Tuesday, December 8, 2009

Opa!

. Tuesday, December 8, 2009



Last week I wondered whether Greece might default on its debt, what that might mean for the Euro. Well, Der Spiegel stares down the barrel:

Greece has already accumulated a mountain of debt that will be difficult if not impossible to pay off. The government has borrowed more than 110 percent of the country's economic output over the years, and if investors lose confidence in the bonds, a meltdown could happen as early as next year.

That's when the government borrowers in Athens will be required to refinance €25 billion worth of debt -- that is, repay what they owe using funds borrowed from the financial markets. But if no buyers can be found for its securities, Greece will have no choice but to declare insolvency -- just as Mexico, Ecuador, Russia and Argentina have done in past decades.

This puts Brussels in a predicament. European Union rules preclude the 27-member bloc from lending money to member states to plug holes in their budgets or bridge deficits.

And even if there were a way to circumvent this prohibition, the consequences could be disastrous. The lack of concern over budget discipline in countries like Spain, Italy and Ireland would spread like wildfire across the entire continent. The message would be clear: Why save, if others will eventually foot the bill?


If Greece cannot roll over its debt, its liquidity problems could turn quickly into solvency problems.

If Greece had not been Greece, but instead had been some Eastern European country that was not the birthplace of democracy and the nation-state, it probably wouldn't've been let into the eurozone in the first place. But now it is in, and the EU faces a conundrum: if it doesn't bail out Greece somehow, the consequences for other countries could be dire. Investors might lose confidence in other countries, since the inflexibility of the euro gives states little room to maneuver if they get into trouble. If investors get too spooked, it could lead to a lack of funds for states in deficit that need to roll over their debt. Like Spain. Or Ireland. Or Italy. Higher premiums could cause other states to default, which would further weaken confidence in the euro, etc. This was roughly the pattern of the Asian financial crisis (although without the common currency, of course).

I'm not saying this has to happen, but it's a plausible scenario. What is clear is that Greece is in a game of chicken with the EU, and who wins has implications well beyond the current case. The eurozone may face its stiffest test of integration since the collapse of the EMS. This bears watching.

Via McMegan, who adds some nice commentary. As does Edward Hugh at the indispensable A Fistful of Euros. He's not hitting the panic button yet, but he does see a fight brewing:

We might be forgiven for getting the impression that to date rather than acting as a stimulus to deep economic reform, Euro membership has rather acted to reward those countries who would get into more and more debt, with ever less sustainable economic models, by supplying them with funding at far cheaper rates of interest than the markets would otherwise make available. It is this particular clockhand that Europe’s leaders would now dearly like to turn backwards, and this is why I have little doubt that it is in Greece that a stand will now be taken. If not, then that longest of long runs may arrive rather sooner than some of us, at least, are comfortable with.

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