Why Grexit is now the most likely outcome

Published on ZeroHedge

A Greek no-vote may lead to a Greek exit from the Eurozone, some EU decision makers, like Eurogroup chairman Jeroen Dijsselbloem, have warned ahead of the Greek referendum. Now that Greece overwhelmingly voted “no” and Eurozone leaders have given it an ultimatum once more, a number of factors suggest that “Grexit” may indeed be the outcome:

1.      Greece already defaulted on the IMF

Last week, Greece defaulted on the IMF, even if we technically would need to say it was put in “arrears”, as the first developed country ever. Currently, the Greek banking system is dependent on the ECB allowing the Greek Central Bank to issue loans to Greek banks through a scheme called Emergency Liquidity Assistance (ELA). As the name suggests, this funding can only be provided to deal with a liquidity problem, so it cannot prop up insolvent banks. Greek banks are intimately linked with the insolvent Greek state, meaning they are insolvent themselves, meaning the ECB would need to cut off funding. 

The necessary two thirds majority which is needed within the ECB Governing Council to block the Greek Central Bank from creating euros to lend to Greek banks under ELA hasn’t been reached so far. As a result, the ECB has had to come up with all kinds of excuses not to do so, the latest being that it will only cut off ELA funding for Greek banks in case there is “no prospect of a deal”. The ECB’s excuses are likely to be used up soon, especially if the Greek government defaults on payments to the ECB on 20 July. This week, the ECB restrained ELA a little more, but it’s expected to provide ELA funding at least until Sunday, wanting political cover for anything it does.

Greek pensioners are meanwhile standing at the gates, so a logical outcome would be for the Greek government to pay them in “IOUs” or parallel currency, which could be used to pay for government services, for example health care, something which the former Greek Finance Minister already suggested. 

Another problem is that Greek banks are running out of actual physical bank notes, possibly by the end of this week. Closing banks is bad enough, but closing ATMs is a recipe for chaos. It would force the Greek government to print Drachmas, while uncertainty would reign during the transition period.

2.      The positions of Greece and the other Eurozone countries look further apart than ever before 

Given that Greece’s finance gap will only have grown bigger as a result of the economic damage inflicted by capital controls, Greek politicians likely will need to give in to even more “austerity” than before the talks with creditors broke down. German Chancellor Merkel stressed yesterday that Greek measures will have to “go beyond” what was demanded by the creditors before the referendum. How likely is this to happen in the face of the massive “no”- vote? Costas Lapavitsas, the leader of the radical wing of Syriza, already warned that "the referendum has its own dynamic. People will revolt if [Tsipras] comes back from Brussels with a shoddy compromise." Some Greek analysts think Tsipras doesn’t want a deal himself anyway.

It must be said that the so-called “austerity” was always more a synonym for monstrous tax hikes than for actual spending cuts. One of the recent Greek government’s proposals, was for example to unleash 2.69 billion euro in tax hikes on the Greek private sector this year – perhaps hoping the money wouldn’t be raised anyway - while only cutting spending for “pensions” – which more than often seems to mean the pension administration, not actual pension payouts - with 60 million euro. Grexit may be tough for Greece on the short term, but surely this is not a very nice alternative?

There is still a chance that Greece will back down completely in the next two days, giving up its demand for debt restructuring, which Merkel has called “out of the question”. The result of this would be that Greece would enter a new ESM programme. So far however, it looks like the Greek government hasn’t come up with detailed proposals, apart from a general request to get ESM funds, despite the fact this is needed, by Friday morning at the latest, to allow the Bundestag to sign it off. 

It’s therefore more likely that the upcoming Summit this Sunday decides to exclude the country from the Eurozone and provide funds to make the transition to Drachma through the so-called “Balance of Payments” – facility for non-euro states which has been used for Romania, Hungary and Latvia. That all EU member states will be invited to this Summit is already a sign that Grexit is likely, given that they’re legally needed to sign it off.  In any case, whatever happens next: the fact that EU Commission President Juncker declared that “We have a Grexit scenario, prepared in detail” proves for the first time that the euro is not irreversible.

3.      Capital controls are notoriously hard to unwind

Who are these people who still have deposits in Greek bank accounts, apart from pensioners who have no other choice? They exist, according to official Greek data, which reveal that there were still almost 130 billion euro in Greek deposits before the capital controls were announced, following the slow motion bank-run. If Greek banks would reopen now, who would trust they wouldn’t be closed soon after once again? 

The ECB isn’t likely to allow sufficient ELA funding for Greek banks to reopen again without a deal, while a deal itself is also unlikely. This means that if Greece ever wants to reopen its banks it will have to start printing its own currency. 

4.      The  no-vote protects the eurozone’s politicians against criticism of having pushed Greece out

Prepare for more blame games between Greece and the other Eurozone countries if the country would leave. One particular reason for Eurozone politicians not to push out Greece is that it may reflect badly on them. Now that the Greek people have sent a powerful signal that they desire a full-blown “transfer-union”, which is not on offer, it will be much harder to blame Eurozone politicians for refusing more transfers than the ones already conducted, through the ECB and bailout loans with low interest rates.

How would a Greek exit play out?

Eurozone countries could fly in periodical shipments of euro bank notes until the end of Summer, in order to avoid a risk of social breakdown. This special “transition bailout” – possibly financed by future cuts to EU subsidies for Greece - could be decided, as a means of raising hopes for an orderly transition to the Drachma or alternatively a situation in which Greece – after having defaulted and restructured its banks - uses the euro but doesn’t enjoy the cheap money from the ECB, like Montenegro. 

This would give Greece an incentive to stay in the EU – and NATO – and to play along when it is legally relegated to the “euro derogation” - status of Bulgaria, Sweden and Poland: obliged to join the eurozone but not good enough yet to join. The fact that German Finance Minister Schäuble mentioned ahead of the referendum that a Greek “no” may lead to a euro-exit which would be “temporary” may refer to this. The IMF and also European Parliament President Schulz have been making noices about “IMF assistance” and “humanitarian aid”. It looks like this is finally it.