The spectre of Greek contagion seems to be returning to the Eurozone. At least this is the fear that I sense by talking to financial journalists across Europe. In this interview with Jorge Nascimento Rodrigues (for EXPRESSO) I argue that: “The Euro Crisis never went away. What happened was that Mr Draghi’s skillful interventions in the summer of 2012 suppressed the crisis in the bond markets but, at the same time, pushed it deeper into the foundations of the real economy. It was inevitable that, as the crisis was wrecking these foundations (with deflationary forces, desperately low levels of private and public investment and increasing debt to GDP ratios in the Periphery), it would resurface in the bond and equity markets. It does not matter whether the trigger was Greece, Portugal or Italy. What matters is its inevitability.”
You can read the interview as published in Portuguese here, or in its original (and longer) version below.
Greek 10 year bond soars to near 9% this week, from a 5,48% low in September. The sovereign bond 52 week return index from Bloomberg went down from 60% end of august to 8.96% Thursday. The compound probability of default climb do 30-40%, with the cost of CDS 5 years above 700 basis points. What went wrong in Greece for this shift in two months?
Back in April, when the Greek state re-entered the money markets for the first time in four years, with the over-subscribed issue of 5yr bonds at a relatively low interest rate of 4.9%, I wrote an article entitled “Greece’s Grand Decoupling” with which I explained that a short-term decoupling between (i) the value Greek paper assets (bonds and equities) and (ii) Greece’s real economy was being engineered by Berlin, Frankfurt and Athens purely for propaganda purposes; to support the fiction of ‘Greek-covery’.
In short, Berlin Frankfurt and Athens were attempting to create a semblance of ‘Greek-covery’ by inflating two bubbles at once: a bubble in the market for Greece’s debt (which they created signalling to investors that Berlin and Frankfurt were standing behind these new bonds) and one in the market of the Greek banks’ shares (caused by the Central Bank of Greece’s signalling that regulators, including the ECB, would continue to turn a blind eye to the black holes on the banks’ asset books). All that has now happened is that these two bubbles burst.
The first bubble to burst was that of the Greek banks’ shares. The prick that occasioned the bursting of this bubble was the ECB’s announcement that it will not consider the Greek state’s guarantees of the banks’ deferred tax liabilities (amounting to €9 billion) as Tier 1 capital. Bank share prices collapsed, dragging down with them all equities. Soon after, the government let it be known that it is prepared to issue T-bills so as to inject these €9 billions into the banks. Markets considered this a desperate move, as an insolvent state was about to add another €9 billion to its debts on behalf of defunct banks. Meanwhile, the government’s fiction that it was about to exit its Bailout Memoramdum was put to rest by Ms Lagarde statement in Washington, and particularly her decision to speak to a Greek delegation, comprising the Finance Minister and the Governor of the Greek Central Bank, for no more than 20 minutes. These developments helped knock the stuffing out of the government’s strategy to reclaim the lead in opinion polls, especially in view of recent findings that the leftist SYRIZA party is widening its lead over the ruling conservative New Democracy.
It was this combination of events that popped Greece’s twin bubbles.
The change in the investors’ mood regarding Greece is due to a growing domestic political risk, or it is engineered by investors’ global perception of the Euro area risks regarding deflation, triple-dip recession, and “excessive optimism” in the bond market in the first nine months as the IMF said two weeks ago?
The Greek ‘dive’ must, naturally, be seen in the context of the overall, bleak situation in Europe as well as the overinflated, QE-primed, equities on the other side of the Atlantic. But, while all stock exchanges had a bad week, and pessimism has spread out far and wide, Greece is a special case in the sense that it is the only country whose bond yields are rising, while equities are plummeting. Why? Because Greek bonds had been inflated purposely by Berlin and Frankfurt in a bid to declare ‘victory’ over the Greek crisis, so as to argue that “if even insolvent Greece is doing better, the Euro Crisis must be over”.
As for “growing domestic political risk”, I suppose you mean the increased probability of a SYRIZA-led government. First, let me note that there is something amiss when the rise of a legitimate, Europeanist political party in the polls is described as “growing domestic risk”. In reality what SYRIZA’s rise presents is a “growing risk to an unsustainable bailout agreement and to the bubbles that Europe’s leadership has been creating in order to remain in denial…” Secondly, I think that the second part of your question gets the direction of causality wrong: It is not that the rise of SYRIZA is causing panic in investors and leads to a collapse of the government’s Greek-covery strategy. It is, rather, the other way round: The bursting of the Greek-covery bubble has wrecked the government’s strategy, panicked investors and, as a result, given SYRIZA a boost.
Can we talk of a current or near future “Greek contagion” in the Euro area as happened at the end of 2011?
Yes and no. The Euro Crisis never went away. What happened was that Mr Draghi’s skillful interventions in the summer of 2012 suppressed the crisis in the bond markets but, at the same time, pushed it deeper into the foundations of the real economy. It was inevitable that, as the crisis was wrecking these foundations (with deflationary forces, desperately low levels of private and public investment and increasing debt to GDP ratios in the Periphery), it would resurface in the bond and equity markets. It does not matter whether the trigger was Greece, Portugal or Italy. What matters is its inevitability.
How are the probabilities for early parliamentary elections in the first quarter of 2015? What could be the political consequences of snap elections?
I will be utterly surprised if this Parliament manages to elect a President of the Republic by next February (180 votes are needed out of 300), in which case a Parliamentary election will be called. In such an election, SYRIZA will, most probably, secure the largest number of votes but is unlikely to achieve a working majority. The worst outcome would be a protracted period of negotiations leading to a second election (which is, let me remind you, what happened in May/June 2012). My personal view on the optimal outcome is that the sooner SYRIZA forms a government, and the sooner that government re-negotiates Greece’s bailout terms and conditions, the better for Greece and for Europe. Something must end the current inertia that the powers-that-be describe as ‘stability’ and ‘recovery’ but which, in reality, are nothing more than ‘stagnation’ and the continuation of ‘extend and pretend’ at a European (not just Greek) level
Can Greece exit troika’s second bailout without a precautionary credit line as suggested last week by Madame Christine Lagarde, head of IMF? The “clean exit” has a serious probability, as the Greek government tries to convince troika and the financial markets, or it is an electoral gambit from Mr. Samaras?
It was always an electoral gambit for the purposes of drawing level with SYRIZA and painting himself as the heroic leader who, like a new Moses, will lead the nation into the Promised Land and out of… Bailoutistan. On the particular question, it really does not matter whether Greece will be granted a precautionary credit line, fall under the umbrella of Mr Draghi’s OMT, get another loan from the ESM etc. What matters is that Greece is in the clasps of a triple insolvency: an insolvent state, insolvent banks and an insolvent private sector. For four years now, these three insolvencies are being camouflaged under various credit lines that did nothing to address the problem; indeed, they only made it worse. Until and unless we have a new agreement, a new logical approach to this triple insolvency, everything Europe and the IMF do will remain in the realm of window-dressing.
ECB and the new European Commission of Mr. Juncker will due “whatever necessary” to avoid Greek exit from the Euro as in 2011 and 2012?
They would like to fulfill this promise. Except that Mr Juncker does not have the power to make a difference and the ECB’s role is severely circumscribed. The fate of Greece, and of the Eurozone, will be decided at the level of the EU Council and in the Eurogroup as a result of a political negotiation. But for the latter to happen, we need a government in Greece willing to negotiate (as opposed to beg). This is why I believe a snap election, and a decisive SYRIZA, will be good for Greece and good for Europe.