The sight of a smartly dressed Greek man crying, slumped to the floor in despair after trudging between four banks trying to withdraw a pension on behalf of his wife, has become the symbol of the country’s despair.
It has also, in many ways, become a warning to many other countries in the euro zone: follow the path Greece has taken and your pensioners too will wait anxious and exhausted outside banks trying to access their money.
The first question on everyone’s minds is: what will happen to Greece? Will it have its debts restructured, will it leave the euro? The second question is: what happens then to other countries in Europe, in particular Portugal and Italy, which also have large debts, sluggish growth and unstable politics.
Any choice that European leaders make this week will have consequences for the euro, and the politics of E.U. member states.
“There is a possibility of political contagion, especially if the European Central Bank and the IMF come back to the table and recognize the new Greek mandate. It will be natural for other anti-austerity movements to say, well why can’t we get the same terms,” James Wood-Collins, chief executive of London-based Record Currency Management, told Handelsblatt Global Edition.
“The alternative scenario is that Greece trickles out of the euro. The interesting point to look for is if there is a chain of circumstances that dispels the idea that joining the euro zone is irreversible.”
“The situation in Greece is so unappealing that voters in Italy, Spain and Portugal will not vote in droves for it in their own country.”
As European leaders meet later on Tuesday, for yet another summit, to discuss Greece, currency traders are wondering how to react. So far things have been relatively calm. The euro had drifted down to $1.0969 on Monday, but had risen to $1.1025 on Tuesday. Stock markets too were relatively steady, given the political turmoil in Europe.
“The market reaction has been quite muted so far,” Nick Stamenkovic, a macro strategist at securities broker RIA Capital Markets in Scotland, told Handelsblatt Global Edition. “We are not in the same position as 2011 and 2012. The European Central Bank has firewalls in place, and European banks have reduced their exposure to Greece.”
Another reason markets are calm at the moment is that Greece is so tiny: it accounts for less than 2 percent of the euro zone. It can collapse into a black hole, and its impact on the world economy, at least for a week or two, would be negligible. But other countries are bigger, and only the most complacent trader could believe that Greek events will not eventually change the nature of the whole euro zone.
The two most vulnerable countries at the moment are Italy and Portugal, both of which have debt to GDP ratios of over 130 percent.
Portugal in particular, looks similar to Greece last year. It has an unpopular center-right government, losing ground in the polls to the center-left Socialist party, led by a firebrand leader Antonio Costa, who called Monday for far reaching reforms in the way the euro zone operated.
Portugal, like Greece and Ireland, had to avail of a bailout, getting loans of €78 billion ($108 billion) from the European Union and the International Monetary Fund in 2011. It successfully exited its bailout progam last year.
However, the tough austerity that it was forced to impose as a condition of the bailout is deeply unpopular.
The country will vote in October, and Mr. Costa’s Socialists, who have taken a firm anti-austerity stance, are currently enjoying strong support, currently polling at 36.9 percent.
“From an economic point of view, Portugal has the largest imbalance after Greece; weak competitiveness and a number of problems,” Antonio Roldan Mones, a London-based analyst at political risk consultancy Eurasia group, told Handelsblatt Global Edition.
“But there is a fundamental difference,” he said. “There is a full political commitment from all parties that will take part in the upcoming elections, to remain in the euro zone and do whatever it takes to stay in. Having said that, if you open the door to leaving the euro and the euro zone becomes a less credible entity, and it becomes possible to leave and possibly re-enter after devaluing, things will change.”
Portugal’s main weakness is that much of its debt, which is now over €278 billion, is held by foreign investors. If they decide to sell, spooked by a possible Socialist win in October, or the wider state of the euro zone, its economy looks shaky.
Italy, too, presents a looming problem. It makes up one sixth of the euro-zone economy and it has debts of over €2 trillion, making it the third largest sovereign bond market in the world. Unemployment is just below 13 percent and youth unemployment is over 40 percent.
Its second and third largest opposition parties have, from opposite ends of the political system, come out in favor of Greece’s decision to vote No in Sunday’s referendum.
Beppo Grillo, leader of Italy’s anti-austerity, anti-establishment Five Star Movement, wrote on his blog over the weekend that the Greek vote meant that “now Merkel and bankers will have food for thought.”
Matteo Salvini, head of the xenophobic Northern League, now the third most popular party in Italy, said the “no” vote reinforced the sovereignty of Greece.
What is clear is that the best protections a country can have against contagion is growth. Spain is a classic case. It has borne the weight of austerity measures for years, and Podemos, a movement that arose from the anti-austerity protests of 2011, organized itself into a political party in early 2014.
By January of this year, the group was polling as Spain’s most popular party, but its growth has been curtailed since then. The strong Spanish economy, now growing at around 4 percent, is partly responsible, as is the fact that Podemos has close links with Syriza and Spanish voters do not see the Greek scenario as an appealing one.
“I don’t think the Greek story helps Podemos. Even if there is a generous deal for Greece, people see the economic suffering, the bank closures. In the context of a fast growing economy I don’t think people will vote for Podemos,” said Mr. Roldan Mones.
For now, things appear calm. Many believe the real moment the euro zone was in danger was during the crisis of 2011 and 2012. Now the European Stability Mechanism has a €500 billion rescue fund and the European Central Bank has a €1 trillion quantitative easing program. It also has the ability to implement Outright Monetary Transactions or OMTs, which allow it to buy government bonds. Banks too are in better shape than they were.
Holger Schmieding, chief economist at Berenberg Bank, said the strength of the euro zone’s biggest countries helped. “This Greek crisis hits Europe at a time when core Europe is in decent shape. All signs point to economic upswing led by domestic demand. This crisis is a serious challenge but the economy can cope with it. The situation in Greece is so unappealing that voters in Italy, Spain and Portugal will not vote in droves for it in their own country,” he told Handelsblatt Global Edition.
Mr Wood-Collins argues that while the euro still has plenty of safe havens, including the German bund, to reassure investors, a Grexit will take the currency into uncharted waters. At the moment, there are no mechanisms to hedge against the possibility of a country leaving the euro, but if there is demand, companies such as his could create new products, including a type of redenomination swap that would allow funds and companies to hedge their exposure to the euro.
He cites an example of an Italian manufacturer, that may hold all its assets domestically but have a euro-demoninated debts. If Italy were to leave the euro zone and reintroduce the lira, the debts would weigh heavily on the balance sheets against a weaker lira. A swap would allow the company to link up with another entity, say an Italian pension fund whose liabilities are to Italian pensioners but which holds euro investments, which would like to swap out its Italian liabilities.
“That is a class of instrument people were talking about three or four years ago. It didn’t take off at that stage as banks struggled to get people interested in both sides. If Greece leaves the euro zone, the risks of other countries becomes more real and we may well see demand for those instruments return. Then we have a market mechanism that puts a price on the likelihood of a country leaving. This creates a parallel interest rate market that will provide an indication as to how people perceive risks,” he said.
European leaders are well aware that markets will create parallel currencies if the euro appears unsustainable. One of the best ways to stop this happening is to create a proper fiscal union, with common insurance funds to protect banking deposits, and for countries to more closely align their welfare states and social policies. The heads of all the main E.U. institutions including the European Commission and ECB have already published a document calling for this new level of integration. The chaos in Greece may, unexpectedly strengthen their hand.
“Even if Greece leaves the single currency, it may actually increase the prospect of further integration in the euro, with France and Germany pushing for more integration,” said RIA Capital’s Mr. Stamenkovic. “I can see a scenario where euro-zone countries push for banking integration and political integration, to stop this happening again in the future.”
Meera Selva is an editor with Handelsblatt Global Edition and has covered economics and politics in Britain, Africa and Berlin. To contact the author: firstname.lastname@example.org