September 14th, 2011
08:32 PM GMT
London (CNN) – Endless political rhetoric and billions in bailouts have left Greece no closer to solving the dangerous dilemma it is facing today.
Should the country give up trying to pay its bills and incur the wrath of its creditors? Or leave a monetary union that has brought a decade of comparative prosperity and stability?
So, how much is at stake?
Greece has $370 billion of outstanding debt - equal to around 3% percent of the eurozone’s total obligations. Compare that with 23% percent for Italy, whose debt pile stands at a whopping $1.9 trillion - and you can see that a Greek default would be less extreme than for other, larger eurozone partners.
But Greece is grabbing the headlines because its predicament exposes potentially fatal errors in the common currency project.
The 17 countries that share the euro are a disparate bunch with no fiscal union to back up their monetary marriage.
The legal framework is also inadequate and does not provide for the scenario Greece is now facing.
To make matters worse, aside from playing puppet and paymasters extraordinaire, Germany and France are obliged to support their poor cousin because they have the most to lose if it does go under.
Germany's banks holds the lion share of the world’s exposure to Greece with an eye watering $22.65 billion held in Greek sovereign debt and $2.24 billion of holdings in Greek bank bonds.
France's banks are exposed to more than $17 billion. This is one of the reasons why Angela Merkel and Nicolas Sarkozy are the ones calling the shots on Greece’s fate.
Six months ago default was treated as a dirty word among politicians, now it’s a ‘day-to-day’ term. This is because we’re already one step closer to it.
Investors in Greek debt have already faced ‘selective default’ earlier this year when they were asked to swap their securities for others with less attractive terms.
This measure was designed to prevent a full-blown credit event but now EU leaders and traders alike are preparing themselves for more.
The cost of insuring Greek debt with credit default swaps was pricing in a near 100% chance of Greece eventually having to miss its debt payments. The question is now not ‘if’ but ‘when’ and whether the rest of the world will have time to prepare, as immortalised by the new political buzzwords of ‘orderly default.’
How would investors react?
The legal wrangling over recouping Greek assets could hinge on whether Greece had sold its bonds with ‘collective action’ clauses. This could prevent individual investors from trying to recoup the bulk of their investments while the debt is being restructured.
Legal experts say ‘vulture funds’ may still attempt to buy Greek debt on the cheap, then try and negotiate favourable terms.
Departure: What’s to lose?
Greece’s financial woes continue to undermine a currency shared by more than 320 million people and responsible for significant chunk of world trade.
UBS estimated earlier this month that if Greece were to leave the eurozone it would instantly lose half of its gross domestic product. That’s not an attractive option for an economy poised to contract 5%.
Yet the decision may be made well beyond Greece’s own borders.
Charles Proctor is a partner at London-based law firm Edwards Angell Palmer & Dodge. He says the current EU treaties would not allow a member state to leave the union or be expelled by other members. (According to Proctor, the current framework doesn’t provide for a default either.)
Then again, he adds “there’s what the treaty says and then there’s real life.”
If Greece were contemplating a euro exit – which it has repeatedly denied – Proctor reckons a currency swap would have to happen overnight as it would immediately lead to a run on domestic deposits in Greek banks.
Under the current rules, if Greece wanted to leave the only option the euro legally, it could only do so by leaving the entire EU.
Then this week Brussels began dropping hints….
Are euro bonds the answer?
Veteran financiers like George Soros have touted the idea issuing bonds backed by all eurozone members as a potential solution to the crisis of creditworthiness facing individual countries in peripheral Europe like Greece and Portugal.
In a speech on Wednesday this idea was backed up by European Commission President Jose Manuel Barroso.
"I want to confirm that the Commission will soon present options for the introduction of euro bonds,’’ Barroso said.
‘’Some of these could be implemented within the terms of the current treaty, and others would require treaty change."
Okay, unlike Merkel and Sarkozy Barroso would not need to sell this idea to an electorate fed up with writing blank cheques.
But the question is, if they do change those treaties will they also provide for a member’s default or departure as eurozone leaders have woefully failed to do so far?
I might be putting my neck out on this one but I bet they’d consider it.
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