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Greece: What’s Next?

More Greece today [deep sigh].  

I’m getting a lot of emails on Greece in the last few days so here are some brief thoughts on where things are likely headed and how some of this might play out. Of course, there is a huge amount of uncertainty involved in all of this, but here’s a pretty rough outline.

The rest of this week is filled with uncertainty.

  1. Greece will default on their $1.6B loan to the IMF on Tuesday June 30th. This isn’t a huge deal in the grand scheme of things.
  2. The remainder of the week will likely see an increase in capital controls inside of Greece. Greek citizens could grow increasingly upset with the Syriza government as their lives are being thrown into substantial turmoil as a result of the recent events.
  3. The referendum vote to accept the bailout terms on Sunday will decide the direction going forward. If the public votes yes then we should see an easing in the tension. If the vote is a no then we could be setting the table for Grexit.  So far, polls are showing that Greeks will vote yes, but a lot can change in the next few days.

If we get a “Yes” vote then tensions will ease.

  1. A yes vote on the referendum will likely ease tensions and put European creditors back in the driver’s seat.
  2. A yes vote will be very awkward for the Tsipras parliament. It could even be enough to force a new government. This would clearly be very bullish as a new government would likely be more agreeable to creditor terms than the current government.
  3. This also kicks the can on Greece, however and means that we will likely see a short-term agreement (possibility into late 2015) and then a longer-term agreement into 2016. So, Greece, goes away for now, but is likely to emerge later given that none of this will actually solve Greece’s economic problems.

If we get a “No” vote then things get interesting.  

  1. A no vote on Sunday would embolden the Tsipras government and put the European creditors at a disadvantaged negotiating position.  This will likely increase tensions and could make matters worse.
  2. A no vote could be viewed as a Grexit vote. The reason this increases odds of a Grexit is because it means that the ECB is unlikely to support Greece’s banking system in the short-term assuming a bailout package isn’t agreed to beforehand. This increases the odds that Greece will default on the ECB on July 20th. By this time it’s hard to imagine that the Greek banking system won’t be entirely insolvent. This would be a nightmare in the medium term and would likely force the Tsipras government to respond. If they bring back the Drachma they will breach the treaty and all bets are off.

What’s it mean for the financial markets?

  1. The Greek economy is tiny at just 2% of Eurozone GDP. Additionally, Greek debt is about $240B and is mostly held by other governments. So, devaluation of Greek debt isn’t exactly a Lehman 2.0.
  2. Further, the ECB must be preparing for a worst case scenario. This means that OMT funding, swap lines, collateral relaxation, etc are all going to be in place. So a broad banking panic is very unlikely here. The ECB is screwing Greece, not all of Europe.
  3. Given our two major scenarios here the financial markets will most likely prefer a yes outcome at this time. That would increase the odds that the global economy just gets back to what was happening before this nonsense started this past weekend.
  4. If we get a no vote then things will get very uncertain for the short-term. Peripheral yields could blow out, stocks could fall further, the Euro will rally further (as it’s seen as being stronger without Greece) and Bunds and T-Bonds will rally.

In the end, I have a feeling we’ll look back at this couple of weeks and wonder what all the fuss was about. After all, even in a worst case scenario Greece isn’t going to blow up the global economy. In fact, a Grexit might just be good news in the long-term. It will mean that the global financial markets aren’t being held hostage by an economy of relative insignificance. As I’ve mentioned previously, this also increases the odds of further contagion and other exits, but that would take years to play out in all likelihood and I wouldn’t bet on that being a high probability outcome….My guess is European leaders will draw the line at a Grexit even if they allow that to take place.