By Mike Whitney
“Men and women of Greece, it is with a sense of dignity and patriotic duty, that we made the decision not to betray your hopes and aspirations…The pro-bailout parties did not simply want us to support a government that would impose more austerity, they wanted us to agree to measures that would increase poverty and desperation. We didn’t do them the favor.”
– Alexis Tsipras, Chairman of the Radical Left Coalition (Syriza)
The endgame for Greece is now in sight. Attempts to form a unity government have failed and public opposition to austerity is growing. The uncertain political situation has triggered a bank run which drained nearly $900 million in deposits from Greek banks on Monday alone. Panicky Greeks are moving their money out of the country fearing that a default will collapse the banking system or that an unexpected return to the the Drachma will slash their life savings in half. Withdrawals are pushing yields on German bund to historic lows, signalling rising anxiety. Absent the European Central Bank’s Emergency Liquidity Assistance (ELA) program, the Greek banking system would have imploded already taking down creditors in Germany, England and France. But the ECB’s aid will not last forever nor is it unconditional. If the anti-austerity parties take power in Athens, the bailouts will stop, capital flight will accelerate, and the banking system will crash.
No one can say with certainty what the impact of a Greek default will be, but analysts estimate that the losses for financial institutions could be as high as 400 billion euros. That means the ECB may need to deploy emergency funds to backstop teetering banks that could be overwhelmed by the flood of red ink. If the central bank refuses to act as lender of last resort or to intervene with another round of bond purchases, matters will deteriorate quickly as debt-stricken countries slip deeper into crisis. What worries economists is that the Greek virus will spread to other countries that are already battered by high unemployment, negative growth, and rising yields on government debt. A default in Greece would send a message to investors that EZ policymakers are no longer committed to the euro-project. If that belief takes root, a euro-wide (capital) exodus will ensue increasing the chances of a breakup of the 17-member union. There are already signs that this process is underway as banks in both Spain and Italy have seen a steady uptick in withdrawals.
On Monday, German Chancellor Angela Merkel and newly-elected French President Francois Hollande promised to “consider measures to spur economic growth in Greece” provided that Greece continue to meet the terms of its bailout agreements. While Hollande tried to strike a more sympathetic tone than Merkel, he fully-backed her hardline policies saying that the austerity measures “must to be adhered to.” Hollande did not demand that Merkel amend the policy to include a “pro growth”
component as he had promised in his presidential campaign. In fact, he did not veer from Merkel’s policy recommendations at all, which suggests that the difference between the two leaders is merely stylistic. As the Financial Times pointed out in an article on Monday, Hollande is as committed to debt consolidation and balanced budgets as his German counterpart. According to Hollande’s economic advisor, Philippe Aghion, the French president is also an advocate of “supply side” economics (not “Keynesian”) as well as a strong proponent of “labor reforms”, which is code for union busting. In short, Hollande’s liberal-sounding platform seems to have been largely a fraud that was used to win the election. There will be no push for fiscal stimulus under Hollande. Greece will have to meet its deficit targets through internal devaluation, an excruciating process which has failed to end the 5-year long slump.
ECB president Mario Draghi has avoided commenting on recent political developments in Greece, but the bank’s position is clearly stated in this excerpt from a policy paper entitled “A Fiscal Compact for a Stronger Economic and Monetary Union”:
“…the SGP (Stability and Growth Pact) did not succeed in securing fiscal discipline. Good economic times before the crisis were not used to achieve sustainable budgetary positions. Revenue windfalls were spent instead of being used to foster fiscal consolidation, violations of the deficit criterion were only slowly corrected and the debt criterion was largely ignored. The most important reason was that the SGP was only implemented half-heartedly as enforcement of the fiscal rules through peer pressure was weak.
The sovereign debt crisis has demonstrated that unsustainable macroeconomic, financial and fiscal policies of any EMU member amplify each other and affect other euro area countries via negative spillover effects. This, in turn, endangers the financial stability of the euro area as a whole. As a consequence, the ECB repeatedly demanded a “quantum leap” in the EU economic governance framework to ensure the stability and smooth functioning of EMU.” (“Super SGP coming – ECB: “A stronger and stricter fiscal framework is required”, credit writedowns)
In other words, the ECB and the other members of the EZ ruling establishment are as committed to austerity as ever; the sharp downturn in economic activity and the high unemployment have taught them nothing. It’s still thin gruel and hair shirts as far as the eye can see.
On Tuesday, the ECB stopped lending to 4 Greek banks saying that it wanted to “limit its risk” and preserve “the integrity of our balance sheet.” The move came after ECB president Mario Draghi admitted for the first time that Greece could leave the monetary union. Some analysts think that Draghi is using his power to coerce the political result he wants, which is more support for austerity and bailouts. Increasing opposition to austerity in Greece, particularly the rise of the The Radical Left Coalition (Syriza), have put the policy at risk. This may be the ECB’s way of firing a shot over Syriza’s bow and reminding them of the price they will pay for their resistance.
A recently-released paper by Goldman Sachs lays out what will happen if the troika (The ECB, the European Commission and the IMF) suspends its loans to Greece and the government can no longer fund operations or pay salaries. Here’s an excerpt from the document:
“This “stop” in payments would precipitate an immediate fall in economic activity, given the need to abruptly close the primary fiscal deficit …As government arrears fail to get paid, supplies to public sector companies … and hospitals would be disrupted and their output and activities curtailed. In this context, the inflexibility of Greek wages will result in higher unemployment…Whether the banking system remains functional will largely depend on the ECB’s reaction to any troika decision to stop payments to Greece.” (zero hedge)
So, the banks will close, activity will grind to a standstill, and the country will slip further into depression. And yet, this seems to be the direction that Greece is already headed, austerity measures have only deepened the slump. According to der Speigel: “Economic output has shrunk by a fifth, unemployment is at almost 22 percent and youth unemployment is at more than 53 percent. The ranks of the unemployed grew by 95 percent between March 2008 and March 2011.” Even after Greece’s unprecedented “debt haircut” which slashed claims on Greek bonds by 75 percent, the nation’s debt is still an unsustainable 160 percent of GDP. The hopelessness of the situation has not been lost on policymakers in Frankfurt, Brussels and Berlin, all of who now appear to be preparing for a Greek exit from the eurozone.
German leaders in particular have never felt that Greece belonged in the monetary union, but recently, they have been making preparations for the worst-case scenario. Here’s an excerpt from Der Speigel which explains what’s going on behind the scenes:
“For around the last year, a “Greece Task Force” appointed by German Finance Minister Wolfgang Schäuble has been developing a possible exit resolution. Isolated from the rest of the German Finance Ministry, the group is working out models and scenarios on the potential consequences of a withdrawal, both for the rest of the euro zone and for Greece itself.
The task force’s most important conclusion is that a large share of Greece’s debt is now held by public creditors, most notably the ECB. According to Finance Ministry officials, the Frankfurt-based monetary watchdogs hold between €30 billion and €35 billion in Greek government bonds.
These holdings become dangerous if Greece stops servicing these debts because it is no longer receiving any money from the European bailout funds. This is why crisis experts in Berlin have dreamed up a particularly cunning solution for the problem. They don’t want to completely cancel the tranches from the aid packages the Greeks are scheduled to receive. Instead, under their proposal, the country would have to do without the portion of the aid that was meant to flow into the government coffers to cover pensions, public sector wages and other expenses. But the billions that are earmarked to service the bonds held by the ECB would be paid into a special account, thereby averting problems at the central bank. In return, the ECB has already signaled its intention to resume its program to buy up the government bonds of other debt-ridden countries if they come under pressure following a Greek withdrawal from the euro.
The mechanism essentially amounts to the European Financial Stability Facility (EFSF) paying for up to €35 billion of Greece’s sovereign debt. The last bond held by the ECB matures in 2030.” (“Time to Admit Defeat –Greece Can No Longer Delay Euro Zone Exit”, Der Speigel)
So, a plan is in place to deal with Greece’s exit from the eurozone. German policymakers have made every effort to protect themselves and to make sure that Greece does not become the next Lehman Brothers. Counterparties and bondholders have been compensated, the ECB is on “stand by” with emergency funding, and –if need be–the central bank will resume its sovereign bond purchases (QE) to keep yields within a sustainable range. There is even a plan to assist Greece in its transition back to the Drachma, although the details have not yet been released. All that’s left, is for Greece to refuse to follow through on its bailout agreements–which means a rejection of the structural adjustment program laid out in the reviled 43-page Memorandum of Understanding (MOU). The troika will use that as an excuse to cancel all future loans and to kick them out of the union.
This is what’s in store for Greece, banishment; because it refused to cut payrolls and pensions deep enough, because it spent “too much” on life-saving drugs or failed to lift constraints on selling restricted baby food, or because it protected its state-owned enterprises, or didn’t dismantle social security fast enough or crush its unions with sufficient gusto or auction off its national treasures to foreign capital according to plan. Now, after two straight years of penalties, pillaging and plunder, Greece will be removed from the EZ and left to fend for itself.