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Greek ‘Drama’ Only in First Act, or ‘Beware of Greeks Bearing Gifts’

Posted by Larry Doyle on April 6, 2010 1:42 PM |

Prior reports that Greece’s financial problems are now in the rear view mirror are exceedingly premature.

As we navigate ‘across the pond,’ we learn that the Financial Times’ Wolfgang Munchau believes Greece Is Going to Default but Not This Year:

Greece will not only have to make an extremely large public sector deficit reduction effort but it will also have to do this under a condition of disinflation, and possibly deflation, which would push its nominal growth rate to negative levels during the adjustment period. That, in turn, would jeopardise the debt reduction programme of both the public and private sectors. Under those circumstances, there is no way that Greece could ever stabilise its debt-to-gross domestic product ratio, no matter how hard the government of George Papandreou tries.

To get out of this mess, one of five things will have to happen. The first, and most optimistic, solution would be a significant fall in the euro’s exchange rate, say to parity with the US dollar, coupled with a strong recovery in the eurozone. This might just do the trick to sustain Greek growth as it adjusts. The second is that Greece gets access to low interest rate loans from the European Union and the International Monetary Fund. The third would be a private sector debt restructuring to prevent a Fisher-style debt-deflation dynamic. The fourth is that Greece leaves the eurozone. The fifth is default. If you go through the options one by one, you realise that the first is improbable. The EU has in effect ruled out the second. The third would require an unlikely additional bail-out of the European banks. While option four would be most convenient for the Germans, the Greeks are not so stupid as to leave the eurozone. That leaves them with option five: to default inside the eurozone. It is the only option that is consistent with what we know.

But it would throw the eurozone into a potentially terminal crisis. Spain and Portugal have problems of a different kind but of a similar dimension. Spain will have to go through a disinflation/deflation period that will produce a formidable private sector debt-deflation spiral. Without devaluation, or the possibility of a sustained fiscal boost, the Spanish depression could last forever, or at least for as long as the country stays in the monetary union. Portugal, like Greece, suffers from a combined public and private sector debt problem.

Greece needs deficit funding badly. Asian nations, primarily China, have indicated little interest in providing this funding. So, where is Greece looking to turn? America. The Wall Street Journal shares this fact while also highlighting how Greek debt is currently plummeting in value. The WSJ writes, Greek Bond Yields Soar to 7.1%:

Greek government bond yields jumped Tuesday and the cost of insuring Greek government debt rocketed (LD’s edit, interest rates on 10yr Greek debt moved higher by over 50 basis points or .50%), as market concerns accumulate over domestic capital flight and the country’s ability to fund its budget deficit without aid from the International Monetary Fund.

The moves come on the back of concerns that Greece may be looking to cut the IMF out of the recently agreed aid package, which also is to be led by Greece’s European Union partners.

The high rate of interest Greece has had to pay on its recent bond issues supports concerns that investors could be hard to attract to future debt issues to fund big budget gaps.

If this spike higher in rates was not bad enough, a run on the banks seems to be taking place as well, as The WSJ adds:

A denial by a senior Greek official failed to allay investors’ fears because of news that Greek banks are facing a wave of cash deposit redemptions by the country’s most wealthy citizens and corporations.

Earlier Tuedsay, two senior Greek officials said Greek Finance Minister George Papaconstantinou will pitch a dollar bond to U.S. investors after April 20, adding, however, that an Asia roadshow is now less likely after limited interest from investors.

High five to the Latin scholars at Boston Latin School (including Mr. Duch and Mr. Cahill) who always impressed upon me, “Timeo Danaos et dona ferentes.” Yes, we would be wise to be on guard and “beware of Greeks bearing gifts.”

Might I add that we should do the same with those in Washington who also claim to be bearing gifts.

There are many acts to play out in our global financial drama.

LD

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  • Lou

    Sounds to me like the Greeks are broke!!

    Little too much ouzo perhaps…?

  • Mike

    This was an extremely helpful article that makes the ‘Greek Drama’ and its outcomes much easier to comprehend.

  • divvytrader

    its a coming folks …. plenty of warnings too —

    did you know gold hit an alltime high vs Euro yesterday ? certainly not if you rely on CNBC for the news ( where i saw jackass Pisani mocking gold mining stocks late yesterday )………….. this piece out today from the BIS says it all ……. my belief is the tipping point on global soverein debt has been reached andf while many countries still solvent , many others are wayyyy beyond bankrupt including of course USA once we add in Social Security , Medicare and now Obamacare unfunded entitlements …………………… the question is no longer ‘if’ but ‘when’ ……………..

    those long cash/gold/hard assets will be king when the day of reckoning arrives ………… unless of course it arrives so violently that cash in a bank and gold in stocks at the bank can no longer be accessed ……….

    i still have a long term macro dream of an explosion higher in soverein / US state debt interest rates as investors finally realize they are bust and have to price in a massive hair cut / work out on debt and then be able to buy muni bonds somewhere in future with new covenants and new far stricter controls on state spending that will get crammed down their throats by bankruptcy courts at double digit yields that all bankrupt entities start at before they try to go forward and prove they deserve lower rates …………

    of course the fact that i own alot of stocks seems to contradict this , my success at exiting the markets in mid 2007 as i saw the sh*tstorm breaking out before the ‘rest of market’ gives me hope i’ll pull off same again although owning alot of defensive plays and holding 30-40% cash should help ………..

    yes , i know …..roll your eyes ………. tell it to the folks who publicly rebuked me in mid 2007 on VF for ‘panicking’ as i began a healthy exit out of stocks …. tell it to the ACAS kool aid drinkers who furiously attacked me then when i blew out of my sizeable position in the $30’s and suggested others do it too ……….. tell it to those who listened to Bernanke then try to reassure USA investors that the problem was ‘ well contained and just a little subprime problem ‘ ………… just yesterday , Bernanke gave a speech warning USA has to do something on its debt problem ( all to a great yawn from the lunatics in DC ) ………

    retail sales through the roof today laugh the bulls ……….. well guess what , when Obama heaves $850 billion of unfunded government spending into the economy mostly into fraudulent make believe ‘ job stimulus’ , its going to trickle down and get spent somewhere ……. $80 billion in tax refunds paid out to people who paid no taxes in first place additional proof that retail sales ‘blowout’ in USA is as sustainable as candy store sales in a small town where a rich kid took his dad’s cash stash and handed it out to friends who all ran to the store and cleaned it out ………….

    yesterday we saw a HUGE drop in consumer credit even as we see retail stores report blowouts today ….. you guyus really want to believe that America no longer needs credit cards and buys everything for cash ? this is precisely what you expect when you see America blowing its welfare checks …………… consumer credit plunges and cash spending spikes ( but just for awhile )

    today we see a spike in jobless claims again ( back to February levels ) ……… numerous economists out laughing and snorting at it as meaningless ………….. applications for mortgages yesterday was pathetic ………. we are WELL into the usual spring home buying season …. nice weather nationwide …….. there should be HUGE pent up demand for houses especially among folks hungry for thet $8,000 government give away ……. but its not there …..why ? because they don’t have jobs or just working part time or have no faith trhey will keep their job ! ….so instead they take their freebie tax refund and go blow it at Best Buy for a few trinkets and call it a day ………….

    those buying into this recovery will deserve what they get ……. unlike the credit crisis of 2007-2008 , the soverein debt crisis is happening center stage for all …………………. and when global investors finally throw the ‘ bull sh*t flag ‘ ( technical term ) and demand rates that strapped borrowers have to pay , all hell is going to break loose and i expect the 20 fat guys will all leave their seats at precisely the same micro-second cocksure they will be first off the train and the collision will be of historic noise / violence / losses …………..

    final proof to mme of how desperate politicians are in USA is their need to find people they think the public respects to be pushed on the stage to start quietly making the case for much higher taxes to pay for even more borrowing ……..

    in NY state , the puppet governor under criminal investiggation has been pushed aside from day to day controls and his lieutenant governor ( Ravich ) who has decades of service and is ‘ widely respected in financial circles ‘ has been working on a bail out plan …….. the result ? he publicly acknowledge no ability to stop the spending growth despite massive shortfalls and instead made the case for another $6 billion in borrowing to buy the state time to figure out how it would cut spending !
    Both GOP and DNC state pols all stomping and applauding for him while the media and rest of world laughs ……. his proposal is like the brain dead alcoholic telling his creditors that if they just lend him enough to increase his drinking for one more year , he’ll really quit then ……..

    in Washington DC , they shoved Volcker out on stage again to try and help float the trial balloon for a huge new VAT tax that will be added ON TOP OF sky high income taxes ( for the unlucky 50% carrying the freeloading 50% )…………

    even a new VAT tax will barely make a dent in the true budget shortfalls …… in fact confiscation of the wealth in total of the people still paying taxes won’t make but a decent dent in our true financial state of affairs and why those believing USA will never have a debt problem it can’t handle deserve what they get ………

    BIS is no ZeroHedge or muckraking sensationalist media outfit ….. have a read

    The Bank for International Settlements does not mince words. Sovereign debt is already starting to cross the danger threshold in the United States, Japan, Britain, and most of Western Europe, threatening to set off a bond crisis at the heart of the global economy.

    Bond investors are waiting for Governments to lay out clear plans for deficit reduction

    “The aftermath of the financial crisis is poised to bring a simmering fiscal problem in industrial economies to the boiling point”, said the Swiss-based bank for central bankers — the oldest and most venerable of the world’s financial watchdogs. Drastic austerity measures will be needed to head off a compound interest spiral, if it is not already too late for some.

    The risk is an “abrupt rise in government bond yields” as investors choke on a surfeit of public debt. “Bond traders are notoriously short-sighted, assuming they can get out before the storm hits: their time horizons are days or weeks, not years or decade. We take a longer and less benign view of current developments,” said the study, entitled “The Future of Public Debt”, by the bank’s chief economist Stephen Cecchetti. ( http://www.bis.org/publ/work300.htm )

    Official debt figures in the West are “very misleading” since they fail to take in account the contingent liabilities and pension debts that have mushroomed over recent years. “Rapidly ageing populations present a number of countries with the prospect of enormous future costs that are not wholly recognised in current budget projections. The size of these future obligations is anybody’s guess,” said the report. The BIS lamented the lack of any systematic data on the scale of unfunded IOUs that care-free politicians have handed out like confetti.”The question is when markets will start putting pressure on governments, not if. When will investors start demanding a much higher compensation for holding increasingly large amounts of public debt? In some countries, unstable debt dynamics — in which higher debt levels lead to higher interest rates, which then lead to even higher debt levels — are already clearly on the horizon.”

    Britain emerges in the BIS paper as an arch-sinner. The country may have entered the crisis with a low public debt but this shock absorber has already been used up, exposing the underlying rot in the UK’s public accounts.

    Tucked away in the BIS report are charts and tables showing that Britain faces the highest structural deficit in the OECD club of rich states, with a mounting risk that public debt will explode out of control.

    Interest payments on the UK’s public debt will double from 5pc of GDP to 10pc within a decade under the bank’s ‘baseline scenario’ before spiralling upwards to 27pc by 2040, the highest in the industrial world. Greece fares better, and Italy looks saintly by comparison.

    The BIS said the UK’s structural budget deficit will be 9pc of GDP next year, the highest in the advanced world. A primary surplus of 3.5pc of GDP will be required for the next twenty years just to stabilize the debt at the pre-crisis level.

    The paper said that Labour’s plan to consolidate the budget deficit by 1.3pc of GDP annually for the next three years is not nearly enough. Such a gentle squeeze will let public debt climb to 160pc of GDP by the end of the decade, accelerating to 350pc over the following twenty years as the compound interest trap closes in. “Consolidations along the lines currently being discussed will not be sufficient to ensure that debt levels remain within reasonable bounds”, said the bank. While the comment covers a group of countries, it is clearly aimed at Britain.

    The analysis bolsters claims by the Tories that markets will not wait patiently as Britain draws up leisurely plans for austerity-lite, relying on implausible turbo-growth to do the hard work of cutting the deficit.

    Fitch Ratings has made the same point, asking why the UK thinks it has a longer grace period than peers in Europe. Spain has pledged to cut its deficit from 11.4pc to 3pc in three years in line with Maastricht rules.

    Perhaps the most shocking detail in the BIS paper is that the UK’s debt will rise to 300pc of GDP by 2040 under this moderate fiscal squeeze even if it is accompanied by a freeze on age-related spending. Britain — unlike Greece — can no longer rely on soft measures to cut the structural deficit, such as increasing the share of women in the work force. Such low-hanging fruit has mostly been picked already.

    The BIS, in charge of monitoring global capital flows, said public debt has risen by 20pc to 30pc of GDP across the advanced economies over the last three years. Semi-permanent structural deficits have taken root. “Current fiscal policy is unsustainable in every country (in its study). Drastic improvements in the structural primary balance will be necessary to prevent debt ratios from exploding.”

    Average debts will exceed 100pc of GDP by the end of next year. The level was briefly higher in the US and the UK after World War Two. Japan is currently able to raise money cheaply at even higher debt levels thanks to its captive savings pool. However, the BIS said it would be foolhardy to assume that debt markets will tolerate this for long.

    The BIS said the usual cure for budget deficits is a return to robust grown and lower nominal rates. Neither are likely for OECD economies this time. The West has slipped to a lower growth trajectory. Historical data shows that once public debts near 100pc of GDP they act as a ball and chain on wealth creation.

    If countries do not retrench quickly, they will create a market fear of “monetization” that becomes self-fulfilling. “Monetary policy may ultimately become impotent to control inflation, regardless of the fighting credentials of the central bank” it said.

    Some states may be tempted to carry out a creeping default by stoking inflation. “The payoff to do this rises the bigger the debt, the longer its average maturity, the bigger the fraction held by foreigners.” The BIS said the danger that any government would consciously take this path is “not insignificant” in the longer run.

    Of course, a brutal fiscal purge in every major country at once itself poses a danger. The result would be to crush recovery and tip the world economy back into crisis, making deficits worse again. Countries are damned if they do, and damned if they don’t.

    The BIS skips nimbly over this dilemma. Nobody has yet mastered our horrible Hobson’s Choice.

    • LD

      Divvytrader….I think you just elevated yourself into a strong position for entrance into the Sense on Cents Hall of Fame!!!

      America needs to wake up and become increasingly aware as to the shell game being played out right before our eyes. Thanks very much to the link to the Bank for International Settlements.

      Well done!!






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