Greece – The die is cast

The die is cast.The deadline for the negotiations between the Greek government and the Troika (IMF, European Union, ECB) has passed – but Greece has not repaid the €1.6bn due to the IMF.

Yet, a final U-turn and a final proposal from the Greek government to the Troika yesterday gave rise to an unsuccessful Eurogroup phone conference. At the same time, the discreet request to the IMF for an additional repayment deferral went unheeded.

It is worth noting that the European Union did not remain passive and suggested the possibility of a renegotiation of the Greek debt from October 2015 (but not a debt reduction as the Greek government had wanted). This proposal, which triggered a counterproposal from the Greek government, was not acceptable since it did not include any debt reduction and forced Alexis Tsipras to call for a “yes” vote at Sunday’s referendum, contrary to what he had had announced previously.

Moreover, a Greek representative indicated that the referendum was part of his negotiation strategy and that a massive “no” would force the Troika to review its position if the objective was to prevent a Greek exit from the euro zone. The comments have changed on this point. The ECB’s Benoit Coeuré has indicated that this possibility could no longer be ruled out and Sigmar Gabriel, the German Vice-Chancellor, Monday indicated that a massive “no” would open the door for a Grexit.

The short-term horizon is now Sunday’s referendum.

We have no opinion polls for the time being that could give an initial estimate of the outcome of the vote. However, if Sunday’s vote reflects the political map, a “yes” victory is possible. Another factor pointing in this direction is the analysis of referendums on independence (for example Québec), which shows a conservative reflex during votes, with a rejection of independence. That would then reopen the possibility of negotiations with the Troika, which could then, however, set the conditions. In that case, we could not imagine that the Greek government would have significant leeway. It would no longer be led by Alexis Tsipras, as he would not have any legitimacy after his call for a “no” vote.

However, let us not draw hasty conclusions. The Greeks are in a difficult situation after five years of recession and an unemployment rate that affects more than a quarter of the labour force. An implementation of the measures recommended by the Troika would trigger a reduction in demand directed at companies, thereby increasing the probability of an extension of the recession. The pension cuts (1 percentage point of GDP in 2016) and the VAT hike (even if the increase is smaller than initially expected in the islands) would have a negative impact on activity for a long time to come. And even though growth expectations for the euro zone are better for 2015 and 2016, the contagion effect will not be strong enough to change the state of affairs, barring a boom for Greek tourism over the next few months.  

There is no miracle solution. An article published this morning in the Guardian indicates that even with the implementation of the measures that the IMF has recommended, the public debt will not fall rapidly. In the baseline scenario, the public debt-to-GDP ratio would still be 118% in 2030 versus 175% currently. Debt reduction is inevitable if a solution to the Greek issue is desired. So the situation, as for the result of the referendum, remains uncertain. 

The other key factor in the next few days will be the ECB’s reaction.  

It did keep the liquidity contribution at Friday’s level over the weekend. What will be its behaviour in the coming days? Will it reduce its liquidity contributions after the end of the ultimatum after Greece missed the deadline? Or will it wait for the outcome of the referendum? That is a crucial question since its action will enable us to anticipate the conditions under which Greek banks will be able to open again.

A restrictive behaviour by the ECB, via a reduction in liquidity or more severe constraints on the conditions for providing this liquidity (larger haircut), could keep the banks closed for a longer period, as they would not have enough liquidity. This would then throw Greece into an even more awkward situation.

In other words, the ECB will play an important role in developments in the immediate future since a hardening of its stance would lead to more restrictive capital controls, thereby fuelling discontent among the Greek. As a result, it should at least wait for the results of the referendum before changing strategy. It will also have a role to play even in the event of a “no” as the Greek banking system will spontaneously be in trouble. ECB assistance would then make it possible to avoid a more dramatic situation and emergencies.

The third major point is Europe.  

The reversibility of the European construction, that a Grexit would give rise to, should give food for thought about the desired objectives for this construction, which has been going on since the 1950s. The idea of an area of intensive trade in Europe was then seen as the best way to eventually create a more autonomous political momentum across the continent. The euro zone is also a move in this direction. Its creation, the crowning achievement of the European construction, also led to the need for a political construction that could allow for more efficient management of the currency area as a whole. The idea that all the architects that had worked on the creation of the zone agreed on was that the last building block would be political, in order to have a totally integrated economic area. 

The reversibility, associated with a Grexit, would weaken this idea since other countries might leave the zone. That means that there cannot be any integrated political structure that is able to balance the interests of one country with respect to another. If a country can leave, then no country would be interested in joining an integrated system as its situation could be weakened if one country left the zone.

But if this ultimate construction and final integration does not take place, then the euro zone no longer has the same nature. It becomes a simple fixed exchange-rate area. And that no longer something that creates inspiration.

The question of the Grexit is not the imbalance that a Greek exit would mean for the European economy as a whole, but the political impact it would have on the construction of the entire zone.

If reversibility becomes reality as a result of a Greek exit, there will be a need for a strong, consistent and rapid message aimed at creating more robust institutions to ensure that the spirit of the euro zone remains.

Any European construction is political in its essence and the economy is only a means to arrive at this political dimension. This is the important issue given the mosaic that Europe is. If it was no longer so marked then the big loser of a Grexit would be Europe, its diversity and also its common strength.

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