What if Greece exits the Eurozone?

It was clear at the recent G8 summit that world leaders of the most powerful countries do not want Greece to exit the EU. Obama was on the same page as Francois Hollande and believes that a massive stimulus is needed to kickstart the European economy, instead of austerity. In fact 7 out of 8 leaders agreed to this plan but only one stood stubbornly for austerity – you guessed it – it was Angela Merkel. But I think Obama has convinced her atleast somewhat, because the joint official statement after the summit ended, said, “We have all agreed that growth and creating jobs should be our first goal in Eurozone, alongwith fiscal consolidation”.  Obama is wary that a melt-down in Europe could affect the fragile recovery of the US and drag it down and that is the last thing he wants in an election year.

Insiders in Obama administration say that the Federal Bank of USA and the Bank of Japan are ready to pump in huge sums into Europe, which will make the ECB’s 1 trillion dollar corpus look like small change. This could happen with or without Greece’s exit.

Infact, Timothy Geithner had gone to Europe to meet the Eurozone leaders when the debt problems surfaced almost 2 years back and he had stressed the fact that stimulus and not austerity is the way to go. But the leaders at that time had argued that what might work for USA may not work for them and that their problems are region specific and that they would sort out their own problems. But two years down the line things seem to have worsened in the 17 country European Union.

Meanwhile, Angela Merkel doesn’t miss an opportunity to indirectly address Greek voters and from every forum that she speaks at, she tells them that they have only one choice, that is, to remain in EU and stick to the commitments made by the earlier government. She is well aware that opinion polls show that 76% of Greeks want to remain in the EU, yet a large number want to back Alexis Tsipris of the leftist Syrizia party, who are firm that previous commitments will not hold if they come to power, and they will enter into fresh negotiations with EU and make sure that they get much softer terms. Both Angela Merkel and the Greek electorate are aware that if Greece exits EU their government will run out of money in a matter of weeks.

So let’s examine the likely scenarios which will emerge from this election. The Greece voters know that they cannot give another fractured mandate because time is running out. So they will either vote for the socialist Pasok party headed by the previous Finance Minister Evangelos Venizelos or the leftist Syrizia party headed by Alexis Tsipris. In effect, this is a choice between enduring the austerity measures, which has caused them much grief, or taking a new path altogether.

Pasok is pro-Germany and pro-austerity, whereas Syrizia feels it is better to exit than for their country to die a slow prolonged death. Infact, a leading analyst in London echoes this sentiment and has this to say - “Greece has to exit the Euro and restore control on its own, or carry on with what the troika says with miserable conditions in a hope that this slow miserable decline resolves itself into a foreign investment boom”.

One scenario is that the Greeks may chicken out and vote for Pasok, which could emerge as the largest party and be able to form a government. This would mean that Greece would stick to its commitments of the troika loan.

But my gut feeling is that Alexis Tsipris will be able to convince the voters that he has a plan B in case his renegotiations with EU fail and Greece has to exit the Euro. His financial advisors have been talking about increasing taxes on the ultra rich citizens of Greek, reducing defence expenditure drastically, as it is not needed (because Greece does not have any enemies), and to get foreign direct investment from Asian and other nations. What Tsipris, I would think, has in mind is to turn to China for help, who might be only too willing to step in.

People might not remember but the Chinese Premier Wen Jiabao had visited Europe last year and had met the German Chancellor, Sarkozy and David Carneroon individually, offering help to Greece but they all politely declined.

But now things have changed. If the leftist leader Tsipris comes to power, China may only be too willing to help and bring in the much needed FDI and provide jobs. “After all”, Tsipris argues, “how much more worse can things get from here on”. Public sector debts remain stubbornly high and unemployment stands at a staggering 54%. This despite the fact that EU spent 53 billion euros in the first bailout, another 35 billion euros in the second bailout and the ECB has spent a further 20 billion Euros.

China on the other hand would love to have a presence in Europe both in terms of a manufacturing base and even to some extent militarily, by basing some of its naval ships at Greek ports. Obviously this scenario won’t be acceptable either to Germany, UK or USA and they might be forced to renegotiate on Alexis Tsipris’ terms.

Whatever happens, it is going to take some months of uncertainty. As I have written before, that if Greece exits, the contagion could spread to Spain where unemployment has reached 25% and is still rising. The next in line could be Italy. If this happens, EU could lose as much as 1 trillion Euro and Germany itself could be one of the hardest hit. Although currently the Finance Ministers of Germany, UK and ECB officials are bravely saying that they have built a firewall around Spain and Italy and this will not happen, but nobody seems to be sure. So one would see volatility in global stock markets, and specially in Indian markets, with a downward bias.