"There is no means of avoiding a final collapse of a boom brought about by credit expansion. The alternative is only whether the crisis should come sooner as a result of a voluntary abandonment of further credit expansion or later as a final and total catastrophe of the currency system involved."
- Ludwig von Mises

Thursday, January 27, 2011

Will Greece Restructure its Debt? A Tale of Two Greeks: Dimon and Papandreou

There is much discussion in Greece about a possible debt restructure, that is to say, some form of default involving senior creditor (bank) losses. From Reuters:
German EU Liberal: Greek Restructuring Must Happen
Greece should restructure its debts within a year, a prominent member of the European Parliament from Germany's junior governing partner told Reuters, saying his party would not oppose such a move.
Wolf Klinz is among the first to clearly outline the position of Germany's liberal Free Democrats (FDP) on the controversial issue of restructuring. Their coalition partners in Berlin, the center-right Christian Democrats, have played down any debt restructuring and Greece opposes it.
"Greece will not make it without restructuring," said FDP member Klinz, who chairs the European Parliament's committee examining the response to the financial crisis.
"It must be done quickly -- over the next 12 months," he told Reuters in an interview late on Tuesday.
"With a restructuring, it is important to move fast and take the initiative, rather than letting the markets get in control."
...A restructuring of Greek debt, a move viewed by some as risky as it might knock confidence in the euro zone, would see bondholders suffer losses in order to make Athens' debt pile -- approaching 150 percent of gross domestic product -- more manageable.
It could also put the FDP at odds with Chancellor Angela Merkel, who has said such a move is not being considered now.

Merkel calls the shots right now, not some German Euro Parliament member, and so far, she is opposed to such a plan.  Yet there are many in Greece that actually believe this could happen, and Greek Prime Minister George Papandreou's refusal to consider a debt restructuring is seen as foolish.

I agree, that Greece would benefit from a restructuring - what country wouldn't like to see a good chunk of its debt wiped out?  But let's be realistic here.  Just as "no man is an island" so too, is no country an island, especially in a financially interconnected world.  There are many unintended consequences that come to mind if Greece were to default, bringing to mind the Lehman Brothers and Bear Stearns contagion fiasco of 2008.

But let's be really honest here.  Who really calls the shots?  Is it not the bankers?  One only needs to look at how Ireland's crisis was handled to understand who gets rescued and who gets stuck with the bill.  The Irish Financial sector was extremely irresponsible, as were their foreign bank counterparties.  So who got rescued, and who got stuck with the bill?  The Irish banks were bailed out, which in my view was a bailout of every other counter party (UK, French, German, etc... banks) and the Irish people got stuck with the costs.

The subtitle of this post is "A Tale of Two Greeks."  Well, we know the first Greek is George Papandreou, so who is the other Greek?  It's Jamie Dimon, CEO of one of the most powerful banks in the world: JP Morgan.  From BBC News:
Davos 2011: Dimon Warns of Debt Restructuring Risk 
Forcing eurozone countries to restructure their debt would be "far too risky", the head of US bank JP Morgan Chase has warned. 
Jamie Dimon said doing so could result in banks taking losses and needing to be rescued. 
Mr Dimon was speaking on day two of the World Economic Forum in Davos. 
...Mr Dimon said: "I think Europe did the only good choice, which is to get through this crisis, because if you don't fix it here, you're going to fix it there, which is in the banking system. 
"I think that would be far too risky," he added. 
He said that allowing a eurozone debt restructuring could trigger a run on the banks, requiring governments to step in to help banks that hold eurozone debt. 
The EU has so far refused to allow Greece or the Irish Republic to default, instead providing billions of euros in emergency loans to allow them to refinance their debt. 
But there are plans for a permanent mechanism to help any eurozone nation crippled by debts to come into force in 2013, which would require private sector bondholders to share the cost of any debt restructuring on a case-by-case basis. 
Speaking separately at the forum, Greece's Prime Minister George Papandreou admitted that the question of restructuring had been raised. 
But he said: "I can say that we're not going to default. I also say we're not moving to restructuring."

So for now, I just don't see any restructuring happening.  Not unless there is a mechanism involved to shelter the European Banks from any possible fallout - after all, it's not just a sovereign debt crisis that the EU faces, but a banking crisis as well.  The fallout in the Euro banking sector,  I believe, would be severe.  See my post:  Are Euro Bailouts Really German Bank Bailouts?  But to be fair to German banks, it is not just them, but most of the European banking system that is still fragile.  My focus on the German banks was due to them having by far the highest leverage of all other European banks.  They say that the Greek government was irresponsible - but  you know what?  German banks were as well.  There is a lot  of blame to go around, and  unfortunately, the people that ultimately pay for these sins, the little people, are the most blameless.

I'm not exactly the most religious person in the world, but there is a saying that comes to mind from Matthew 5:5:

"Blessed are the meek: for they shall inherit the earth."

 Wish it were so:

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