Friday, 18 May 2012

Week In Review: cake and chicken prove hard to digest

The Greek political crisis continued to weigh on markets this week, overshadowing broadly positive economic news and eclipsing growing concerns about the Spanish banking system (Moody's downgraded 16 Spanish lenders).

Negotiations to form a new government rumbled on during the early part of the week with the main parties having exhausted their own efforts last week and the President beginning talks to attempt to form a government of "national unity" over the weekend. Those floundered on Tuesday as the ascendent Coalition of the Radical Left, SYRIZA refused to participate.

SYRIZA's charismatic leader, Alexis Tsipras, is firmly committed to eurozone membership but doesn't want to wear the austerity that comes with it. His stance is summed up by another charismatic leader, Boris Johnson, who once said: “My policy on cake is still pro-having it and pro-eating it.”

Essentially this aligns SYRIZA with New Democracy and PASOK in terms of policy, but with a less conciliatory tone. Tsipras does not believe Greece will be ejected from the eurozone, even if it does renege on its austere commitments - and so begins the great Hellenic game of political chicken.  European leaders responded by softening their total denial that any state would leave the currency group.  Setting a more nonchalantly indifferent tone German Finance Minister Schaeuble casually remarked “If Greece’s people don’t want to remain in the single currency, there’s no way the European Union can make them stay".

He's right of course. Greece cannot be forced to stay, but there is also no legal mechanism for it to be forced out and there remains no political will to leave either - the oft-cited statistic that 80% of Greeks wish to remain in the eurozone is backed up by the stance of the parties they vote for.

So what options remain? Normally when a country struggles with debt they perform a devaluation, restructure their debt and then take additional loans from the IMF. Greece has already restructured its debt, and taken loans from the IMF, any devaluation (or Grexit to use the popular vernacular) would entail defaulting on the IMF - an ignoble claim held only by Sudan, Somalia and Zimbabwe.  Whether the IMF would lend again to a country that has defaulted on them so recently remains questionable.

If Greece does reject austerity, and the creditors are to be believed, they will cease to receive further bailout funds. That result could be catastrophic as Greece does not yet have a primary surplus (spending exceeds revenues even before the payment of interest) so public sector salaries and invoices could not be met. Furthermore their banking system would cease to function without the refinancing functionality of the European Central Bank. The social and moral costs of the European hard line might prove too much to bear when starvation becomes a meaningful problem in industrialised Greece - so Mr Tsipras seems willing to gamble.

The failing banking system may end up being the cause rather than just a symptom of euro exit. Greek banks appear to be running out of collateral with which to obtain liquidity while bank deposits are being withdrawn in part of what has become described as a bank jog (a slow motion bank run - which presumably could become a bank marathon if it lasts long enough).

There was some encouragement followings the collapse of the negotiations after one poll showed a resurgence for the New Democracy party which, if reflected in ballot boxes, would enable them to form a majority coalition with PASOK after June's election re-run.

Realistically however Greece's membership of the eurozone may have been decided by capital flows before the votes can be cast.

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