Right now I would want to move my Euros from a bank registers in Club Med to a bank registered in the north - which is what people and companies are doing. I would be keen on moving my Euro debts the other way.

Banks in Greece are short of deposits and not lending much precisely because of this. There are problems for Greek businesses that cannot get finance to expand or help them over the recession.

 

[D_Tully Tunnelrat]

The idea of issuing dollar denominated Greek bonds, earlier in the week, did not meet with much enthusiasm.

I read today that Greece has formally initiated "consultations" with the ECB for a loan. However Juncker says it is not a request. The distinction is lost on me. The Parliamentary review by all 16 members states in order to approve the loans, is still a lengthy and high hurdle to clear, under circumstances of immediate need, as the market remains unconvinced of Greece's solvency.

Olli Rehn, EU Econ Affairs Min, has come out with certain proposals to strengthen the stability and growth pact, which include "peer" review of government budgets. It's overdue, but welcome. No doubt Portugal will be having visitors soon.

 

[Drifterwood]

Have we unknowingly entered into a one world currency, with only notional/regional preferences between the different colored bits of paper?

Gresham's law - Wikipedia, the free encyclopedia

I don't think so, because some currencies are overvalued whilst some remain under valued. The power to control the relative value, where there is in fact none, or no instrument to do that, is considerable and will not be given up lightly I think.

The Chinese government made noises about a global currency recently. It's a funny old world.

 

[Jason]

I read today that Greece has formally initiated "consultations" with the ECB for a loan. However Juncker says it is not a request. The distinction is lost on me. The Parliamentary review by all 16 members states in order to approve the loans, is still a lengthy and high hurdle to clear, under circumstances of immediate need, as the market remains unconvinced of Greece's solvency.

It is a wonderful exampleof Eurospeak!

The intention is not to give the markets jitters (and for that is to be applauded). Instead of one day Greece decalaring itself broke and calling in the IMF we have a protracted process broken down into sausage slicing stages, no one slice being too frightening. We now know that Greece will be taking up external support. If the EU doesn't come up with the goods on the day it is needed then the IMF will, and Greece has been in talks with the IMF also. The plan is 2/3rds EU and 1/3 IMF. The EU is saying it is a loan not a subsidy. However the IMF loan must be paid back first and no-one really expects Greece to ever be able to repay the EU loan also. So it is de facto a subsidy, and therefore a major breach of the Lisbon Treaty.

Greece is not solvent; rather it may or may not have secured multi-year subsidies from the northern Eurozone.

The idea of Germany leaving the Euro is now well in the public domain (eg p2 of Saturday's The Mail, a popular paper). No-one of any consequence is denying these rumours. I think the Eurocrats are sausage slicing this one also. You allow a rumour to develop. Then you say the rumour is one option among many. Then you create a framework whereby it could happen while saying it won't .... And in no time Germany has left the Euro.