Is Greece just the first domino to fall?

By John Stepek

published 9 July 2015

in Features

If Greece tumbles out of the euro, no amount of printed money can save us, says John Stepek.

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uerto Rico is an American territory in the Caribbean. It has outstanding debt of $72bn. Now the island's governor has said that it can't pay up. There are parallels with Greece, notes Matthew Yglesias on vox.com: "A poor government was tied up with a larger and richer one." This enabled the poor government to borrow heavily from "short-sighted lenders", but it didn't spend the money very wisely.The financial crisis hit and "now the bill is coming due".

China's recent stockmarket plunge has been precipitous and scary for those involved. One reason for the government's recent focus on the stockmarket is to try to offset the deflating house bubble and, as John Plender notes in the Financial Times, to help recapitalise the banking sector. Shvets and Seth draw parallels with the Greek and Puerto Rican crises, arguing that, like those countries, China's economy has serious structural problems.

China and Puerto Rico have their problems but they look containable. Greece, on the other hand, may well be different. If anything is going to rattle investors' faith, it's this. Here's why. In democracies across the world, from the UK to the US to Japan, the job of "saving" national economies has been handed to central banks. Decisions on redistributing wealth fiscal policy are meant to be made by our elected politicians not unelected officials such as central bankers.

But central bankers' policies since the crisis have been hugely re-distributional, and in a way that politicians would probably find hard to get past a voting public. Printing money favours those who own assets, those with huge debts, and those who can still access credit at a time when banks are cagey about lending in other words, mainly the rich. That's exacerbated the inequalities that people are up in arms about soaring property prices, for example. As yet, electorates have gone along with it. They don't see any other option, and many, of course, are beneficiaries there can't be all that many mortgage holders in the UK who are genuinely annoyed at the Bank of England for keeping interest rates at record lows for this long.

However, Greece's big problem is that it doesn't control its own monetary policy. And it has very explicitly been excluded from the largesse of central bankers because it refuses to make huge sacrifices in order to do what most developed countries have also failed to do get its books in some sort of order. Within Europe, the European Central Bank (ECB) has printed money and bought the debt of other nations whose debt dynamics are not much better than those of Greece. This is a political decision, not an economic one.

The Greeks have now been given until Sunday to capitulate. At that point, European Union leaders will make their decision if no resolution is found, the ECB will pull the plug on Greek banks. After that, Grexit is a matter of time (see page 6). That in turn will make it clear to markets and more importantly, to voters that eurozone membership is not irrevocable. In fact, you can only rely on ongoing membership for as long as your elected leaders agree to toe the eurozone line. So what happens when voters in France, or Spain, or Italy, decide to vote in a rebel party, one that doesn't appreciate having economic policy and monetary policy dictated by an external body that doesn't always act in the best interests of their nation?

This isn't the fault of the Greeks or the Germans. It's the inevitable result of tying entirely different economies and cultures together under one currency. As far back as 1997, German political adviser Arnulf Baring said: "The Monetary Union will boil down to a gigantic extortion scheme One day [German taxpayers] will say we have to bankroll the loafers who enjoy the easy life in cafs on southern beaches' When we dare to call for more monetary discipline, the profligate countries will claim that such containment is responsible for their financial difficulties, and they will blame us for it This way we risk again becoming the most hated people in Europe."

The Greek crisis itself might not cause a systemic breakdown in the financial system alone. But the fracturing of the rest of the eurozone and the demise of the euro would. When that happens, central banks across the globe will be left wondering what to do. And money printing might no longer be sufficient to contain the panic. As William Hague put it in The Daily Telegraph, when future generations look back on this period, "their textbook is likely to say that the Greek debacle of 2015 was not the end of the euro crisis, but its real beginning".

The problem with all of these events, as always, is timing. The break-up of the euro would be traumatic for markets, but even if Greece leaves the eurozone, it will take time to play out. The market will watch the political situation in the peripheral economies, and the first signs of trouble will be bond yields diverging sharply from those of Germany there have been signs, for example, of Portuguese and Italian "spreads" creeping slowly higher in recent months as a Greek exit has become more likely.

John Stepek is a senior reporter at Bloomberg News and a former editor of MoneyWeek magazine. He graduated from Strathclyde University with a degree in psychology in 1996 and has always been fascinated by the gap between the way the market works in theory and the way it works in practice, and by how our deep-rooted instincts work against our best interests as investors.

He started out in journalism by writing articles about the specific business challenges facing family firms. In 2003, he took a job on the finance desk of Teletext, where he spent two years covering the markets and breaking financial news.

His work has been published in Families in Business, Shares magazine, Spear's Magazine, The Sunday Times, and The Spectator among others. He has also appeared as an expert commentator on BBC Radio 4's Today programme, BBC Radio Scotland, Newsnight, Daily Politics and Bloomberg. His first book, on contrarian investing, The Sceptical Investor, was released in March 2019. You can follow John on Twitter at @john_stepek.