Monday, 31 October 2011

A referendum

More on Greece and the Eurozone in this article I am afraid, but it is the issue which is going to shape events in the next year or two to a far greater extent than a referendum on Scottish independence, which is relatively neutral to those in the remainder of the UK, or some of the other legal issues I cover on this blog.

It appears that I was adrift on the 60% haircut for private creditors of Greek debt. Under the package agreed by the Eurozone last week it is "only" to be 50%, for the moment. But the Greek government has now out of the blue decided to hold a referendum on that package, apparently to take place around January.

This is an odd development. With Greek acceptance of the deal now in issue, it puts in doubt whether the EFSF can send more funds to Greece next week as proposed: I doubt anyone really thinks Greece can pay off any of these new "loans", but a minimum of pretence needs to be maintained nonetheless. We were earlier told by the Greek government that they will run out of cash in the middle of November. How will Greece fund itself in the meantime?

It is difficult to read the intentions of the Greek government with this surprising announcement. Is it to give the Greek people a taste of semi-default in the November to January period, as without the EFSF money it will not be able to pay public sector wages or pensions in full during the period?

Or is the referendum an attempt to get a better deal out of the EU in the hope that the EFSF money will still be credited to them next week and that they can hold a gun to the German government's metaphorical head between then and January?

In either case the dangers are immense, and are four fold. First, if the current package is rejected in the referendum, unless the EU agrees to fund Greece with real money transfers it can only result in sovereign debt default, which would leave the ECB with deficits which will require further funds from Eurozone members to finance on the public side. This is because the current 50% "haircut" agreed in the current package only applies to the banks. It does not apply to public authority creditors, and in particular to the ECB which has been buying Greek bonds on the market to make cheaper finance available to Greece. To have Greece potentially defaulting on its ECB support is startling and must be causing apoplexy in Berlin.

Secondly, in the event of such default, the "haircut" for private creditors will not be 50% but probably near 100%. When taken with the call-in of hedging insurance on the debt, it will leave a significant number of banks and other financial institutions insolvent, requiring further taxpayer support, which may exceed the ability of some Eurozone countries to finance when the support also required for the ECB's losses is taken into account.

Thirdly, a referendum decision against the deal seems likely to result in Greece leaving the eurozone, if only so that it can print money to provide temporary relief on its deficits, at the expense of high inflation, and also devalue its currency.

Fourthly, this will lead to immense pressure on Italy, Spain, Portugal and Ireland. I cannot predict what that will lead to, but it feels most unpleasant. A clearing of the decks with respect to Eurozone debt, accompanied by a period of recession in Europe (including the UK), may sound attractive as a resolution until it comes time to live through it.

A referendum is no doubt good for democracy. But in terms of the Greece and Europe, this is either clever brinkmanship by the Greek government, or lunacy.

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