Thursday, 3 November 2011

Greece and the EU Economic Collapse

Greek vote on bailout package precursor to financial armageddon?

Athens - Greek Prime Minister Papandreou shocked the world and rattled financial markets with his announcement yesterday to call for a referendum on the EU bailout deal. The DOW dropped 2.47 percent on the news.

Greece, the thirty second largest economy in the world is on the verge of defaulting on its sovereign debt. That is tantamount to declaring bankruptcy. A country’s sovereign debt is the government bonds that it issues. Think of U.S. Treasury Bills. It is a promise made by a country on official IOU’s it uses in order to partially capitalize its government. When a country defaults on its IOU’s, it loses its ability to borrow more money and in Greece’s case that could be catastrophic. Even more catastrophic is the ripple effect that will be felt around the world if Greece defaults. That’s because world financial markets are inexorably tied to each other in a complex web of interconnected financial instruments. It could have a giant domino effect on world economies.

The only reason the United States didn’t sink in 2008 was because it had the ability to print its own money and use that money to bail out its failing banks, large investment firms, and re-insurers like AIG (who was supposed to insure markets against the failure of large derivative funds.)

There is growing sentiment in Greece to bail from the EU and return to its own currency, the drachma. In an article run in yesterdays New York Times, Greek business leader Vasilis Serafeimakis, a senior executive at Avinoil, one of Greece’s largest oil and gas distribution companies, was quoted as saying “by leaving the Euro Zone, Greece would have the ability to print its own money,” which is exactly what the U.S. did in 2008.

By putting the EU bailout package to a vote of Greek people, Prime Minister Papandreou is in essence hedging his own position on the unpopular measures of austerity that Greece is expected to enact in order to receive its lifeline from the rest of Europe, even the world. It could be a shrewd political move in that he might be betting the world cannot, and will not, allow Greece to fail, similar to a position Warren Buffet took when he invested billions in Bank of America at a time when the U.S. banking system was crumbling.

No one really knows what effect a Greek default will have on world markets and it now appears that the world will have to wait until December or even the first of the year before they have a clear understanding of what Greece will do. This means the European Union and International Monetary Fund will undoubtedly withhold the next scheduled tranche payment of 11 billion euro in the event Athens cannot keep its promise on austerity measures it had previously agreed to.

It’s a dangerous game of chicken. The Greeks aren’t going to be pushed around and financial and government leaders across the globe are losing patience. Greece and Papandreou might just might just realize that the rest of the world is tethered to the lovely peninsula by a lot more than marvelous ruins and a cuisine to die for.

Eurozone mulls future without Greece
Nov 03 2011 11:27 Reuters

Athens/Cannes - French President Nicolas Sarkozy and German Chancellor Angela Merkel told Prime Minister George Papandreou at a torrid meeting in Cannes that Athens would not receive a cent more in aid - Greece was due an €8bn aid payment this month - until it votes to meet its commitments to the eurozone.

In Athens, Greece's powerful finance minister broke ranks with his prime minister, rejecting a proposed referendum on staying in the euro, hours after they received an ultimatum from France and Germany to make up their minds.

The growing chaos in Greece and uncertainty over the eurozone sent stocks and commodity prices lower in Asia, and fuelled a rush into safe haven German bonds.

On his return with Papandreou to Athens from Cannes, Finance Minister Evangelos Venizelos issued a defiant statement, saying Greece's euro membership was a historic achievement and "cannot depend on a referendum".

A finance ministry source said Venizelos, who was kept in the dark by his Socialist rival about Monday's referendum call, opposed risking a public vote at this crucial moment.

"Under these conditions, a referendum is exactly what the country does not need," the source told Reuters, speaking on condition of anonymity.

More dissident lawmakers in the ruling PASOK party spoke out against a referendum and called for a national unity government or early elections, casting doubt on whether Papandreou can win a confidence vote on Friday or pass a bill to hold a plebiscite.

Euro area leaders talked openly for the first time of a possible Greek exit from the 17-nation currency area, seeking to maximise pressure on Athens and preserve the euro in case of a Greek "no" vote.

Merkel told a midnight news conference that while she would prefer to stabilise the euro with Greece as a member, the top priority was saving the euro, not rescuing the Greeks.

The chairperson of eurozone finance ministers, Luxembourg's Prime Minister Jean-Claude Juncker, said policymakers were working on possible scenarios for a Greek exit.

"We are working on the subject of how to ensure there is not a disaster for the people in Germany, Luxembourg, the eurozone. We are absolutely prepared for the situation," Juncker told Germany's ZDF television.

France's Europe Minister Jean Leonetti said bluntly the euro could survive without Greece.

"Greece is something we can get over, something we can live without," he told RTL radio in an interview

Spectre of default

The spectre of a hard Greek default and euro exit hung over a meeting of G20 leaders beginning in Cannes on Thursday, highlighting Europe's frailty just when Sarkozy wanted to showcase his leadership of the world's major economies.

The summit on the French Riviera had been meant to focus on reforms of the global monetary system and steps to rein in speculative capital flows, but the shock waves from Greece have upended the talks.

Merkel and Sarkozy convinced Papandreou to bring forward the referendum to early December and insisted it be focused on the broad issue of whether Greece wants to stay in the currency bloc
rather than limiting it to a vote on a new €130bn bailout package, which a strong majority of Greeks oppose.

A chastened Papandreou said before leaving Cannes that the referendum could take place on December 4 and would be focused on "whether we want to remain in the eurozone".

But after Venizelos' statement and the start of a backbench PASOK revolt, it was uncertain whether the government would survive the week.

Merkel and Sarkozy also made clear that Athens would not receive an €8bn aid tranche it desperately needs to avoid default until the referendum had passed.

Should it fail, the European Union/International Monetary Fund (IMF) aid would end, plunging Greece into a disorderly default that would reverberate across the eurozone, potentially engulfing big economies like Italy and Spain.

"Our Greek friends must decide whether they want to continue the journey with us," Sarkozy told reporters at a joint news conference with Merkel after the crisis talks.

Damage control

The leaders of France, Italy and Spain, the German finance minister and the heads of the IMF, European Central Bank (ECB) and other top EU officials were to meet in Cannes on Thursday morning to explore ways of accelerating the implementation of an anti-crisis package agreed on October 27.

That plan, which includes debt relief for Greece, a recapitalisation of European banks and a leveraging of the bloc's rescue fund, the European Financial Stability Facility (EFSF), was meant to stem the two-year-old crisis before Papandreou's referendum call cast the bloc into turmoil again.

"The referendum adds a further layer of complexity and uncertainty to an already complex crisis," said Domenico Lombardi, a former IMF executive board member who is now a senior fellow at the Brookings Institution in Washington.

"Most importantly, it starts off a political mechanism that could eventually result in Greece leaving the euro."

As the mini eurozone summit is taking place, Merkel will be holding talks with US President Barack Obama. Heading into an election year, Obama is worried the eurozone crisis could blow up and hit the struggling US economy.

Ben Bernanke, the chairperson of the US Federal Reserve, announced on Wednesday that the central bank was slashing its projections for growth and raising unemployment forecasts.

The meeting of leaders from the world's 20 major economies will formally begin with a working lunch that had been meant to focus on the world economy, but is now likely to be dominated by Europe's debt woes.

Sarkozy had hoped to use his presidency of the G20 as a springboard for his own reelection campaign in 2012, setting ambitious goals including a rethink of the global monetary system and measures to fight commodity price volatility.

But he has been forced to scale back expectations as crisis-fighting has taken priority over grand visions of world economic reform.

Sarkozy met Chinese President Hu Jintao on Wednesday as part of a European effort to convince the world's emerging powers to help boost the firepower of the bloc's bailout fund.

But he told the French president that it was up to Europe to solve its debt woes, according to a statement published by China's ministry of foreign affairs.

China's Deputy Fnance Minister Zhu Guangyao said after the talks that Beijing needed more details from Europe before considering any bigger investment in the EFSF.

Doubts about Europe's ability to contain the debt crisis has put Italy firmly in the firing line.

The risk premium on Italian bonds over safe haven German Bunds has hit euro-lifetime highs this week, despite ECB buying of its bonds.

Italian Prime Minister Silvio Berlusconi has scrambled to come up with measures to placate markets, holding an emergency cabinet meeting to accelerate budget reforms amid mounting calls for his resignation.

Op-Ed: Euromess gets worse — China very cool on bailing out EU
Nov 3, 2011

Sydney - China has taken the pragmatic view of the Euromess, and isn’t yet prepared to commit money to the European Financial Stability Fund. That may be the bullet for the long term bailout approach, unless the EU starts delivering results.
The idea was that China would invest in Eurobonds, by default financing the bailout of Greece and perhaps other Eurozone countries. The Chinese have made it clear they have serious reservations.
The BBC reports:

    ….It was thought the Chinese authorities may agree to help the troubled economies, not least because the region is one the biggest market for Chinese exports and a crisis may dent demand for Chinese goods and hurt its export-dependent economy.

    However, the decision by the Greece government to hold a referendum on the latest bailout package has seen the authorities take a cautious approach.

    "Like our European friends, we did not expect [the call for a] Greek referendum," said Mr Zhu. (Zhu Guangyao, China's deputy finance minister.)

    "It was an independent decision taken by Greece. I hope this period of uncertainty would be contained," he added.

The Chinese, in fact, weren’t keen to start with and have been saying so. They’ve been taking a pretty jaded view of the apparently interminable Western economic blunders, and have been less than impressed, as this quote from Xinhua indicates in an article not very ambiguously titled Would China come to rescue for euro crisis?  Having said that it was in China’s interest to support Europe as its biggest export market, this was the breakdown of the logic involved:

    However, whether China should offer a helping hand would depend on what the rescue package is like, said Xiong Hou, a researcher with the Chinese Academy of Social Sciences (CASS), a top Chinese think tank.

    "What if default happens in the future? What if other countries follow in the footsteps of Greece? Many people would ask why we should step into the mess," Xiong said, "The key to the debt crisis and the lifeline of the European economy are in the hands of Europeans themselves, rather than China."

    It would be an unacceptable scenario to let a developing country like China pay the bills while Europeans sit idle. "It is just like a big hole was created by someone, but somebody else is asked to fill it," Xiong said.

This commentary is a lot more trenchant than it sounds. One of the reasons Wall Street and other financial markets are getting so jumpy is that Europe is seen to be doing very little effective in terms of shutting down possible defaults by Greece, Portugal and Ireland. Italy is seen as another possible candidate for default, and that really would be disastrous.

Also relevant are the clear indications from France, the UK and Germany that they’re not prepared to endlessly bail out their less efficient neighbours. This reluctance is based on realism. The Eurozone economies most at risk are also those least capable of generating the sort of capital required to cover their massive debts. The bailout has received quite a lot of flak as “rewarding incompetence”, although that’s the polite version of “rewarding corruption” in some circles.

Many of these countries have ignored basic EU rules regarding deficits, which are supposed to be no more than 60% of GDP. That’s colossal mismanagement by any standards, and the EFSF is supposed to be the vehicle to deal with it. No wonder China is looking rather unimpressed by the option of paying good money for a scheme in which the Europeans themselves have drawn a series of lines.

China isn’t going to be much affected by a few minor EU nations falling off the bandwagon. It would, however, suffer considerable damage if the EU really started to disintegrate. China’s trade with the EU is so big that it’s building a “Silk Track” through western Asia to reduce shipping costs. An EU meltdown could also cripple the global financial markets, sending banks over the edge like lemmings. The dangers are very real, and paying for the privilege of participation obviously isn’t really much of an incentive for China.

The EU should be paying close attention to the Chinese commentary. If the EU can’t save Greece, can it do much about the others? That’s a very good question, and the answer will make or break the EU.

Note: I'm sure the irony of expecting China, which suffered so much from Western influence in the past and is the world's biggest communist economy, rescuing the original home of Western capitalism is some sort of karmic justice. Let's hope China is more civilized in its response to Europe's needs than the West was to China when it went through decades of misery.

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