Grexit: what happens if Greece leaves the euro?

May 15, 2012

With new elections looming, here's what the experts predict if Greece exits the eurozone

GREECE'S political parties have failed to agree to form a coalition government. New elections now look likely for June – a poll that could well be won by radical leftist leader Alexis Tsipras and his Syriza party. Tsipras says he wants to keep Greece in the euro but the bailout deal must be torn up, a position shared by an overwhelming majority of Greeks. In Brussels, however, many regard this position as untenable.

Unless Greece can satisfy the demands of the European Union and the International Monetary Fund, they will lose their last remaining lines of credit. Without credit, Greece will not be able to pay its bills and could drop out of the euro altogether.

Below are the views of several experts on what would happen if Greece were to leave the euro.

Michael Arghyrou, senior economics lecturer at Cardiff Business School, is an expert on the Greek economy and the sovereign debt crisis and is co-author of the forthcoming book The Greek debt crisis: Likely causes, mechanics and outcomes (with John Tsoukalas). "The drachma would be devalued by at least 50 per cent, causing inflation," he says. "Interest rates will have to double and all mortgages, business loans and other borrowing will become much more expensive." More damaging than this, the lack of credit offered to Greek banks would mean serious shortages in basic commodities like oil, medicine and food. "A lot of Greek firms rely on foreign suppliers, who may cut off Greek customers," Arghyrou says. "Greek companies could be driven out of business." The worst-case scenario would be a social and economic breakdown, perhaps even leading to a totalitarian regime.

Carsten Brzeski, senior economist for ING bank in Belgium, writing for Bloomberg, sees no positives to come from a Greek exit from the euro. "Chaos," he says. "Greek banks would go bust. Greek companies would go bust. Unemployment would go up. The new drachma loses lots of value. Food and energy prices go through the roof. It would be an explosive cocktail. The turmoil would weigh on growth. The outlook for the eurozone would worsen."

Paul Krugman in the New York Times lays out a convincing four-step guide as to how the so-called 'Grexit' could result in the end of the eurozone. "1. Greek euro exit, very possibly next month. 2. Huge withdrawals from Spanish and Italian banks, as depositors try to move their money to Germany. 3a. Maybe, just possibly, de facto controls, with banks forbidden to transfer deposits out of country and limits on cash withdrawals. 3b. Alternatively, or maybe in tandem, huge draws on ECB credit to keep the banks from collapsing. 4a. Germany has a choice. Accept huge indirect public claims on Italy and Spain, plus a drastic revision of strategy - basically, to give Spain in particular any hope you need both guarantees on its debt to hold borrowing costs down and a higher eurozone inflation target to make relative price adjustment possible; or: 4b. End of the euro. And we're talking about months, not years, for this to play out."

Nick Parsons, head of strategy at National Australia Bank, sees any choices facing the Greek people as "deeply unattractive", reports Money Control. If Greece exits the euro, it could see the "collapse of the domestic banking system, the decimation of private savings and a crippling increase in the cost of imported goods and energy". Devaluation would make exports much cheaper, but we could very quickly see a 1,000 drachma to €1 rate – which would be "far from painless". Parsons disagrees that a Greek exit from the euro would mean the end of the eurozone. "It will instead," he says, "mark a new beginning. Some 97 per cent of the eurozone's population will continue to use the single currency and their leaders will circle the policy wagons to protect what is left".

Costas Lapavitsas, professor of economics at the University of London, thinks that Greece will exit from the euro because Germany has kept its labour costs frozen, meaning Greece "cannot compete". On his blog Lapavitsas says: "Greek default and exit would remove the pressure of debt, boosting competitiveness. This would lift austerity and allow for proper restructuring of the economy and society." The exchange rate of the new drachma would collapse in the open markets, making it difficult to secure supplies of oil, medicine, foodstuffs and other goods, but Lapavitsas thinks that after the initial shock the exchange rate would prove positive for Greece's economy.

Megan Greene, director of European economics at Roubini Global Economics thinks contagion could be a problem, even with European Central Bank (ECB) intervention. "You would see cascading bank defaults in Greece and everybody would take money out of Portuguese and Spanish banks," she says. ECB help "would not stem the political contagion or unrest. We have seen four elections in two weeks. In Greece, France, Italy and Germany, electorates have voted against austerity at home." But, Greene thinks size is important. "Greece is a small country and the rest of the eurozone has been making provision for this for a long time now," she points out. "The eurozone could survive a Greek exit. Depending on the choreography, the exit could be better for everyone involved if managed in a coordinated orderly way."

Sony Kapoor, managing director of the Re-Define think tank, agrees with Brzeski that there would seem to be no obvious benefits to a Greek withdrawal from the euro. "I think that either the Greeks or European policy makers talking about an exit in a casual way are being highly, highly irresponsible," she says. "Total cost versus the total benefit remains overwhelmingly negative, both for the eurozone and Greece." Kapoor thinks that good work being carried out in Ireland and Portugal would instantly be undone. "If you are a Portuguese saver with money in the bank, even if there is a small likelihood of losing that money, it would make perfect sense to move euro deposits while you can to a safer haven, like the Netherlands and Germany."

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Greeks, "Say goodbye to the Euro.  Say "Hello!" to the drachma"

Thanks for the cover, as relevant as always.