Why EU Greek Aid Delays Raise Default Risk

Includes: BWX, EUFN, FXE
by: Cliff Wachtel

Here’s a summary of a great article from businessinsider.com on why EU inaction is raising serious risks of Greek Default, with our own conclusions added at the end. See here for full article.

Wednesday, massive protests in Athens targeted the government’s austerity plans, which are needed in order to get EU/IMF aid.

However, Tuesday night, EU finance ministers failed to come to a deal on the next bailout for Greece. That bailout has now been pushed back to July, at the earliest. Germany wants to defer a decision until September.

The inaction is due to the dispute between the ECB and some of the region’s political leadership (Germany, Finland, and Austria) over what burden banks should bear. Tuesday night, we found out what Moody’s thinks of that burden, with their outlook downgrade of French banks (thats why France opposes private sector involvement).

However as more time goes by, and Greece’s domestic political situation looks more and more unstable, it is unlikely the leaders of these Central European countries will be more willing to dole out the cash.

Per Societe Generale: (via businessinsider.com)

With Greek unions calling for another general strike in Greece today, it would be staggeringly (sic) embarrassing for European Leaders to agree a new package for Greece later this month, only to have to concede that Greece needs even more money later in the year if Greek slips further behind on its programme targets. Hence, while the politicians argue, time may be beginning to slip away from them.

By delaying the decision date on the next Greek bailout until July, EU leaders are straining the Greek government’s resolve. If Greece

  • can’t pass another round of austerity measures
  • can’t organize the privatization of state owned assets

Then the more hard line leaders in Germany, Austria, and Finland may either reject a bailout in July, or, they’ll have stronger incentive to push for the private sector to take a harder hit.

Right now, it all comes down to what happens in Athens. Rising political instability means things do not look good.

Our take: ramifications – the longer uncertainty about Greek default continues, the more risks that Greek political support for bailout deteriorates and forces either default or EU capitulation to reduced austerity, partial default, and thus contagion risks or bailouts to private bondholders stop contagion – either of which politically dangerous if not impossible for EU leaders to pull off

Risk off bias remains until Greek solvency fears recede

FYI: Per John Mauldin, about 30% of PIIGS bonds are insured against default. US financial institutions wrote over half of that insurance, meaning US bank exposure to PIIGS default is similar to that of German and French banks. We suspect US has other indirect exposure via deriviatives.

That means risk of global financial crisis from lack of confidence in banking system stability is likely to spread quickly from Europe to the US, and from there, everywhere.