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Published on May 17th, 2012 | by Katharina Obermeier
Image © [caption id="" align="alignnone" width="564" caption="© EnvironmentBlog"][/caption]   Obviously nobody knows exactly how that sentence should end, but the media is rife with speculation on it. Analysts, journalists and commenters are developing more or less elaborate scenarios to predict what would happen if Greece were to abandon the euro. Several prominent European leaders – from German finance minister Wolfgang Schäuble to European Commission President José Manuel Barroso – have mentioned the possibility of a so-called “Grexit”, which in itself is a dramatic development, given the blanket silence that the EU has maintained on this subject in the past. And who could blame them, given the worrying and often confusing news coming from Greece over the past week? After elections in which traditionally pro-EU parties lost a significant portion of their seats to both far left and right parties and multiple failed attempts to form a government, the country is now facing another round of elections in June – although it’s not clear whether they will bring a clear resolution. In this tense succession of stalemates, the chances that Greece will be able to produce a stable government which will honour the country’s international financial obligations are looking increasingly slim.  There doesn’t seem to be many options left besides either continuing with the country’s pre-election course, or reneging on the conditions of its bail-out and leaving the eurozone. So what would happen in that case? First of all, giving up the euro would mean Greece would have to adopt its own currency. This new currency would most likely come under heavy speculation by investors, as markets are aware of the Greek government’s inability to pay its debts without outside help. The result of this pressure would be high levels of inflation – a typical scenario in financial crises. High levels of inflation mean that the value of people’s savings is eroded and would add a considerable degree of uncertainty to business transactions of any kind. Some commenters have argued that Greece could let the value of the new currency stabilise and then peg it to the euro, thus being able to enjoy the benefits of a devalued currency. This would automatically make Greek exports more competitive compared to others, while also preventing inflation from continuing. However, in this scenario, the new currency would be left extremely vulnerable to speculation. Any sign of instability could make markets believe that the value at which the currency was set did not accurately reflect the economic situation and trigger massive speculation against it. With its enormous debt and limited resources, Greece would be unable to defend this value and be forced to give up the peg, inviting further inflation. Either case presents extremely difficult circumstances under which to begin the economic rebuilding of a country, and would impose further hardships on the Greek population. The eurozone as a whole would also be affected. Spain, Portugal and Ireland would all face renewed pressure from international financial markets and would find it even more difficult to raise money as demand for their government bonds would wane. Even countries whose finances are considered stable could be put at risk, as financial markets tend not to act rationally in these situations and will likely consider the “disease” of the weaker eurozone countries to be contagious for the rest. A Greek exit would be a dangerous, irreversible sign to markets that the guarantees the EU has been making for eurozone countries are worthless. What commenters tend to forget is that, at the end of the day, Greece would still require outside assistance or go bankrupt – or both. If the country sought loans from an institution like the IMF, it would have to implement the same austerity measures that the EU bail-out conditions require. If it went bankrupt, the slow painful road to recovery would be that much slower and more painful. Plagued with inflation and instability, Greece would find it extremely difficult to obtain credit or investment from anyone. Hopefully, the Greek electorate and the government they elect in June will remember this ...

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If Greece Leaves the Eurozone …

© EnvironmentBlog

 

Obviously nobody knows exactly how that sentence should end, but the media is rife with speculation on it. Analysts, journalists and commenters are developing more or less elaborate scenarios to predict what would happen if Greece were to abandon the euro. Several prominent European leaders – from German finance minister Wolfgang Schäuble to European Commission President José Manuel Barroso – have mentioned the possibility of a so-called “Grexit”, which in itself is a dramatic development, given the blanket silence that the EU has maintained on this subject in the past.

And who could blame them, given the worrying and often confusing news coming from Greece over the past week? After elections in which traditionally pro-EU parties lost a significant portion of their seats to both far left and right parties and multiple failed attempts to form a government, the country is now facing another round of elections in June – although it’s not clear whether they will bring a clear resolution. In this tense succession of stalemates, the chances that Greece will be able to produce a stable government which will honour the country’s international financial obligations are looking increasingly slim.  There doesn’t seem to be many options left besides either continuing with the country’s pre-election course, or reneging on the conditions of its bail-out and leaving the eurozone.

So what would happen in that case?

First of all, giving up the euro would mean Greece would have to adopt its own currency. This new currency would most likely come under heavy speculation by investors, as markets are aware of the Greek government’s inability to pay its debts without outside help. The result of this pressure would be high levels of inflation – a typical scenario in financial crises. High levels of inflation mean that the value of people’s savings is eroded and would add a considerable degree of uncertainty to business transactions of any kind. Some commenters have argued that Greece could let the value of the new currency stabilise and then peg it to the euro, thus being able to enjoy the benefits of a devalued currency. This would automatically make Greek exports more competitive compared to others, while also preventing inflation from continuing. However, in this scenario, the new currency would be left extremely vulnerable to speculation. Any sign of instability could make markets believe that the value at which the currency was set did not accurately reflect the economic situation and trigger massive speculation against it. With its enormous debt and limited resources, Greece would be unable to defend this value and be forced to give up the peg, inviting further inflation. Either case presents extremely difficult circumstances under which to begin the economic rebuilding of a country, and would impose further hardships on the Greek population.

The eurozone as a whole would also be affected. Spain, Portugal and Ireland would all face renewed pressure from international financial markets and would find it even more difficult to raise money as demand for their government bonds would wane. Even countries whose finances are considered stable could be put at risk, as financial markets tend not to act rationally in these situations and will likely consider the “disease” of the weaker eurozone countries to be contagious for the rest. A Greek exit would be a dangerous, irreversible sign to markets that the guarantees the EU has been making for eurozone countries are worthless.

What commenters tend to forget is that, at the end of the day, Greece would still require outside assistance or go bankrupt – or both. If the country sought loans from an institution like the IMF, it would have to implement the same austerity measures that the EU bail-out conditions require. If it went bankrupt, the slow painful road to recovery would be that much slower and more painful. Plagued with inflation and instability, Greece would find it extremely difficult to obtain credit or investment from anyone.

Hopefully, the Greek electorate and the government they elect in June will remember this …

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About the Author

Katharina Obermeier

Katharina considers herself a German-Canadian hybrid. She grew up in Germany and completed her BA in International Relations at the University of British Columbia in Vancouver, Canada. Politics, especially in relation to concepts of nationality, have always fascinated her, and she is particularly interested in international political economy. During her studies, she was an avid participant at Model United Nations conferences, and helped welcome international exchange students to her university. She is currently completing an internship at a Brussels-based trade association and hopes to work in European affairs in the future. In her political writing, Katharina marries social democratic principles with a keen interest in the European Union and its implications for European politics and identity. She writes to counteract simplistic ideas about politics and economics, continuously attempting to expose the nuances and complexities involved in these subjects.



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