Monday, May 21, 2012

A Canadian's roadmap for Greek struggles

A small state within a federation of states believe it's getting a raw deal. A charismatic leader emerges who tells the population of the small state that he has a solution that relieves them of the burden, but get the benefits of the federation at the same time.

Greece? Well, sort of. In Canada, we went through a similar experience with the Quebec sovereigntist movements, culminating in the referendum of 1980 and a second one in 1995. If that is a road map for the political struggles that we see in Greece today, then consider what happened in the Canadian experience.

In the Quebec case, the sovereigntist message was, "We can have our own country, our own culture and at the same time have the economic benefits of Canada as well." The reasoning went something like this. If Quebec were to separate, Canada would have no choice but to enter into some sort of economic association with Quebec, as the economies are so intricately connected with each other. Quebec would even use the Canadian Dollar as its currency (a bad idea given the eurozone experience of not having control of your own monetary policy, but they didn't know that then). Canada has always allowed dual citizenship, so Quebec citizens could retain their Canadian citizenship, so what's the big deal?

It was a seductive message, just as Syriza's message is today to Greeks. Default, but stay within the euro. What can they do to us?

Expect a carrot and stick
Here's what to expect. From the Canadian federalist (anti-separation) side, there were two messages, one offering a carrot and the other a stick. There was the tough talk about the dire consequences of what happens if Quebec were to leave. You're either in or out. Don't expect a sweet deal, or any deal on economic association if you were to leave. For example, there was some dispute of how much of Canada's national debt Quebec were to assume if it were to become a separate country. I can recall that Diane Francis of the conservative National Post suggesting that Canada should unilaterally separate Government of Canada bonds and notes by a set amount and declare a portion to be Quebec's obligation.

Already, we are seeing signs of this tough talk of a stark choice as Angela Merkel appears to be suggesting that Greece hold a referendum on euro membership, which most Greeks are in favor. Johann Rupert, the head of the Swiss-based luxury goods maker Richemont, chimed in on how Greeks should adjust their expectations:
You cannot work 35 hours a week, want to retire by 50 with full pension, have eight weeks of holiday and expect to be bailed out by people who work their butts off either in northern Europe or in China. Life does not work like that.

Michalis Chrysohoidis, the minister of Citizen Proection in the former Greek government, warned of civil war should Greece exit the euro:
An outgoing Greek minister warned that the country could descend into “civil war” amid the chaos of a euro exit. “If Greece cannot meet its obligations and serve its debt the pain will be great,” Michalis Chrysohoidis was quoted as telling a local radio station. “What will prevail are armed gangs with Kalashnikovs and which one has the greatest number of Kalashnikovs will count … we will end up in civil war.”
On the other hand, you will have a group with a soothing message of what you would get if you were to remain with the federation. You have Merkel-Hollande sounding conciliatory to Greece in their first meeting [emphasis added]:
German Chancellor Angela Merkel and French President Francois Hollande said they would consider measures to spur economic growth in Greece as long as voters there committed to the austerity demanded to stay in the euro.

Requests for measures to bolster growth will be “considered” and the European Union may also “approach Greece with proposals,” Merkel said late yesterday at a joint press conference with Hollande during his first official visit to Berlin. “Greece can stay in the euro area,” and “Greek citizens will be voting on exactly that.”
Notice the carrot and stick in their statements.

Even the hardline Germans appear to be bending a bit, both on inflation, which indicate easier monetary policy, and higher wages in Germany, which boost German demand and lessens the burden to take all of the the adjustments through austerity programs:
The Bundesbank, the most hawkish of central banks, has signalled it would accept higher inflation in Germany as part of an economic rebalancing in the eurozone that would boost the international competitiveness of countries worst-hit by the region’s debt crisis.

A future German inflation rate above the eurozone average could be part of a natural adjustment process as crisis-hit countries pulled themselves out of recession, the Bundesbank argued in evidence to German parliamentarians submitted on Wednesday.

It followed comments at the weekend by Wolfgang Schäuble, German finance minister, backing stronger wage increases, which would boost domestic demand – benefiting other European countries exporting goods and services to Germany – but could drive German inflation rates higher.

Despite the Bundesbank’s conciliatory stance on inflation, German policy makers have been among the toughest in insisting that Greece sticks to its agreed reform programme underpinning its bailout in the aftermath of Sunday’s Greek election in which most voters rejected the plan. Speaking in Brussels, Mr Schäuble said that changing the bailout terms would unleash ‘’catastrophic uncertainty’’ in financial markets.

How will all this play out?
In Canada, both Quebec referendums on sovereignty were defeated. The first by a fairly wide margin and the second narrowly by less than 1%. Guessing the likely outcome of the Greek elections is trickier.

Bruce Krasting wrote that he has a source in Athens and recounted their recent conversation:
Athens - The results of the May election are in conflict with the people's desire to stay with the Euro.

The people voted in anger. They voted against those they had voted for in the past. Now they see whom they have elected.

Every day on TV the extreme right is interviewed. They are Nazi’s. People are frightened by this.

On the left you have Alexis Tsipras (Syriza). This man is an uneducated thug. The people understand that. They don’t want this man to be their leader.

When the next election comes, Greeks will not vote in anger and they will not vote for the idiots on the fringes. The centrist parties will rebound. A National Salvation Government will be formed.

BK - There are polls in the US press that say that Syriza will win a majority. (link)

Athens - I don’t think those polls are accurate. To me, things look much brighter today than a few weeks ago.

BK - But does it matter who wins? Can Greece be saved?

Athens - This up to Germany. Most of the debt is now with Germany and France. France’s Hollande would agree in one minute to reset the interest on the debt to zero for the next five years. If Germany agrees to do the same, there is a chance. The IMF would support Greece under these conditions. The restructured bank debt would get paid interest.

BK - Do you really believe that Greece can achieve a long-term recovery with this?

Athens - Not a chance. Everything will blow up again in less than one year.
Already, the latest polls show that New Democracy regaining the lead against Syriza:
After recent polls put Syriza in the lead, a survey Friday showed the race narrowing, giving New Democracy 23.1 percent of the vote, up from the 18.85 percent it won on May 6, with Syriza on 21 percent, up from 16.8 percent.

The Germans are becoming more conciliatory. The pro-European Greek parties are starting to gain ground. Going forward, events will be fluid and volatile, but don't get short and bet on the catastrophic scenario of a Greek exit or even default. Chances are, Europe kicks the can down the road one more time.

Cam Hui is a portfolio manager at Qwest Investment Fund Management Ltd. ("Qwest"). This article is prepared by Mr. Hui as an outside business activity. As such, Qwest does not review or approve materials presented herein. The opinions and any recommendations expressed in this blog are those of the author and do not reflect the opinions or recommendations of Qwest.
None of the information or opinions expressed in this blog constitutes a solicitation for the purchase or sale of any security or other instrument. Nothing in this article constitutes investment advice and any recommendations that may be contained herein have not been based upon a consideration of the investment objectives, financial situation or particular needs of any specific recipient. Any purchase or sale activity in any securities or other instrument should be based upon your own analysis and conclusions. Past performance is not indicative of future results. Either Qwest or Mr. Hui may hold or control long or short positions in the securities or instruments mentioned.


Anonymous said...

The Leftist elites who have dominated Greek politics for over a century
shamelessly drove their Trojan Horse into Brusselles and are now
incredulous they have been
caught. Click
and read this
to see how 1893 and 1453 were very similar.

Michele said...

An excellent analysis of the Greek tragedy. Nicely done.

Amar Harolikar said...

Hi Hui

That's really fresh perspective about the carrot and stick approach and about not underestimating the Euro area political response. The EMU very well might end up kicking the can down the road.

But then the question is - to what extent - sometime, something will have to give.

I am now starting to tend more and more towards Nouriel Roubini view and the inevitability of a Greek exit

I have done a couple of stories around Greece. Pasting one of them below :-


Greece exit: imminent now?

With the latest news that is coming in around Greece, it now seems that Greece’s exit from the European Monetary Union (EMU) is imminent.

CNBC quoting Reuters, reports that: Euro Zone Officials Agree to Prepare for Greek Exit Scenario.

“Each euro zone country will have to prepare a contingency plan for the eventuality of Greece leaving the single currency, three euro zone sources said on Wednesday, citing an agreement reached by officials. The consensus was reached on Monday afternoon during an hour-long teleconference of the Eurogroup Working Group (EWG). As well as confirmation from three euro zone officials, Reuters has seen a memo drawn up by one member state detailing some of the elements that euro zone countries should consider.”

This is in line with my argument a few days back that the latest runs on banks in Greece might very well be the beginning of the end.

So what are the bond markets saying? It almost seems as if the bond markets are ready for a Greece exit and might even be hoping that it happens! Spanish and Italian yields have been going up the past few days but are still much lower than the highs made a few months back. Of course the yields are going to rise but the fact that they have not even crossed the highs made a few months back shows that bond markets are not too worried.

It seems that Nouriel Roubini, who predicted the 2008 crisis right down to some uncanny details, seems to be getting this one right too. Roubini has been predicting a Greece exit and an eventual meltdown of EMU for a long time now. In fact, his recommendation for a long time has been that Greece Should Default and Quit the Euro.

"The recent debt exchange deal Europe offered Greece was a rip-off,"

"If you take into account the large sweeteners the plan gave to creditors, the true debt relief is close to zero."

"A return to a national currency and a sharp depreciation would quickly restore growth and competitiveness, as it did in Argentina and many other emerging markets that abandoned their currency pegs," he said.

As recent as a few months back, Roubini’s view was that Situation in Europe is a ‘Slow Motion Train Wreck’.

With the Greece re-election dates just a few weeks away, the economic and political dynamics surrounding the Eurozone are evolving at a very fast pace.

Greece has dug itself into a hole from which it is nearly impossible to emerge without a severe battering. With debt at 160% of GDP, an economy in severe recession and a quarter of the population unemployed, an exit from EMU is starting to look more and more like the best option.