The Greek Conundrum
As you can see above, we have created a new term describing deliberations regarding the possibility of a Greek default combined with an exit from the euro area. The reason why the time for the term “Grexitology” has come is that opinions on Greece's future in the euro zone are plentiful and are covering the entire imaginable range, from “it would actually be a good thing” (getting rid of the weakest link in the euro chain) to “it won't happen” to “it doesn't matter” to “it will bring about the end of the world”.
In the latter category we find the always dependable Ambrose Evans-Pritchard, pronouncing imminent doom. He thinks that everybody is too complacent about the “contagion danger” in light of financial markets so far confining their negative reaction to Greek bonds and stocks instead of meting out more broad-based punishment (e.g. Spanish and Italian government bond yields have so far barely budged from recently attained all time lows). He believes that unless Spain and Italy are getting into trouble as well, the German government just doesn't care what happens with Greece.
Alexis Tsipras: with these here hands I will tear up the bailout agreement…or not. What day of the week is it?
Photo credit: Remy De La Mauviniere / AP
We don't want to get into his views into too great detail here. Some of what he writes is surely correct in a descriptive sort of way, but there is a constant insinuation that somehow, more money printing would “fix” everything, along with a “fiscal union”. This amounts to saying that the problems caused by credit expansion and reckless spending should best be tackled by even more credit expansion and reckless spending, a view we strongly disagree with. Anyway, Pritchard concludes by saying:
“Should EMU leaders choose to cut off liquidity support for the Greek banking system – forcing a return to the drachma – they might find that their contagion defenses are a fiction.”
However, Pritchard doesn't mention an important point: 80% of Greek government debt is nowadays held by public creditors (the ESFS, the IMS and the ECB through the SMP) – European banks are barely exposed to Greek sovereign risk anymore (in fact, much of the tradable Greek debt has been bought by hedge funds if memory serves).
This is probably the main reason for the nonchalance currently exhibited by markets and EU politicians alike. Greek government bond yields do however reflect growing worries – they are at new highs for the move across the yield curve – and the curve has once again inverted. Below are daily charts of 10 year and 3 year Greek post PSI/bailout agreement bond yields (it needs to be remembered that trading in the previously outstanding bonds has ceased in 2012 – they were replaced with new bonds after the private sector haircut and the second bailout agreement. At the 2011 and 2012 peaks, short term Greek government debt yielded nearly 300% and 10 year yields reached 42%):
Greek 10-year yields are at a new high for the move.
For comparison purposes, here are three year yields, which have risen considerably more than the 10 year variety and are now at 13.76% – almost 400 basis points more. The inverted yield curve is a strong sign that market participants are getting antsy about Greece.
The problem is of course that at the moment, it is widely expected that SYRIZA will win the election. It may not achieve an absolute majority in parliament (in spite of getting 50 extra seats), so it may take a while for a government to be formed. However, the most recent bailout tranche has not been paid to Greece as scheduled: negotiations were postponed due to disagreements over further spending cuts. Shortly thereafter, Antonis Samaras' presidential candidate failed to get the necessary support in the third round of voting, which in turn has forced parliament to be dissolved and a snap election on January 25 to be announced. Regardless of who wins the election, it will probably take some time to form a new government, and without one, there is no-one to negotiate with.
