Lately, the biggest news in the financial world is centered on Greece. What does the future hold for the country and the European Union? Let’s go through history and come to the present day.
Greece has been in some kind of financial straits for 90 of the past 200 years. It is a financial basket case. In 2002, the Greek government received a bailout. This bailout has kept the country afloat but some issues still remained. The issues are a) pensions and b) government wages. The Greek economy is heavily dependent on tourism. Without other industries, tourism can only carry the economy so far. When pensions and government wages are more than the country takes in taxes, any government will go broke at some point.
In short, pension payments are stripping the treasury. The pension beneficiaries want “their” money that is “owed” to them. The money was promised to them as part of government service. However, government promises can be broken. The Greek government wants to do two things – keep the pension payments to secure the pensioner votes and kick the can some more. But in order to keep the pension payments going and the banking system working, Greece needs an infusion of cash via bailouts.
Think of the pensioners as “creditors” and the government as the “debtor” as an example. The European Central Bank (ECB) and the International Monetary Fund (IMF) are providing income to Greece through loans. In this case, the debtor cannot pay its creditors without sufficient income. If there is not enough income, the debtor can borrow as much as possible but interest payments have to be made to the banks. Unlike the US, Greece can’t print money to pay its creditors and bankers.
Today, Greece technically defaulted on its debt to the IMF. While there is a call for a referendum on accepting creditors’ terms of extending the bailout. A “Yes” vote means that the Greek government will have to accept austerity measures. A “No” vote means that the people say no to austerity.
If the Greeks vote no on the referendum, it could mean that Greece decides to leave the European Union (EU). While some may think the EU is a monetary union by the use of a common currency, the EU is a political union first. This is a very important point. There are no formal mechanisms where a member can leave the union. But that will not stop Greece from leaving if that is the last resort.
I’m not concerned if Greece votes to accept austerity, but if the Greeks vote no and trigger a possible exit from the union, this action would be the first crack in the union. After Greece exits the union, the next 18 months would be tough on Greece. New drachmas would be printed and that would become the new currency in Greece with a floating exchange rate with the Euro.
What concerns Brussels and Germany after a Greek exit are the following countries: Italy, Spain, Portugal, and France. If these four countries follow Greece’s lead, then Europe becomes divided along North / South lines. Sounds familiar, right?
The referendum will be watched on both sides of the Atlantic. If Greece exits, I see a lot of turmoil ahead first in Europe, and then over here in the US. Be watchful.