Greece Speaks

Tomorrow the Greeks vote; capitalist financial markets will be listening.

The referendum was called because Greece failed to get concessions on debt relief after four months of negotiations with it’s creditors, represented by the International Monetary Fund, the European Central Bank and the European Commission.

The Greek government has recommended a “no” vote on the latest offer from the “big three”.  It calls the latest creditor proposals “austerity forever”.

Key points?

The most contentious demand is that Greece squeeze another 1% of GDP in savings out of its battered pension system, specifically by eliminating top-ups that have been desperately needed by poorer pensioners to keep themselves above the breadline in recent years. The other big point is the elimination of VAT exemptions for Greece’s islands. The government argues this threatens the existence of the tourism industry on the islands.

Meanwhile creditors  agree (but not quite in full)  that Greece’s debt is unsustainable .   If Greece adopts and implements the conditions immediately, then creditors calculate the debt-to-GDP ratio could fall to 124% by 2022 from over 175% right now.  That’s the best case scenario, and not one that sits comfortably with the last five years’ experience. It’s also not many people’s idea of sustainability.

A “yes” vote would bring new negotiations on a 3rd bailout of perhaps E50 billion and perhaps a 20 year grace period.  It might also bring about the fall of the Greek government – individual Ministers have said they would resign.  The Syriza left party is however the largest bloc in the Greek parliament by far and many have said they will not sign another bailout – and there is no stable pro-bailout majority without them.

Prime Minister Alexis Tsipras claims that a ‘No’ vote will strengthen the Greeks’ negotiating position by showing the strength of resistance to further austerity. However, the creditors have shown no sign that it would change their position. More likely is that the continued uncertainty will make it impossible for the banks, which have been closed since Monday, to reopen. They would be immediately faced with demands for cash that they can’t possibly meet. In practical terms, the banks couldn’t open again until the bulk of their liabilities–i.e. customer deposits–had been re-denominated in a new Greek currency.

Why?

When there is a run on a bank, the Central Bank provides advances to individual banks.  Assuming the bank’s assets are sound but not particularly liquid, the central bank advances help to stem the run off of deposits.  Sensing the confidence, the depositors return and the run off stops.

The European Central Bank is the lender of last resort for the Euro.  It is located in and dominated by Germany.  The ECB has cut off all of the Greek banks from access to liquidity funding.

Think the Federal Reserve cut off all banks in Texas.

There is little doubt that this move was part of the negotiating tactics of the creditor institutions.  Greece’s monetary policy is under the control of Germans – it is the price of joining the Euro-zone without full representation in a real European Parliament with real power to make policy.

Might Greece leave the Euro-zone for a new Drachma?

Absolutely – the banks could  re-open with deposits denominated in Drachma rather than Euros.  Realistically, the value of the drachma would immediate plummet on international markets reducing the savings of Greek depositors in foreign currency terms and making it difficult to finance necessary imports.  But many believe that the Greek economy would eventually recover, including many economists, who believe this is the way to go.  The alternative is decades of continued “austerity” and unemployment.

An exit from the Euro would have little affect on poorer Greeks with little to lose.  Imports would be more expensive or not available but Greek goods and food stuffs would still be and a Greek economy using the Drachma would encourage millions of tourists to visit for a “cheap” vacation bringing needed “hard” currency with them.  It could work and it would give Greeks back control of their own monetary policy.

A “no” vote could lead to (1) new creditor negotiations with Greece in a stronger position to demand write-offs of it’s unsustainable debt, threatening an exit of  (2) the euro-zone (by going back to it’s own currency again) as well as (3) an exit from the European Union.

“A ‘No’ vote, could have quite mild consequences if Greece can be kept inside the Eurozone with acceptable terms and the ECB douses the flames of market fear with a flood of liquidity. That wouldn’t be as good for the economy, but it would at least contain the damage to financial markets.

But a ‘No’ vote that leads to “Grexit” is another matter. Again, one would expect the ECB to throw money at the markets to keep volatility down, but the sight of European integration going into reverse would nix a basic geopolitical assumption of the last 60 years. The resulting political uncertainty could be highly damaging for investment not only in Europe, but also further afield.”

Too bad.

The MSM is today trumpeting that the Greeks are “evenly divided” over the vote.  It will be interesting to see how it all turns out.  If Greece leaves the euro-zone, can Spain be far behind?

Where is the Oracle at Delphi when you need it?

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