Observers of global financial governance are currently holding their collective breath as Greece and the “Troika” engage in an eleventh-hour effort to prevent the ‘Grexit’. The Troika here refers to the collective bargaining power held by the International Monetary Fund, the European Central Bank, and the German Central Bank. The ‘Grexit’ is the term now most popular among financial commentators when referring to Greece’s possible exit from the Eurozone and its appending rules. Greece has until June 30 to make good on its interest commitments on foreign sovereign debt owed to the IMF. Otherwise, it might default, thereby setting into motion a chain of events that ends in Greece leaving the EU. How has Greece come to this and what does this set of events mean for the Euro’s long-term viability? Here are five essential facts to know about the ‘Grexit’.
How it all started
The Greek sovereign debt crisis began in 2009.Greece accumulated an incredible amount of debt, to add to decades of fiscal deficits and ineffective tax collection. The onset of the 2008 global financial crisis shed a bleak light on the state of Greek finances. The country’s debt-to-GDP ratio stood at 174%, compared to 45% in Turkey and 90% in Spain according to World Bank data in 2013. As soon as these facts became mainstream, capital markets’ panic coincided with substantial government expenditure on relief packages for financial institutions and dramatically higher costs of government access to capital in global markets. Thus, just as European debt markets were investigating the state of Spanish, Italian, Irish, and Portuguese finances, Greece’s case grew to be an exception, highlighted for special resolution and mainstream attention weekly until today.
German and IMF creditors have very little leeway, allowing a default might not be an option
At the time the problematic state of Greek finances came to public light, the European Union created a set of EU-wide liquidity and emergency finance facilities that relied mainly on German tax-payer funds. At the time, Germany committed close to €90 billion to stabilizing Eurozone finances, less than the €120 billion other EU member-states were asking for. A very tight bargain was struck in order to allow the German Chancellor Angela Merkel to authorize the commitment of principally German funds to an EU rescue package. This led to a uniquely high level of German leadership in European sovereign restructuring finance, and in the ensuing negotiations continuing until today. The IMF provides short windows of liquidity to support Greece’s efforts to meet some interest payments on its debt to the IMF and others, but these funds generally come with conditions, many of which have become unpalatable for Greek politicians. Some have argued that the EU stands to lose more than Greece does, with obvious implications for the outcome of this week’s negotiations.
Greece’s policy-makers are boxed-in given anti-austerity campaign promises.
Alexis Tsipras, the Greek Prime Minister today, came to power while riding a wave of popular anti-Troika, anti-austerity policy platforms. As a result of this, his Finance Minister, Yanis Varoufakis adopted an intransigent and robust negotiation style, designed to incentivize the ECB, IMF, and Germany to agree to a degree of debt-relief. The tone of remarks by Varoufakis and PM Tsipras, ranging from personal attacks to ideological statements against Germany, indicates that the current Greek government wants to avoid being seen to have conceded to the ‘Troika’. Agreeing to further austerity measures (layoffs in addition to the 30% reduction in government employees completed) would have to involve a measure of face-saving and opaque debt-restructuring. So far, negotiations have been inconclusive with each side decidedly and publicly committed to standing its ground.
The economic stability of the European Union and Eastern Europe is at risk
As mentioned earlier, Greece’s sovereign debt woes have been up for re-negotiation for the past five years. In 2010, analysts spoke of the considerable risk of a domino effect where debt default in one of the economies would trigger widespread exits from the Eurozone. As of early June 2015, the Financial Times, The Economist, and other key public commentators suggested that all potentially contaminated economies are effectively shielded from a possible Grexit. At the same time, the week opened with wild swings in the short-to-medium term debts of Spain and Italy, largely as a result of market uncertainty as to Greece’s ability to secure a deal. Greek subsidiaries that hold considerable sway in Eastern European economies such as Bulgaria, Hungary, and other emerging markets are highly volatile as a result of the current impasse. Either way, observers can expect a degree of volatility in Greek-related economies or in emerging market economies such as Turkey with a relatively large current account deficit.
There are clear geopolitical implications to a possible Grexit
At its core, the saga of Greece’s possible exit from the Eurozone is a geopolitical quandary. Occurring under a global strategic context of US retrenchment, one that is heavily reliant on German leadership in the EU as a proxy, Greece’s possible exit is a threat to the Euro’s long term viability. The Economist magazine argues that Greece’s exit from the Eurozone will not solve, or reduce, Greece’s sovereign debt; neither will it make it more competitive. But a possible Greek exit opens the door to other weaker European economies to follow suit. It reopens the debate on the international rules that govern the Euro as a currency regime, and it alters the bargaining equation for countries such as Turkey or others in Eastern Europe whose membership applications are ongoing. Other powers may seek to take advantage of the vulnerability of these weak countries. Russia, recently keen on expanding its influence on the Eurozone’s economic viability using its clout when it comes to the E.U.’s energy security, has already swept in.
All things considered, the Grexit raises some alarming flags as to the fiscal and monetary future of the Eurozone. The outcome of current negotiations on June 30 are sure to reopen the debate regarding some long-shelved issues: can an EU exit be orderly? Which rules should govern this process? Does membership in the EU entail a blank fiscal cheque? Most importantly, its resolution may even remove the weakest link so far to the European Union’s economic recovery from the 2008 financial crisis.