"if Greece defaulted and left the euro – perhaps following a failure to reach a compromise after the Greek elections on 17 June – it would be bad news all around:
So where does that leave us? Well, if Greece left tomorrow, we estimate that it could still need between €67bn and €259bn in external short-term support just to stay afloat. This could be split between the IMF, the Eurozone and non-euro countries.
- The Greek banking sector – woefully undercapitalised since the losses it took as part of the second bailout – would instantly collapse. Pensions would take a massive hit too. In order to avoid a complete economic – and social – meltdown, between them, banks and pension funds would need an instant €55bn injection of fresh capital. At the same time, full nationalisation of Greek banks – which has been mooted by the ‘radical left’ Syriza party – could prove pretty disastrous. The balance sheets of the six largest Greek banks are equal to 113pc of the country’s GDP – taking on all their liabilities would send Greek debt to GDP skyrocketing once more, potentially eliminating the benefits of the debt write-down.
- The new Greek Central Bank would also need to create at least €128bn worth of the new currency (63pc of Greek GDP) in liquidity to help keep Greek banks afloat as the Eurosystem withdraws its support. Hello inflation.
- Contrary to popular belief, a euro exit wouldn’t mean the immediate end to austerity for Greece either – the country would still have to find savings of at least €12bn to pay various bills, including hospital and social security expenditure vital to uphold social order.
- At the same time, the new Greek currency could devalue by around 30pc, which in theory increases chances of growth in the long-term (as the country is no longer stuck with a hopelessly over-valued currency), including a potential boost to exports equivalent to 10pc of GDP. But in reality, any potential export gain could be diminished if the ‘stub euro’ weakens (Spain springs to mind) or demand in Europe decreases further. Unlike previous devaluations in Argentina and Iceland – often used as comparisons – Greece has few natural resources or industries to fall back on, which may limit the benefits of devaluation. And remember, devaluing or removing a currency peg is not remotely the same as introducing a whole new currency. The latter is far more challenging.
The UK could potentially be involved in such a rescue package, via its IMF participation. In addition, the EU’s so-called ‘balance of payment’ fund – designed to help non-euro countries (which Greece technically would be) and in part underwritten by Britain (to the tune of 13pc) – could be activated. If the UK can get away with underwriting between €4bn to €6bn, which would be one scenario, it should count itself lucky. These would be loans, not up-front cash gifts, and if it served to stem contagion from a Greek exit, such loans would be justified.
To minimise the need for external support and risk of contagion, two steps need to be taken before Greece should even contemplate a euro exit: first, the banking sector should be recapitalised, shrunk, consolidated and restructured. Second, a primary surplus should be achieved to allow the Greek state to fund its day-to-day running costs without external help. Though this would make an exit far more appealing and – with a lot of luck – potentially beneficial for Greece in the long-term, the truth is that for Greece, whether inside or outside of the euro, the road ahead looks very rough indeed.
This is also why a new government in Greece – no matter what such a government would look like following the Greek elections – will likely reach a deal with its creditors, allowing it to remain inside the euro for now.
In European politics, the safest money is always on another fudge."
Wednesday, June 06, 2012
A euro exit may benefit Greece eventually but it won't be an easy ride
Over the weekend, we published a new briefing looking at the implications and likelihood of a Greek exit from the euro. We argued that an imminent Greek exit isn't inevitable, nor that it would solve Greece's problems - though, if managed, leaving the single currency could potentially be beneficial for the country in the long-term. Over on Telegraph blogs, we argue: