Greece’s economic situation is deteriorating rapidly and on March 31, the government failed to meet an initial deal with the EU and IMF, offering plans insufficient to address creditor concerns. In addition, the Greek government has declared that a large loan due on April 9 could fall into arrears. In short, Greece could default.
While this announcement is mostly political positioning to gain concessions from its eurozone neighbors, Greece really is running out of money, and fast.
FSG has long believed that Greece could leave the euro (or “Grexit”) by accident or mismanagement of timelines. Several signposts are imminent in April that will determine whether it remains in the eurozone or not. In fact, the severe liquidity crisis that the country faces has now increased its likelihood of leaving the euro area to 30 percent.
Greece faces a severe liquidity crisis
Greece will soon run out of money. No one, including Greece, knows exactly when this will take place, but it is likely within the next couple of weeks unless the country arrives at an agreement with creditors. Several factors are precipitating this crisis:
- Political volatility has pushed the economy back into recession, reducing taxable business and consumer activity
- Tax revenues are falling short of targets as anti-corruption and tax-payment enforcement institutions are weak
- Bank deposits are leaving the country’s financial system at a rapid pace
The government has very few rainy-day funds left. In recent weeks, it has tapped whatever reserves it could find to meet salary and pension payments due on March 31. The government is holding a last-minute debt auction on April 8, in which it desperately needs international investors to take part. A Chinese state-controlled investment fund bought €100 million in the last auction, but higher political risk has resulted in largely waning appetite for Greek securities
Unfortunately, Greece’s troubles do not end there. Several upcoming repayment deadlines bring additional financial stressors. First up is a €450 million IMF loan that comes due on April 9. If Greece defaults on this loan, its banks will no longer be considered solvent and would lose access to the ECB’s Emergency Liquidity Assistance (ELA) which has been a vital source of short-term capital for the Greek banking system. While the ECB could change its rules to grant Greece exceptional access to the ELA, this is unlikely. Instead, capital controls would be instated to prevent further deposit outflows.
Then, an additional €3.2 billion in loans come due in May, plus another €1.7 billion in public sector wages and pensions. The largest sum, however, comes on July 20, at which point a €3.5 billion bond owned by the ECB comes due. Even if Greece made it past the other repayment dates, repaying this bond will be impossible without creditor support, signaling the end of Greece’s euro membership. Greece must thus secure the support of its international creditors, and very soon.
The eurozone economy will struggle under this uncertainty
The impact of Greece’s political and economic turmoil should be more easily contained now that the union benefits from stronger monetary and fiscal firewalls (ECB and the European Stability mechanism). However, it will not be easy to ignore Greece’s tumult, and business activity will be weaker in upcoming months as a result.
Even without a “Grexit,” sustained political uncertainty obscures the business planning environment. Many regional and local banks in eurozone countries, such as Germany, hold substantial exposure to Greek debt. As that debt is downgraded, those banks are required to keep additional capital and thus lend less to local businesses and consumers, muting economic growth potential. Reforms that improve competitiveness and support business lending will improve the likelihood of recovery in euro area countries regardless of Greece’s political status, but Greece’s situation creates a substantial headwind to their success.
If Greece does leave the euro area, its neighbors’ political opposition to SYRIZA and vocal support of euro area economic policies could contain the economic contagion caused by political uncertainty in 2012. The firewalls mentioned above should ease fears and uncertainties around the common currency’s ability to withstand a new economic crisis. However, any financial market panic could result in the pricing of another country out of the eurozone, making contagion a possible risk.
Multinational corporations should limit operations in Greece in 2015
The bulk of the volatility surrounding Greece’s economic trajectory will take place in the next six months. If Greece’s banks lose access to short-term funding, the government will instill capital controls, freezing company assets and triggering solvency issues for local partners and customers. In addition, to make up for the shortfall in funds, the central bank of Greece may begin to print drachmas, triggering a default on other foreign debt and leading to a re-denomination of local assets, likely at a large haircut.
Multinationals should thus dust off contingency plans and reconsider any additional exposure to the country this year. While downside risk and broader eurozone contagion remains uncertain, the market is unlikely to provide opportunity in 2015.
For more insights on Greece and the rest of the EMEA region, follow Lauren on Twitter @LaurenElGoodwin.