Over the last decade, Greece went on a debt binge that came crashing to an end in late 2009, provoking an economic crisis that has decimated the country’s economy, brought down a government, unleashed increasing social unrest and threatened both Europe’s recovery and the future of the euro.
The Greek government has been kept afloat by its fellow eurozone countries, but at a steep price: the austerity measures demanded by France and Germany in return for two massive bailout packages have ripped holes in the Greek safety net and plunged the country into a recession of near-Great Depression dimensions. After long resisting the idea of a default, European officials in March 2012 helped Greece negotiate a landmark debt restructuring deal with the vast majority of its private sector lenders, who agreed to swap 177 billion in Greek debt for new bonds worth as much as 75 percent less. It was the largest default in history.
Scenario 1: New bail-out succeeds
The Greek government is racing against time to fulfil the demands of international lenders and qualify for a new lifeline to avoid default. The immediate priority is to secure a 12bn-euro (£10.6bn; $17bn) loan instalment by 3 July – part of the 110bn-euro loan package granted by the EU and International Monetary Fund in May 2010. But even if the Greek parliament adopts the new austerity measures – tax rises, spending cuts and privatisation – necessary to get that 12bn euros, it will only bring temporary relief.
Jittery markets may calm down if the EU agrees on a new rescue package for Greece worth about 120bn euros, which would give Greece time to restructure its economy, boost much-needed tax revenue and eventually return to commercial lenders.
The new package is deemed necessary because the ratings agencies have downgraded Greece’s sovereign bonds so much that it cannot afford to borrow from commercial lenders.
That rescue could buy enough time to restore confidence in the euro and reduce Greece’s debt mountain.
Scenario 2: Greece quits euro – for a while
Being in the eurozone, Greece is unable to restore its economic competitiveness by devaluing its currency. Some commentators have entertained the notion that Greece could give up the euro, but not for good. Instead, it could take a “eurozone holiday,” temporarily sloughing off the obligations of the single currency and returning when the time was right. In this scenario, Greece would return to the drachma at a new exchange rate: one euro would equal one drachma. It would then devalue by nearly a quarter and return to the eurozone after a few years had passed at, say, 1.3 drachmas to the euro. Such a measure would certainly cut labour costs and boost exports.
However, it would increase the size of Greece’s debt mountain.
Scenario 3: A different sort of default
So what happens if Greece cannot meet its debt obligations?
Well, in that case, it will have to come clean and tell its creditors that they won’t be getting all the money they were owed. They will get most of it, but later than they had expected. This process is euphemistically known as “debt restructuring”. For it to work, holders of Greek government bonds would have to accept less than they were worth – or in the jargon of the markets, “take a haircut”.
According to analysts, the size of that haircut could be anything between 20% and 50%.
If the settlement were negotiated in an orderly fashion, it could form part of an acceptable solution – although it would make investors reluctant to buy more Greek bonds in the future. In their view, it would just be postponing the day of reckoning that they believe Greece must face. It would also raise interest rates for bonds issued by other troubled eurozone “periphery” economies – especially the Irish Republic and Portugal – and depress the value of the euro.
Link of Video: http://www.ft.com/intl/indepth/greece-debt-crisis