The Greek financial crisis sent markets around the world reeling yesterday, as the soothing effects of the Eurozone’s $143 billion bailout package wore off after just one business day.
If Greece falls, and then perhaps Portugal, will we be looking at the sort of global paralysis that set in when the Bear Stearns domino hit the Lehman Brothers domino, which hit Merrill Lynch, which hit American International Group, ad infinitum? Is this 2008 all over again? Is the Great Recession coming back?
No, it isn’t. So let’s take a deep cleansing breath, relax, and look calmly at the situation.
Greece is broke, and a lot of Greeks don’t want to do what must be done to put their country back on its feet. They are taking to the streets to protest the idea that they may have to pay their taxes, work more productively and defer retirement until sometime after the prime of life.
The country’s politics of denial are making the expanded bailout plan that Europe’s leaders cobbled together last weekend look like a Band-Aid rather than a tourniquet. It is enough money to keep Greece from having to renounce its debts this year, but since nobody believes the Greeks will make themselves self-sufficient any time soon, that is not good enough. Within a few years, Greece will be out of cash again. The bailout plan presumes that private lenders will be willing to resume sending cash to Athens by the end of 2011, but that presently seems farfetched. The markets believe Greece is going to stiff its creditors sooner or later.
Greece itself is not big enough to get the rest of the world very worked up. The excitement is over the fear that Greece may just be the first in a string of European dominoes, with Portugal next in line and Spain, a much weightier player, waiting in the wings.
This is a bad situation, but it does not look anything like 2008. That year, financial institutions around the world stopped trusting one another to repay even simple overnight loans. The supply of credit dried up for strong borrowers and basket cases alike. Companies and consumers hoarded cash. Commerce stopped in its tracks, everywhere.
The current situation looks more like Mexico in 1994, or Argentina in 2001, or especially Russia and much of Asia in 1998. In each of these cases, financially overstretched nations were forced to devalue their currencies and abruptly lower their living standards. Usually, these countries called on some form of external support, either through loans from the International Monetary Fund or other sources (the U.S. Treasury made a $500 million profit on emergency loans that Mexico repaid in 1997), or a settlement with foreign creditors, or restrictions on the foreign exchange market. Sometimes several of these support mechanisms were involved.
Each of those earlier crises led to a sharp contraction in the local economy, but — despite initial downturns in the global financial markets — there was no significant long-term impact elsewhere. The U.S. stock market, for example, quickly recovered after each of these shocks except for Argentina’s, which happened to coincide with the end of the dot-com bubble and the aftermath of the 9/11 attacks.
Greece, Spain, Portugal and similarly troubled Ireland cannot devalue their own currencies because they are part of the 16-nation euro zone. The financial markets are doing some of the devaluing for them, however. After peaking this year around $1.50, the euro slid below $1.30 yesterday. This helps Greek hotels attract foreign tourists, and at the same time it helps German auto workers who are incensed at their comparatively frugal country having to bail out the profligate Greek government.
The financial links among the euro countries, and in the broader 27-nation European Union, make the resolution of the Greek crisis more complex, but I doubt that it will change the end result very much. Citizens of indebted countries ultimately will have to tighten their belts uncomfortably. Creditors may take haircuts when debts are rescheduled. High unemployment may send some workers scurrying across borders to find jobs, in which case EU membership is going to be a boon because it will make it easier for migrants to reach openings in more prosperous northern Europe.
The current market squall is a financial thunderstorm. It can be noisy and windy and the gusts may knock down a few trees, but it should be forgotten relatively soon. I don’t see it as a hurricane that can do widespread, catastrophic and long-lasting damage.
On the other hand, as long as we’re mixing meteorology and finance, it is worth noting that hurricanes grow from thunderstorms over warm tropical seas. The ocean of red ink that is accumulating at the U.S. Treasury may be the breeding ground for the mother of all sovereign debt crises, which would be when the world decides to stop extending credit to Uncle Sam. That is the economic storm that truly worries me.