Greece has closed its banks until July 6 and put capital controls in place after the government announced a July 5 referendum on the latest bailout plan extended by euro-area finance ministers and said it would recommend rejecting the deal. This amounts to the Greek government putting the choice to stay with the Euro currency up to a popular vote. Greece’s first set of debt obligations that may go into default are due to the International Monetary Fund on June 30. Note that the referendum is not set until the Sunday following.
Will Greece Leave the Euro?
If the referendum goes ahead and the Greek people accept the terms of the bailout (recent opinion polls point to this as a likely outcome), the Greek government has said it will abide by the wishes of voters. Given the austerity being asked for by Europe, it is difficult to see how the government can carry on in these circumstances. Greece’s creditors have already stated that they would have no confidence in the government’s ability to implement the required reforms.
Is it really a worst case scenario for Greece to exit the Eurozone?
It may actually be the best solution for both Greece and the rest of Europe in the long run. Greece would likely suffer from high inflation, a weakened currency, and a rattled financial system at first. However, once its currency stabilized and it started its own form of quantitative easing, all without the strict bailout rules currently in place, it could slowly put its economic and financial system back together.
While most of Greece’s external debt is held by the International Monetary Fund and the European Central Bank, very little is held by the private sector, all of which should be manageable in the case of a Greek default. The peripheral countries are in much better shape than they were several years ago, mitigating any signs of potential contagion.
In conclusion
The rest of the periphery is likely to come under slight pressure, but the region has the tools—in the form of the European Stability Mechanism (ESM), ECB quantitative easing (QE) and Outright Monetary Transactions (OMTs)—to prevent volatility from spiraling out of control.
At our recent client update event, Scott Kubie, Chief Strategist with CLS Investments, likened a potential Greek default’s impact on the euro-zone to that of the city of Detroit’s bankruptcy impact on the total US economy. While he did note the relationship is not an exact corollary, he mentioned that the key would be for Europe to contain any possible contagion. And while he would expect some market volatility in Europe, he would also view this as a short-term buying opportunity.
Please be sure to reach out to us with any questions or concerns you may have, or if you believe an adjustment to your financial plan is warranted.
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Alliance Bernstein: “Greek Moves Test ECB Resolve on Europe”
CLS Investments Weekly Market Review June 23, 2014
