What are the chances of Greece surviving bankruptcy, and can it depart the euro? Talks tonight between incoming French president Francois Hollande and German Chancellor Angela Merkel may help answer the questions that are dominating global markets and worrying bankers, central bankers and governments.

It’s doubtful anything substantive will occur. We now seem to be in a slow-motion train wreck as Athens fails in another attempt to form a government, meaning Greece looks as if it’s off to the polls for the second time in two months. But will Greece make it, or will it run out of money, forcing the rest of the EU and eurozone to put up more money, or refuse to provide any more funds, thereby triggering an inadvertent default?

Overnight, Merkel, smarting from a big anti-austerity vote in a state election on Sunday, warned Greece it had to back the austerity plan in place, or face the prospect of leaving the euro. Just how that is supposed to happen no one knows, given there are no rules for a country to leave the common currency short of being blasted out by a huge default. There is a game of high stakes “chicken” being played out here.

Eurozone ministers met for another talkfest that said nothing conclusive, dismissing talk of Greece leaving the eurozone as “propaganda and nonsense”. But they also said Greece had to respect the terms of the bailout program agreed with the EU and the International Monetary Fund. There was no mention of what would happen if Greece doesn’t do that, either inadvertently or deliberately.

Hollande is sworn in tonight and heads straight to Germany to talk to Merkel about life in the eurozone. Some European analysts say her warning to Greece was also a reminder to France that there is no going back and changing the program of spending cuts and other policy changes (such as altering the retirement age). Hollande wants to change these and others to try to promote growth. It was the policy that helped him become President. But Greece is the focus and it’s shaky.

That’s why financial markets had another miserable night, falling across the board. The Aussie dollar regained the parity level with the greenback, then fell under 99.60 US cents this morning in Asia. Oil fell to $US94 a barrel in New York. Stock markets fell sharply, especially in Europe, yields on Spanish and Italian debt hit 2012 highs, and yields on UK and German bonds hit all-time lows. In the US the yield on its key 10-year bond closed at 1.74%, the lowest it has been for six months. Yields on seven-year US bonds hit an all-time low of 1.1679%. Australian bonds were trading at 3.28% this morning for 10-year securities, lows not seen for more than 60 years.

Moody’s cut the ratings of 26 Italian banks, including the majors. Some of the cuts were four ratings levels and, according to the Financial Times, an adviser to Hollande warned publicly of the danger of contagion:

“Jean-Pierre Jouyet, the head of France’s financial markets regulator and adviser to incoming president François Hollande, warned that ‘there is a risk of contagion’.

“‘If Greece left the euro, which is a hypothesis that today we cannot avoid, we have to look at the chain of consequences for banks,’ he said in a television interview.”

In Athens, President Karolos Papoulias called off an attempt to set up a government of technocrats. As a result, the country is almost headed back to the polls next month (which will make June problematic with polls in the Netherlands and the French parliamentary elections). But will Greece make it?

Some commentators have wondered if Greece can emulate Argentina in defaulting and surviving. At $US93 billion, Argentina is the largest-ever sovereign bankruptcy. It happened in December 2001, and according to some pundits, Argentina has survived and prospered. But, according to others, that’s not the case as successive governments have fiddled the national accounts, seized private pensions, restricted capital flows, taxed exports and avoided paying court judgments won by various creditors.

And Argentina went bust and then survived in the good times, when credit was easy and plentiful and no one really worried that household savings in the country were wiped out, ruining millions of  lives. Argentina had products people in other countries want — wheat, soy beans, beef and oil and gas reserves (now being run down) — and is a much larger and resource-rich country, which Greece isn’t.

Greece is smaller and poorer. In fact it has nothing going for it, except tourism but that is overshadowed by close to €300 billion in known debts, which is the financial equivalent of a black hole that could suck the rest of Europe and global finance into it.

So what’s the financial picture for Greece and the rest of the eurozone? Well it’s all debt and no assets. According to figures published in European media (The FT, Economist, Guardian and Wall Street Journal), Greece’s financial position is dire. The €5.2 billion payment approved last week under the second bailout package was actually €4.2 billion (one billion was held back). Of that €4.2 billion, €3 billion has to be repaid to the European Central Bank this month as bonds to the same amount mature. But if for some reason these bonds are not repaid, then the ECB pulls the plug and we get an early default.

No wonder a Greek minister warned at the weekend the country only has enough money for another six weeks. That might get them to a new election.The Economist wrote at the weekend that: “Banks have more or less called a halt to new lending to Greek institutions, companies and banks. By the end of 2011, foreign banks’ exposure to the Greek public sector had fallen to about $23 billion from $64 billion in September 2010. Cross-border loans to Greek firms and households had also fallen, from $86 billion to $69 billion. But that is still a lot.”

Some 70% of Greece’s debt is now made up of official loans already disbursed: that’s estimated at €140 billion; the European Central Bank owns around €40 billion of Greek bonds and the ECB has repoed (repurchased) around €140 billion of bonds and other securities with Greek banks. So roughly there’s around €200 billion owed to the ECB, the IMF and EU. Add on the €93 billion of other loans detailed by The Economist and Greek’s debts stand at just under €300 billion.

That’s the size of the risk to the rest of the eurozone, Europe and the global financial system. The eurozone’s global stability mechanism  (the so-called firewall) has €500 billion, so on paper, there’s enough there to protect against a Greek default. But that leaves nothing for Portugal and Ireland, plus Spain (and perhaps Italy). Certainly, if Greece defaults then attention (contagion) will spread to Ireland, Portugal, Spain and Italy, with France also a contender. And, if Greece faults on its IMF debts, it would join the likes of Zimbabwe, Somalia and Sudan that have overdue financial obligations to the fund.

So what happens if there’s a default? Well the ECB turns off the money tap, Greece has problems paying for imports, which stop or slow dramatically, shortages start happening, inflation rises. The economy collapses, demand and production plunge, unemployment soars (doubles from about 20%). If Greece’s banks are cut off, they collapse and the government will have to start new banks from the ruins (much in the way Iceland did after its collapse).

If the country leaves the euro and brings back the drachma, it has to strike an appropriate rate, while at the same time trying to shut the country down to stop a massive flight of capital. It also has to find the money to finance the printing of new notes and coins, the distribution of that money. New border and capital controls would have to be introduced and money found to pay the police, Customs, army and other state officials to try to keep the economy alive and stop more money from joining the €70-90 billion that have already left the country in the past two years.

Chaos is a Greek word and it’s very, very apt.

Peter Fray

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