Story Of The Week

The ‘Greece Crisis’ Explained

Barred banks, capital controls, first IMF default by a developed nation, plans for a hastened referendum- the Greece drama seems to be getting more dramatic with each minute. In this article, we explain the entire Greece crisis.

How did Greece get here?

  • When Greece joined the Euro zone in 2001, it didn’t actually qualify for such an entrance. To enter the Euro zone certain economic conditions have to be met and in 2004, Greece government admitted to under-reporting the country’s budget deficit figures between 2000 and 2003.
  • By the end of 2009, Eurostat (the European Statistics agency) noted that the numbers for GDP growth, budget deficit and the public debt were all flawed and worse than originally anticipated. For 2009, the revised calculations showed that the deficit was 15% of the GDP and the government debt was 130% of the GDP.
  • With the indications of a possible sovereign default, credit rating agencies downgraded the Greek government debt to junk bond status. The government bond yields increased excessively and the private capital lending market was no longer accessible as a source of funding for Greece.
  • In May 2010, in order to avoid a sovereign default and cover Greece’s financial needs, the European Commission, European Central Bank (ECB) and International Monetary Fund (IMF), together called the Troika, gave a €110 billion bailout loan to Greece. This was conditional on implementation of fiscal consolidation measures, also known as the austerity measures.

What Followed

  • The new austerity measures lead to massive protests and social unrest in the country.
  • In 2011, with the country deep in recession, a second bailout worth €130 billion was agreed upon. This included a write-down on the value of Greek government bonds to lighten the country’s debt burden. At this stage, Greece had received two bailouts worth €240 billion. This was accompanied with an increasing number of austerity measures- deep budget cuts and steep tax increases.
  • Due to a government structural surplus in 2013 and 2014, and return of a positive economic growth in 2014, Greece regained access to the private lending market, with the issue of €3 billion Eurobonds.
  • This positive sentiment turned out to be pre-mature and the uncertain political environment set the stage for ensuing crisis. In December 2014, following a snap parliamentary election, the Syriza-led government was formed. New Prime Minister Alexis Tsipras vowed to end the tough austerity measures. In February 2015, Euro zone finance ministers approved a four-month bailout extension for Greece.
  • Tortuous negotiations followed and on 30th June 2015, Greece’s international bailout expired and the country also effectively defaulted on a €1.5 billion debt repayment to the International Monetary Fund.

Though Greece has received billions in bailout, but still the country is in a crisis. This is because the money received from the bailouts mainly goes towards paying off Greece’s international loans, rather than making its way into the economy. The government still has a huge debt load that it cannot begin to pay unless a recovery takes hold.

Many economists, and many Greeks, blame the austerity measures for much of the country’s continuing problems. But the country’s exasperated creditors blame the government for failing to conduct the economic overhauls required under its bailout agreement.

What’s currently happening in Greece

  • Capital controls – On 28th June, the European Central Bank (ECB) capped its emergency credit line for Greek banks at €89 billion. This means that ECB declined to increase the life support it had been feeding to the banks to keep them alive. In response, the Greek government had to impose temporary capital controls in order to keep the country’s financial system afloat.

Capital controls include any measures that keep money in the financial system- such as forced bank holidays, imposing a surcharge on transactions, and stopping people from making big withdrawals. Greece ordered closure of banks for about a week and restricted cash withdrawals from ATMs at 60 Euros per day.

  • The Referendum– Greece’s creditors had asked for reforms in exchange for extending the country’s bailout deal until November. But when negotiations between the government and the creditors collapsed last week, the extension was refused and the bailout ended as scheduled on June 30. So technically, Greeks are being asked to vote on an offer which is no longer on the table. The government says the bailout terms are unacceptable but cannot simply be rejected without the Greek people having their say. They have been asked to vote “yes” or “no” on whether they support an EU bailout deal that would grant the country money in exchange for spending cuts and other reforms. The coalition government, led by the incumbent party Syriza are campaigning for a “no” vote.

Euro zone leaders are of the view that voting a “no” would mean an exit for Greece

(Grexit) from the EU but the Tsipras- led government insists a “no” vote would simply boost its negotiating hand.

What’s next?

  • Whether Greece stays in the Euro or not, the country is effectively bankrupt. European finance ministers (Euro group) said that a new bailout could be discussed only after and on the basis of the outcome of the vote.
  • After the referendum, the ECB will decide whether to increase help to Greece under its emergency liquidity assistance scheme.
  • Greece owes the ECB a 3.5 billion euro payment, the deadline for which is end of July. If this deadline is missed, it would be catastrophic for the country since ECB would then freeze emergency liquidity to the Greek banks. Greece’s banking system is being kept alive by emergency money from the ECB.
  • As for a possible Grexit, one view is that it wouldn’t be such a disaster, since Europe has put in place safeguards to limit any financial contagion to other countries. Greece is just a tiny part of the Eurozone economy and can regain financial autonomy by leaving. The other school of thought is that an exit is not so easy. The implications are not clear since nothing of this sort has ever happened before. There are no provisions for departure from the euro currency union.

The way things unfold now will decide Greece’s as well as the European Union’s future. It remains to be seen whether this Greek saga will ever reach a happy ending.

References

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4 replies »

  1. Thanks for such a informative article.It is both well structured and researched. If I may, I would like to discuss the possible happenings after today’s referendum (5th july)
    1. if people vote “yes” , it means they agree with EU and the harsher austerity condition they want to put on Greece and in turn help them to avoid being 1st developed economy to default on its debt by providing them both with new timeline to repay and fresh credit. My question here is does it not affect the sovereignty of the nation ?The Elected Alexis Tsipras Government will loose both its credibility and decision making power. (We can very easily co relate this with Indian federal system in which Centre posses most of the powers and State Governments generally have to mould their policies around the vision of Centre government,mainly due to financial dependency on centre.

    2. If people admit that EU is being too unreasonable now and voted for “NO”, then what would be possible consequences for it. Will Alexis Tsipras Government take it as support that he was looking for and start pitching in more aggressively and bring Back the EU to talking table or Will it be the beginning of much talked And hyped “GREXIT”. And if if Greece decides to leave/forced to leave Euro zone and their currency euro,what possible impact it will have on the Europe’s and world Economy.Will they go back to their old currency (drachma) or they devise some new currency and impact to Grexit to other alienating nations of Euro zone.Read-(Rest of PIGS nations)

    Fell free to correct me where I stand misinformed and hope to have the fruitful discussion.

    YUVRAJ SINGH
    2015-2017,
    PGDM,section C

    • Thanks for the appreciation Yuvraj.
      As for the result of today’s referendum, analysts across the world are trying to decipher the answer to what will happen next. A few of the views are-
      1. If we suppose that the result is a “yes”, then as you said, the elected government would lose its power. It would be almost impossible for the government to continue as-is since the current government was formed on an anti- austerity campaign. The finance minister Yanis Varoufakis has said that he will step down in case the vote is a ”yes” and the Prime Minister has also hinted at a similar thing. One possibility is that new elections might be held. The new government would have to re-launch talks about a new rescue package with the Eurogroup. However, it is still not clear whether fresh elections will be held since that would be a time taking process and without financial assistance, Greece will surely go bankrupt. So it for the ECB to decide whether it will increase the credit line for the Greek banks.
      2. If the vote is a ”no”, there are a number of scenarios. Some Eurozone officials say that it would jeopardize Greece’s position in the Euro Zone. Others say that the country could stay in the Euro even in case of a no vote.
      The creditors say that it could be the end of negotiations. That in turn would mean the end of financial support for the country. A Grexit would mean that banks become insolvent. The country would face increasing pressure to start printing its own money. That’s because Greek banks would soon be unable to meet European Central Bank demands for the collateral needed to keep access to Emergency Liquidity Assistance, and the Greek government would run out of cash to pay its bills and workers.
      Consequently, Greece would have to introduce independent Greek currency, perhaps the drachma. Greece might convert its euro debts into debts denominated in drachmas, allowing the country to pay those debts off.

      As for the contagion, borrowing costs would creep up for Italy, Spain and Portugal, but the fact that the ECB is already buying their bonds and has promised to buy as many as it takes to keep their interest rates low means they shouldn’t rise that much.

      Hope your questions have been answered and thanks for taking the discussion forward.

  2. A ‘NO’ reply could entail a lot of scenarios as mentioned already in this highly informative article, but the truth is, none of us know exactly what impact this could have on the global scale if Greece were to get detached from the EU, and thus, the Euro. This is because such an event has never occurred before and it would take us time to analyze and come to an exact list of repercussions following such an event.

  3. Also, just to mention the impact of a “Grexit” on India, Mr. Raghuram Rajan has said that India is in a good position to withstand the shocks of such an event. It would obviously get affected to a certain extent, but that would more or less be short term.

    Just to mention a few positives for India should a Grexit occur:

    1) Global oil prices fell below $60 today and this is good for a heavily oil importing nation like India.
    2) Stock prices would fall initially and this could lead to more investment in equity as people would buy more quality stocks and accumulate them.