29 June 2015

A Greek Tragedy?

Step back from the headline press photos of weeping Greeks and pause for thought...

by John Royden

Head of Research


The prologue and Act 1: how did we get here in the first place?

When the banks of Greater Rhineland (Germany and France) realised that they had lent too much money to the Greek government, their governments nationalised the debt in order to stop the domestic banks going bust. So Greek debt became owned by Germany and France.  

This was a pity, because for every reckless borrower there is a reckless lender. The normal situation in a debt work-out is that the lender takes a hair cut for being stupid and the borrower pays back something that is manageable. I suspect that German and French politicians would have been more disposed to letting their banks take a hit, than they are to taking a hit on their own tax payers’ balance sheet.

Weighing against some kind of haircut, or debt forgiveness, is the fear of moral hazard.  If the Greeks get let off too lightly, it might encourage reckless borrowing in the future, and indeed encourage others, like Portugal, to try wriggling out of their commitments.  So the moral hazard is dealt with by making sure that the Greeks have a pretty miserable time and that those who endure austerity flourish, relatively speaking, at the end of the day.

Greater Rhineland needs the Greeks to suffer in order to abate the moral hazard and to keep the rest of peripheral Euroland in the fold.

Act 2 had the audience looking at the Greek hand with the default card. This looks like being less valuable today than it did last week. Capital controls and the prospect of a Greek default, followed by a Grexit to the drachma, have today (Monday 29th June, 2015) taken 1.5% off the FTSE100 and 2.26% off the STOXX index. The Dax is off 3%. Unpleasant; but hardly Armageddon. So the MAD (“Mutually Assured Destruction”) card is missing from the Greek hand. They can really only default and suffer the severe domestic consequences whilst knowing that the effect on the rest of Euroland will be muted. The Greeks can't bring the rest of Euroland down with them.

My take is that the Greeks have confused politics with economics. Politics is about what you’d like to do, whereas economics is about what you can do. Clearly there’s a huge mismatch: the Greeks voted in a political agenda, which did not make economic sense.

Negotiations have made Alexis Tsipras realise that he got elected on an undeliverable ticket. He needs the referendum to wriggle out of the self-imposed trap and preserve his political career.

Bu t I do wonder whether the capital controls and prospect of a referendum are not a carefully choreographed agenda designed to remind the Greek peoples of what a default might look like. If you vote to accept the Troika’s proposals, then:
- you can get your money out of the bank 
- old people have to work beyond the current retirement age (57)
- OAPs see their €12,000 annual pension get sliced smaller
- VAT goes up
So what do you want … (a) your money out of the bank and tough luck on the OAPs or (b) default, financial collapse, diabetics dying because Greece can’t buy the insulin, food shortages and starving children, loss of savings etc. The choice is clear: cash back or exit stage left, pursued by a bear.

Act 3.  Having gone to the line, I know how I would vote as a Greek. I expect that most Greeks are rational and follow self interest. A few will stick to their political guns, but I reckon the referendum will accept the bail out proposals and bad luck to the Greek pensioners.


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