How Will a Greek Default Affect You?

As things go in Europe, the prospect of a Greek default is becoming likelier by the day.

Although French President Nicolas Sarkozy and German Chancellor Angela Merkel will make a joint statement about Greece later today, this will be just one more development among many that may not prevent a Greek default.

To recap, the issue was that Greece borrowed too much and fudged their numbers to Europe. OK, I’ll be less PC here…they lied.

Because of their fudged numbers were found out too late, their debt overhang was already unsustainable.

In May 2010, the Greek government deficit was estimated to be 13.6% – one of the highest in the world relative to GDP. Greek government debt was estimated at €216 billion in January 2010.

Unlike countries like Japan and Italy, with high debt to GDP ratios, most of Greece’s debts were owed to foreigners, making them more vulnerable to demands for higher interest.

Attempts at austerity did not resolve Greece’s situation or lead to a recovery, all they did was contract the economy. Higher taxes, reduction of pensions, sales of state-owned assets and wholesale furloughs and firings of state workers did nothing to help.

Despite a rescue package of €110 billion, Greece is still mortally wounded and together with Ireland, Spain, Italy and Portugal, run the risk of destroying the Euro project.

As it stands, few economists give out any hope that Greece can avoid default. The stronger countries in the EU (e.g., Germany, the UK and the Scandanavians) are becoming less and less willing to spend money to rescue a hapless Greece.

One likely outcome is that Greece will crash out of the Euro. If it happens, it will occur suddenly, announced on a weekend – giving the Greeks no time to withdraw money from their bank accounts – which will instantly be denominated in drachmas.

With drachmas, the country would now be free to devalue their currency, which they currently cannot do, as they don’t exclusively own the Euro.

With a devalued drachma, Greece can now follow the normal path of bankrupt countries, making their exports cheaper, imports more expensive, and lowering (hopefully, temporarily) their living standards.

Greeks in all walks of life, I’m sure, are holding Euros and dollars in their mattresses as default and potential expulsion from the Eurozone looms.

How Will You Be Affected?

Here in the U.S., we will experience the impact of default if cutting off the diseased limb (Greece) does not stem the disease. This is the ‘contagion’ that economists talk about.

What this means is that confidence in the Eurozone might decline and other PIIGS countries targeted. If Europe goes into a slump, it is likely to lead to a wordwide recession.

This might be one reason the Chinese are talking today with Italy about buying their debt, in an effort to firewall Greece and prevent one of their larger markets from going back into recession.

If the EU had been really dispassionate about Greece, they should have been dropped from the zone long ago, or their rescue fully backed.

Instead Europe dithered, helping here and sounding discouraged there, hoping to do the minimum to rescue the failed Greek economy.

Personally, I believe Greece is in an economic death spiral and cannot be saved. I could be proved wrong, but time will tell.

The only hope is that it does not take Europe an the rest of the world economy down with it.

Tags: crisis, debt, default, economy, Greece, Greek, Merkel, Papandrieu, PIIGS, recession, Sarkozy

Category: News and Opinion