So Greece is saved?

This article was first printed in Professional Adviser on 5th July 2012 and available online at http://www.ifaonline.co.uk/professional-adviser/feature/2189243/greece-safe

So Greece is saved? Well, actually I am not so sure of that. The result of the second Greek Election has, as yet, changed little. The New Democracy party, that supports the terms of the Eurozone bailout, won through, but failed to poll sufficient votes to govern. Nonetheless, it has the right to form the next government, in spite of anti-austerity parties having gained 60% of the vote - so much for Proportional Representation!

What lies ahead is the tortuous task of forming a credible and stable government. Obviously, this will be a coalition and necessitates the New Democracy Party making peace with old political adversaries. So whilst the coalition will come together on the acceptance of austerity, there seems little doubt that there will be a collective attempt to dilute the terms of the bailout. 

Greece has long lived beyond its means. Government spending has spiraled out of control whilst widespread tax aversion has hit government income.  The country has limited cash to pay its bills and needs additional funds by mid July if it is to avoid national bankruptcy. Normal borrowing channels are not open to them, the only lenders being the so called Troika - the European Union, European Central Bank and International Monetary Fund. In February, they collectively agreed a further Euro130 billion bailout but subsequently withheld the money due to election uncertainty. So, there is limited room for renegotiation on austerity especially as, since February, there has been little effective reduction of the Greek budget deficit and capital continues to pour out of the domestic banks.

The election result has not diminished the risk of a Greek default, banking collapse and departure from the Eurozone.  Once again, investors are looking to central banks to provide the necessary liquidity should this occur.

A couple of weeks ago, the Spanish government accepted a Euro100 billion bailout to support its country’s banks, reeling from the aftermath of a cheap credit fuelled property bubble. Spain had hoped that this move would reduce the cost of their borrowing, but bond investors failed to distinguish between the risk posed by Spanish banks and sovereign risk. This is mainly because Spanish banks had previously taken the cheap money lent to them by the ECB last December and again in February this year, to load up on their government debt.  As I write the cost of ten year debt is above the critical bailout level of 7%.

There has also been a pre-emptive move in the UK, announced by the Governor of the Bank of England at his traditional Mansion House speech. Funding for lending as well as reducing the limits on holding cash for UK banks was a deliberate policy to provide further liquidity to the market. Central bankers, like Sir Mervyn King, appreciate that the route to the only credible solution to the Eurozone crisis (that of fiscal union) is very lengthy indeed. But that calls for a big change of heart in Berlin towards sharing the Eurozone debt burden and allowing more stimulus rather than greater austerity.

John Husselbee
20th June 2012