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A Greek Tragedy Unfolds

The next tranche of international support for the beleaguered Greek economy is due, with Friday being the deadline for banks and other private sector holders of Greek sovereign debt to participate in the bail-out plan by agreeing to exchange or roll over their bond-holdings for up to 10 years. Without this private sector support, the €8bn of aid from the IMF and European Union will be blocked.

But investor and government concerns are mounting on whether the country can meet the conditions set to qualify for the loans, resulting in Greek one year bond yields rising to a record 82.1 per cent this week.

Growth is turning out lower than expected and the government seems incapable of implementing the promised privatisations and crack-down on tax evasion. Certain members of the government do appear to recognise the danger of the game they are playing. Reuters reports Greek Finance Minister Evangelos Venizelos telling reporters, ‘We are in the middle of a peculiar war — if we lose, we lose everything… If we don’t complete structural reforms, if we don’t change the way the state and the economy work, we will be stuck.’ 

Meanwhile the Greek people are protesting against the austerity being imposed on the country – perhaps without understanding the full implications of defaulting, being kicked out of the euro – or even choosing to leave, which many of them would probably vote for if given such an opportunity. 

A similar situation is developing in Italy, with the centre-right government promising to hike value-added tax and pass an austerity budget, but only after massive market pressure on its bonds, and against the will of the people who are striking and protesting on the streets against the austerity measures.

Without support, Greece is facing imminent default – hence the escalation in bond yields. Many argue that from an economic standpoint the only way to provide adequate long-term and credible support is to introduce a Eurobond, and co-ordinate fiscal policy across the whole of the EU. But there simply isn’t political appetite from voters in the creditor nations for fiscal integration to bail out the deficit nations.

About two thirds of Germans are already opposed to the current bailout plans and even Christian Wulff, German President and a member of the ruling coalition government, has warned that the ECB’s purchase of Italian and Spanish bonds is striking at the ‘very core’ of democracy.

Other creditors, most noticeably the Finns, have already refused to back any further Greek bailouts unless the country provides collateral and after a meeting in Helsinki this week, Reuters quoted European Union President Herman Van Rompuy as saying that Europe’s failure to find a solution to the Finnish demands puts the ‘credibility of the euro area and each of its member states at stake.’ 

Meanwhile, German euro sceptics this week went to Germany’s Constitutional Court with a series of lawsuits aimed at blocking German participation in the bailout packages for Greece and other euro zone countries. The Court rejected the case, but did rule that the German government must seek the approval of parliament’s budget committee before granting such aid in future, a requirement which could further slow down Europe’s response to the debt crisis.

Other lawmakers in Chancellor Merkel’s own party have gone so far as to call for Greece’s ejection from the 17-nation currency area. Until recently such a call would have been unthinkable, but pressure is growing, within Germany and also within the investor community, for just such action.

Of course, the big question for investors contemplating the possibility of an end to the 17 nation eurozone is whether the currency union is more likely to be revamped through kicking out certain deficit nations, or the voluntary departure of certain creditor nations. In the former case all euro assets are a buy and in the latter case they are a sell. This is a debate that is likely to rage increasingly fiercely for the remainder of this year, with profound consequences for the European banks and their investors.