Photo: Patrick Hoesly on Flickr
Citi’s Willem Buiter is out with a new note firmly opposing all those who toy with the idea of a Greek exit from the eurozone.”The prospect of Greece exiting the euro area is seldom viewed with the proper degree of fear and trepidation,” he writes.
While Buiter admits that a Greek exit could have euro-positive implications in the long term, in the short term it would be an “economic disaster” for both Greece and the remaining 16 euro states with “severe economic and political implications” for the rest of the world.
Here are a few of his main points:
– A Greek exit is still unlikely but has become a lot more possible in the last few weeks.
– While the Euro Area can’t formally kick Greece out of the euro, denying it bailout funds or forcing it to adopt unfeasible austerity measures would virtually amount to booting the Greeks out. Buiter cites stalled negotiations (set to resume tomorrow) between Greek officials and ECB/EU/IMF troika inspectors as a bad sign that this not impossible. “For the sake of economic stability and growth in the euro area, the wider European Union and the global economy, we hope that this message is taken to heart by the European authorities.”
– Buiter believes that the troika will continue to give Greece funding, but will probably force Greece to endure more austerity cuts and will be directly involved in designing the program.
– Private creditors to Greece will probably accept a haircut of 65-80% net present value of their investments. More than 90 per cent of Greek sovereign debt held by private creditors was issued under Greek law. That means Greece could pass a single law and walk away from all these debts. Creditors would have no recourse. Not that Greece will do that — just that it can.
– Were Greece to exit from the euro, however, Buiter would expect private creditors to lose 90-100% net present value on all Greek debt.
– Greece will not leave the euro on its own. “A collapsed banking system, widespread default throughout the economy, a continuing non-competitive economy and high inflation with a material risk of hyperinflation would make for a deep and enduring recession/depression in Greece. Social and political dislocation would be certain. There would, in our view, be a material risk of a downward spiral of dysfunctional politics and economics.”
Here’s what would happen in Greece if it left the euro:
– Greece immediately issues a new currency, a run on banks would ensue, and no one will be able to get cash in Greece. The banking system there would be kaput. This also wouldn’t restore growth or competitiveness to Greece in the long run.
– The big deal for the rest of the euro area is that an exit from the area was allowed and precedent was broken.
– After a Greek exit, markets would immediately focus on the PIIGS countries most likely to follow suit. Investors would withdraw any deposits they would have there.
He paints a pretty picture of just what would happen:
Apart from bank runs in every country deemed, by markets and investors, to be even remotely at risk of exit from the euro area, there would be de facto funding strikes by external investors and lenders for borrowers from these countries. Again, putting under foreign law (most likely English or New York) all cross-border (or perhaps even all domestic) financial contracts and instruments could at most mitigate this but would not cure it.
The funding strike and deposit run out of the periphery euro area member states (defined very broadly), would create financial havoc and mostly like cause a financial crisis followed by a deep recession in the euro area broad periphery. The counterparty inflow of deposits and diversion of funding to the ‘hard core’ euro area and the removal (or at least substantial reduction) of the risk of ECB monetisation of EA sovereign and bank debt would drive up the euro exchange rate. So the remaining euro area members would suffer (at least temporarily) from an uncompetitive exchange rate as well from the spillovers of the financial and economic crises in the broad periphery.
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