Download Greece: near the tipping point

Greece: near the tipping point
6 July 2015
Economics
Greece: near the tipping point
DBS Group Research
6 July 2015
• Despite Sunday’s ‘no’ vote, Grexit is not a foregone conclusion
• ECB’s decision on emergency funding is the next crucial catalyst for the
Greece crisis
• Bulk of the Greek debt is held by euro-area governments, with the
private sector exposure on the decline since 2008/09
• Bearish EUR view is intact and reinforced; risk aversion over Grexit
risks is reflected by weaker yen crosses
Sunday’s referendum kicked up more dust in its wake. Contrary to expectations
of a close vote, a strong 60% of Greeks rejected the tough bailout terms proposed by the country’s main creditors. The result was a shot in the arm for the
anti-austerity Syriza government, which had campaigned for a ‘no’ vote in the
run-up to the referendum. Surprisingly, however, the Greek Finance Minister
Yanis Varoufakis stepped down on Monday.
In the immediate-term, the Greek government will meet with its central bank
and other commercial banks to discuss the domestic liquidity situation. Here,
the European Central Bank’s (ECB) decision on the Emergency Liquidity Assistance (ELA) for Greek banks will be crucial (Chart 1).
A decision to immediately freeze the ELA facility will put the Greek banking
system in jeopardy. Other restrictions may include plans to seek deeper haircuts
on Greek bank collaterals, which are presently used to tap the ELA funding
line.
An extreme reaction is unlikely for now. The ECB is likely to allow banks to
access existing funds contingent on another round of negotiations, but reject
calls for an increase in the ceiling. This puts the Greek government’s decision
Chart 1: Greek corporate and households' deposits vs ECB ELA
EUR bn
160
140
120
100
Greek corporates and households deposits
ECB's
ELA
ceiling
80
60
40
Jan-15
Feb-15
Radhika Rao • (65) 6878-5282 • [email protected]
Mar-15
Apr-15
May-15
ELA
Philip Wee • (65) 6878-4033 • [email protected]
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Greece: near the tipping point
6 July 2015
to reopen banks on Tuesday at risk, raising the likelihood that capital controls
might be imposed to prevent a bank-run. Eurogroup leaders’ will meet on 7
July to take stock of the referendum results.
The next fencepost for the ECB will be EUR 3.5bn repayments due on 20 Jul
(Chart 2). If Athens misses that deadline, the ECB will have the right to freeze
the ELA support and also put Greece in official default. Lack of a bailout deal
by then will up the stake for Greece to exit the union.
Is Grexit on the cards?
Grexit is not a foregone conclusion
Sunday’s vote was pitched as Greece’s decision to remain or leave the currency
union. However, despite the ‘no’ vote, Grexit is not a foregone conclusion. PM
Tsipras signalled soon after the vote that Greece wants to remain in the Eurozone. Comments from the European leaders have not been consistent, which
keeps the door open for all counterparties to be back on the negotiating table,
as early as this week.
But arriving at a consensus will be a challenge, more so now than before.
Armed with its people’s vote, the Greek government returns to the table with
a stronger mandate and is likely to push for less harsh pensions / tax reforms. It
will be therefore important to see how far the Eurogroup leaders are keen to
compromise to Greek demands for debt reduction.
Observations from an IMF report also complicated matters, where the fund
cautioned that Greek’s public finances was not sustainable without some debt
relief, including possible write-offs by some of the European creditors. It also
added that Greece might require additional EUR 50bn until 2018, with EUR
36bn from the Eurozone governments.
Hence, it is clear that negotiations are likely to include some extent of debt
restructuring or write-downs to provide relief to Greek public finances. However, the European leaders will be keen to strike a balance in this regard, for
fear of setting precedence for other indebted member economies. At the same
time, aggressive rhetoric by the Greek government will also lower the European members’ appetite to re-engage with Athens. We reckon that a last-ditch
attempt to arrive at a mutually acceptable deal is likely, failing which, Grexit
will be inevitable.
Taking stock of exposure to Greek debt
Going back to the root of the problem, at about EUR 320bn i.e. 177% of GDP,
Greece’s debt burden is significant, which alongside weak nominal growth has
Chart 2: Greek debt repayments due this year*
EUR bn
Chart 3: Key holders of Greek debt
8
ECB
7
6
Others
IMF
5
4
3
Private
sector
2
Euro-area
governm
ents
Dec-15
Nov-15
Oct-15
Sep-15
Aug-15
Jul-15
0
Jun-15
1
*includes debt owed to IMF, EIB, ECB and T-bills; source WSJ
* Bloomberg, DBS
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Greece: near the tipping point
6 July 2015
kept the economy trapped in a vicious debt cycle. It is therefore important to
take stock of who is most exposed to the economy’s debt.
More than three-fourths of Greek debt is held by euro-area governments, including 10% by the IMF (Chart 3, previous page) according to Bloomberg. German, French and Italian taxpayers are the most exposed. However, as a percentage of GDP, it is the smaller member countries (Slovenia, Malta, Spain etc) that
are at risk.
At the same time, private sector exposure to Greece debt has declined significantly since the 2010 and 2012 bailouts / the private-sector restructuring
exercise. Exposure of the euro-area banks, in particular, peaked at about EUR
130bn in 2008 but fell all the way to EUR 12bn by late-2013, according to Bank
of International Settlements data cited by press.
Since then, claims on Greek debt have risen, but nowhere near pre-2009 peaks.
By end-2014, German banks’ are at the lead with claims on Greece of about
EUR 11bn, followed closely by US and UK institutions. Thereafter come the
Dutch, French and some other European banks.
Pre-emptively, the German Bundesbank has already warned that Grexit will
hit the central bank’s profits, which feeds into the central government’s coffers. The US, meanwhile, has stressed on the need of a swift resolution to the
Greek crisis, whilst assessing the impact of these developments on its own policy framework. The UK has been wary of negative spillover impact, especially
ahead of its own domestic referendum.
Weak growth an additional hurdle to get back on track
While the Greek government gets back to the negotiating table, its economic picture remains bleak. Despite efforts to lower fiscal deficits, slow growth
pushed up the debt:GDP ratio to 177% in 2014 from less that 130% in 2009.
Despite lower fiscal deficits,
slow growth pushed up
Greece’s debt:GDP ratio
Since 2009, nominal GDP has contracted by more than 25% (Chart 4). Real GDP
growth contracted for the past six years before rising 0.7% last year. But ongoing uncertainty will impinge on consumption spending, government expenditure and depress business sentiments further, pushing growth back to red
this year.
Deflation has already taken hold, with prices on a free fall for more than two
years. This reflects weak demand conditions along with manufacturers’ soft
pricing power.
With
unemployment
rate at 27%, more than
double Eurozone’s 11%,
discretionary
incomes
have shrunk sharply
with the accommodative
monetary policy providing little comfort.
Greece also remains outside the QE gambit until
the bailout negotiations
are complete. Given this
economic malaise, it is
not surprising to witness
Greeks’ disdain over further belt-tightening and
austerity measures.
Chart 4: Greek economy: now vs then
GDP (EURbn); unempt (%); Govt debt (% GDP)
10
Unempt
27
212
GDP
157
2009
123
Govt debt
0
100
176
2014
200
300
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Greece: near the tipping point
6 July 2015
In case of the extreme step of a Greek default and its return to the drachma, its
fallout is unprecedented and hard to predict. Greece would likely face a sharp
downturn in the short-run but, the argument goes, could avoid long-term stagnation with a devalued drachma. Either way, Greece is likely to face tough
economic conditions, with the severity of the slowdown hinging on whether it
remains in or out of the currency union.
Bearish EUR view intact
Our bearish EUR view has been reinforced by increased risk for Greece to exit
the Eurozone. We continue to monitor our underlying assumption for monetary policy divergences to depreciate EUR/USD towards parity over the next
twelve months.
Grexit risk was a rude reminder that the Eurozone was still a long way from returning to a sustainable recovery. There should now be more conviction for the
ECB’s quantitative easing policy implemented in Mar 2015 to run its course into
Sep 2016. The ECB would probably need to consider expanding QE to ensure
financial stability should Grexit expectation move towards reality. We would
also consider any “miracle” solution by Greece and its creditors as a relief rally
for the euro.
Grexit risks have, nonetheless, raised doubts over whether the US Federal Reserve could hike rates later this year. Fed Chair Janet Yellen is scheduled to
deliver her semi-annual congressional testimonies on 15-16 Jul. As long as the
Fed does not assess Greece as a large enough risk to diminish its rate hike bias,
the US dollar should continue to hold up well.
Unfortunately, Grexit risks go beyond the euro. Risk aversion was clearly evident in weaker yen crosses after the Greek referendum announcement and the
“No to austerity” outcome over the past couple of weeks. For example, GBP/
JPY fell on expectation of negative spillover from Greece. With gold and crude
oil prices retreating below $1200/oz and $60/barrel respectively, AUD, NZD and
CAD have fallen sharply against the JPY too. The NZD will probably be the most
vulnerable commodity currency here due to its policy biases for lower interest
rates and weaker exchange rates.
Sources:
Data for all charts and tables are from CEIC, Bloomberg, government, central
banks, press reports and DBS Group Research (forecasts are transformations).
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Greece: near the tipping point
6 July 2015
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