So will Greeks go to the polls in a month and vote against austerity and support left-wing parties that want to tear up the bailout, but remain in the euro? But will the gathering run on the country’s banks cripple the economy and force the country to leave the eurozone and plunge deeper into depression? News overnight that the European Central Bank (ECB) had stopped funding four Greek banks worried markets.
Politics no longer matters and eurozone leaders such as Germany’s Angela Merkel no longer have any influence. It’s all about money and the faltering Greek banking system that may not survive until the June 17 vote. That realisation is gripping global markets and banks and other financial groups around the world are preparing for the worst. Julian Jessop, of Capital Economic in London, summed it nicely when he said in a boardroom radio briefing this morning in Australia that “there is clearly no mandate left in Greece” for austerity. He said a Greek exit from the euro “is not imminent” but he warned that a “complete collapse” of the Greek banking system, or “riots on the streets” could see Greece either forced out or decide to leave earlier than it would have.
“It is only a matter of time before Greece either chooses or is forced to leave the euro,” he told the briefing. He said that he thought the impact might not be as bad as what happened after Lehman Brothers collapsed. He said that’s a fear, but the crisis is well known. “On balance the fallout will be less than that, and mostly contained to Europe. But even if it is not as bad as Lehman’s it will still have a pretty severe impact on global financial markets, business and consumer confidence,” Jessop said.
While markets in Europe and the US had a better day overnight than Tuesday, the US dollar continued to rise, forcing oil, gold and other commodity prices lower. In fact, gold prices are now down nearly 20% from its all-time high last September ($US1921 an ounce, it closed at $US1540 overnight), failing as its claimed hedge in times of volatile market conditions. The Australian dollar fell below 99 US cents, rose back over parity, and then fell back to just above 99 US cents at the close in New York and in early Asian trading this morning.
So far in Australia, the banks haven’t started hoarding their cash and leaving it with the Reserve Bank. Exchange Settlement Account balances have remained steady and move with the daily position of the financial system (whether it is in deficit or surplus). There has been no sign of the steady rise in balances seen from late-2007 to mid-2009 as banks worried about each other and tried to maintain high levels of liquidity.
UK banks were revealed as preparing for Greece’s exit and there are reports that banks in other countries, such as Australia, are following suit. There’s no knowing when Greece will implode, but the risks are rising as the European Central Bank has stopped dealings with some Greek banks, forcing them to borrow expensively from the Greek central bank. The governor of The Bank of England told a news conference in London that the eurozone “was tearing itself apart” and he warned that the UK economy would not escape being hit (that’s one of the reasons the bank cut its 2012 growth forecast).
In Australia, banks and other financial groups were told late last year by regulators to prepare for Greece’s possible exit. They have to prepare for a repeat of the aftermath of the Lehman Brothers collapse on September 15, 2008, which froze global financial markets, damaged liquidity and saw world trade plunge and economies pushed into recession by the end of the year.
Then, Australian banks were cut off from global markets for a month or more, forcing them to do financing deals (called repurchase agreements) with the Reserve Bank, which had earlier eased its collateral requirements to allow the banks to use their own home loan mortgages. More than $A45 billion of assistance was given. Since then the big four banks have had blocks of mortgages on their balance sheets ready to sell to the RBA for short-term cash. More than $A120 billion of mortgages have been self securitised and are available to be dealt to the central bank (which charges a “haircut” or discount according to the quality of the mortgages).
That’s what Greek banks are now doing with their central bank, and being charged a discount of 50%. Overnight reports suggest that the Greek banks have received €60 billion of assistance, meaning €120 billion of collateral has been pledged. That’s a sign of the desperation of the banks and the very poor quality of the assets being hedged, the banks having used their higher-quality loans, etc, a long time ago.
There are about €165 billion of deposits reportedly left in Greek banks. Until Monday, only €700 million to €1.2 billion are estimated to have left Greece since the May 6 election. But on the first two days of this week, the outflow exceeded €1.2 billion, according to the Financial Times. That’s less than the €8 billion that left Greece in April 2010 when the first bailout package was done. That has amounted to as much as €70 billion.Report on Reuters, Bloomberg and in local papers in Athens have confirmed the country’s banks are dead in the water and struggling to remain solvent. In fact, if the support of the European Central Bank and the Greek central bank were removed, the banking system would be insolvent and collapse, according to these reports. So it was something of a shock that the ECB said it had stopped routine operations with certain Greek banks with depleted capital buffers, but said that they are still able to access the ELA scheme. That’s the Emergency Lending Assistance being provided by the Greek central bank, the Bank of Greece.
To meet the outflow of euros, the Bank of Greece has to lend them to the commercial banks, but this also created debits elsewhere in the eurozone if the funds are transferred to another country. According to European reports, there are some €600 billion of payments made through the ECB system that could be threatened by Greek default. These payments lie with other central banks and the ECB itself, and banks in Spain, Germany, etc. This is the biggest domino of all and the one that could cripple to eurozone and trigger massive losses overnight.
The ECB has repeatedly said that it can lend only to “solvent counterparties against adequate collateral.” According to media reports, the ECB overnight declined to say at what point the ECB would have to change its policy, if the reported deposit outflows continue. But investment bank JP Morgan reinforced the rising sense of crisis when it said in a report that Greek banks have already exhausted their collateral. A refusal by the ECB to ease rules would amount to expulsion, forcing Greece “to issue its own money“.
And that’s the problem: the banks remain the key to Greece remaining or leaving the eurozone. If the ECB stops funding Greek banks, and if Greece were to default on its debts, all of Greece’s banks would be insolvent. And an economy can’t function without banks. IOUs can be written, but there has to be an understanding that they will be redeemed for something. But people won’t accept IOUs issued by their banks. They want cash, to hide in the mattresses or to send out of the country. Basically, Greek depositors and companies need to be able to withdraw something tangible and exchangeable (with value) from their accounts, either electronically, or in person (it’s happening electronically because media reports say there are no queues outside banks in Athens).
If the ECB, EU and everyone else stops supporting the banks, that something tangible can’t be euros any more, it has to be something like new drachmas. That would trigger massive losses inside and outside Greece and plunge the economy deeper into depression. The Greek economy has shrunk 27% since the crisis erupted in late 2009 (6.2% in the March quarter of this year): that is a depression, not a recession. It is going to get worse, no matter who wins the June 17 poll.