Four Greek paths to a European D-Day

There are four distinct options for Greece in the wake of its national vote, the only question is which one Europe will choose.

The Conversation

Greece’s New Democracy leader Antonis Samaras begins the task of building a coalition after emerging as the front runner to form a government.

Reports indicate New Democracy has narrowly beaten leftist alliance Syriza, winning 29.53 per cent of the vote against 27.12 per cent for the coalition led by Alexis Tsipras.

It will have been be a long night at Wilhelm-Epstein-Strass, the seat of the Bundesbank in Frankfurt. Hot coffee, strong and black, will also be the order of the night a few minutes away at the Kaiserstrasse Eurotower, the temporary home of the European Central Bank.

Another country away, but only four hours’ drive on the autobahn in a black, armoured V12 Mercedes – the preferred mode of transport for the Deutsche Bundesbank’s elite –is 200 Rue de la Loi, the Berlaymont building in Brussels, that is EU Commission headquarters, where it will be a sleepless night for an unlucky few.

Across the pond in Washington, DC, the lights will also be burning at the International Monetary Fund, as its staff check their Reuters screens anxiously for the outcome of the most pivotal democratic election in recent history.

A 'Lehmans moment'?

IMF managing director, Christine Lagarde, has warned that a Greek exit would be "extremely expensive.” Lagarde revealed in a video interview that the fund had undertaken a technical assessment of a possible Greek exit.

Meanwhile, across the street at the World Bank, outgoing president Robert Zoellick cautioned that the EU could face "a Lehmans moment if things are not properly handled”.

EU finance ministers are due to meet tomorrow to discuss the outcome of the Greek election. A number of media reports suggested that EU ministers have made plans for emergency measures should Alex Tsipras’ anti-austerity party, Syriza, have gained a lead in the exit polls.

The pro-bailout parties, New Democracy and Pasok, could form a "grand coalition” to deny Syriza a parliamentary majority. The "secret polls” indicate the combined seats of New Democracy and Pasok would be sufficient to give them a slender lead over Tsipras’ Syriza. However it is the "known unknown” – the large bloc of undecided voters – whose decisions will ultimately determine Greece’s fate.

Early exit polls suggested that although a large number of Greeks agreed wholeheartedly with Tsipras, the majority of their support was likely to flow to the pro-bailout parties. A not-unreasonable fear of a freeze of EU/IMF bailout funding appears to have been a key motivating factor.

As election day drew closer, Tsipras modified his rhetoric carefully. He does not countenance a Greek exit from the eurozone; rather, he has aped the language of anti-austerity espoused by newly-elected French president, Franois Hollande.

Tsipras appears to envisage continued eurozone assistance, emphasising "investments and underwriting growth” in return for financial bailouts. Throughout the campaign, Tsipras ran a populist line, arguing that the bailout conditions were "blackmail” that would send Greece to "hell”.

Last week, the Syriza leader cautioned EU leaders that it would be dangerous to expel Greece from the eurozone, warning that Italy would be the next target of financial markets if Athens departed the EU monetary union: "When you give a sign that a country can be led to hell, then they will rush to attack the next weak link, which is Italy.”

For their part, Greek voters have continued to withdraw savings from domestic banks in the days leading up to the election. The pace of withdrawals has remained relatively steady since 2009, with deposits 30 per cent lower than they were three years’ ago.

Regardless of the election winner, Greeks face long-term economic gloom. But what are the implications of this election?

Possible outcomes

Prior to the election, one scenario was that Syriza would win and Tsipras would do what he promised to do: tear up the terms of the €130 billion bailout, introduce a moratorium on debt, cut valued-added tax (VAT), cancel emergency taxes, stop cuts to social security and salaries, increase unemployment benefits and nationalise the banks.

But the likelihood was low. Syriza would have needed to command a solid parliamentary majority. The troika (the EU, the European Central Bank and the IMF) would probably freeze bailout funding due to non-compliance. Tsipras would also have needed to introduce capital controls to stop capital off-shoring and runs on banks.

Even capital controls would not necessarily stop people putting bundles of euros in suitcases and heading for the border. Bank nationalisation would also serve no purpose unless the government was in the position to guarantee their liquidity – which, in the event of a troika funding freeze, it wouldn’t be.

A second scenario is that Greece still departs the eurozone, introduces a 'new drachma' and defaults on its debt. The likelihood of this is also low. This is a nightmare scenario, not only for Greece, but for the entire European economy. Any euro banknotes onshore or offshore would not necessarily be accepted as legal tender in any country (Greek euro banknotes, like all euro notes, are denominated by country of origin).

The ECB and commercial banks may no longer accept these as convertible. In other words, the Greek government and deposit holders would not necessarily be able to convert these assets into other currencies.

Moreover, a default and departure from the eurozone would be mired in legal and financial complexity, given the myriad claims of those holding both domestic and international contracts with Greece denominated in euro. This would be a minefield that would take decades to unravel.

It is also worth noting that no legal mechanism exists currently that would allow an EU member country to depart the eurozone.

Moreover, there is something few in the punditocracy have mentioned: even if Tsipras chose this option, the Greek economic bureaucracy, together with the banking and finance sector, would press hard for Syriza to avoid this course of action, as they are fully aware of the chaos such an outcome would produce. Never underestimate the influence of powerful economic interests.

A third scenario is a ‘slow exit’. Irrespective of election outcome, Greece could be pushed inexorably out of the eurozone door over the next 12-24 months. In the meantime, the remaining eurozone members would build their firewalls around bank refinancing, ECB debt mutualisation and debt moratoriums.

Likelihood: medium. A Syriza win would have accelerated this process. Tsipras would need to tear up the bailout agreement, and the troika could freeze Greece out gradually on the basis of failing to meet strict conditionalities imposed under the austerity regime. To mutualise debt, the ECB’s charter would require amendments (it cannot bear responsibility for sovereign debt, currently), and Germany – vigorously opposed to debt mutualisation – would need to agree to this.

Scenario number four is that Greece remains in the eurozone; an EU 'growth pact' is negotiated; Germany softens austerity conditions for the PIIGS and the eurozone in general; and the ECB mutualises debt.

Likelihood: fairly likely. Much like scenario number three, ECB debt mutualisation is Europe’s "nuclear option” to relieve private banks of default risks. If the ECB buys sovereign debt bonds from current holders, it takes bad loans off bank balance sheets, while the ECB, in effect, prints euros to finance the debt bond purchases. It lowers the cost of borrowing (i.e., future debt issues) for eurozone countries as the ECB, rather than private lenders, becomes the main buyer. The ECB becomes the lender of last resort – but eurozone-wide legislation would need to be in place to ensure debtors are compelled to amortise debt and repay the central bank.

But as my colleague and fake Wolfson Prize winner, Yanis Varoufakis, argued in his Conversation article on Sunday, bargaining between the eurozone partners to achieve workable, growth-oriented solutions is the preferable outcome. Austerity alone will only freeze European – and global – economic growth; or, more ominously, send the world economy backwards.

Debt reduction is important; fiscal discipline is important; but it needs to be matched with multilateral action across the eurozone and the G20 to achieve fiscal and financial stabilisation via the introduction of practical, achievable growth pacts that encourage business investment and create jobs.

This is as critical in the US and Japan as it is in Europe. If the US, Europe and Japan remain in low, zero or negative growth trajectories, then China will also be in deep trouble. Beggar-thy-neighbour policies will not work in a recessed world economy; only multilateral solutions will work. Rebooting the stalled Doha Round of World Trade Organisation talks to give a supply-side shock to global trade might be a good place to start.

Tsipras is right about at least one thing: this is not just a Greek problem; this is a Europe-wide problem. The real question is, which ‘nuclear option’ will Europe choose?

Remy Davison is a senior lecturer in international relations at Monash University.

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