Greece: The Next Round of the Drama

Could Greece really stumble at the last hurdle, falling back into a deep crisis instead of finally enjoying the rewards of its Herculean efforts? On December 29, 2014, we will learn the result of the decisive third round of voting in the Greek parliament for a new president.

What if?

Opinion polls continue to show a narrowing lead for Alexis Tsipras’ ultra-left Syriza party over the center-right party of Antonis Samaras. For example, a recent poll gave a lead of 3.4 percentage points for Syriza, instead of the 5.3 points recorded six weeks ago.

If Greece has to go to new elections in six weeks for failure of finding a president, the country would still have two lines of defenses against the risk of a major economic crisis that could culminate in Grexit.

A rough guess at the probabilities

65% – Probability of new parliamentary elections, leaving 35% for parliament to elect a president on 29 December, allowing the current government to continue until late 2015.

55% – Probability that, in case of new elections, Syriza would win them versus 45% that a new government would still be led by Samaras’ center-right.

45% – Probability that, if Syriza came to power in new elections, the loose group of assorted lefties might still see sense under the pressure of crisis, ditch its wilder promises and pursue sensible if unpopular policies instead.

That would also leave a 55% probability that Syriza would push Greece into a serious crisis that – with money running out and neither the troika nor the ECB in any position to help – could catapult Greece out of the euro.

20% – Taking these probabilities at face value would indicate a risk of around 20% that all goes wrong, i.e., that Greece may descend into a new deep crisis with potential euro exit. That is a significant tail risk.

A reality shock for anti-reform government in Athens?

So, what if? A hypothetical Syriza-led government would enter negotiations with the troika of international lenders from a position of weakness, not strength. While the current bailout program has been extended until the end of February 2015, markets might leave Syriza no more than a few days to make up its mind.

Talks between Syriza and the troika would likely be held against a backdrop of market unrest amid capital flight and a new economic downturn in Greece.

Instead of a credit line with light conditionality, which would otherwise suffice for Greece, the country would probably need a fully-fledged new support program with full conditionality.

With a weakening economy amid some turbulence, Greek borrowing needs would also be higher than otherwise. Needing to borrow more, Greece might have to swallow more conditionality.

For greater trust, try reforms

Parties that have campaigned against economic reforms would need to show a much stronger commitment to such reforms to convince Greek bank depositors, Greek businesses and the troika of international lenders and parliaments across the Eurozone that would have to approve a new bailout.

Any program would have to be ratified by the parliaments of core European countries – with whom Syriza has not been on good terms so far, to put it very mildly.

It would be hard for Syriza to swallow the necessary conditionality for further support such as new credits and even lighter terms for servicing the existing credits (“debt relief”).

Of course, details of any adjustment program are negotiable. Diplomacy is about finding a way for everybody to save face.

Any Greek government that is seen as negotiating in good faith would likely be offered some concessions by its international lenders in return for firm commitments on fiscal rigor and structural reforms.

However, for international lenders, any negotiations about a follow-up deal for Greece would not just be about Greece. The talks would also be about the precedent such a deal would set across Europe.

Simply giving in to an anti-reform government proclaiming to “call Europe’s bluff” would not be a precedent Europe would contemplate. In such a case, Europe might concentrate on containing the fallout from a Greek accident rather than on financing a Greece that chooses to go badly off track.

A risk for Europe?

A Greek accident has become a potent risk again – but mostly for Greece itself. The Eurozone now has a well-oiled machinery to deal with crises.

With its European Stability Mechanism support fund and a readiness of the ECB to do what it takes to contain contagion risks, the Eurozone could probably handle an unlikely but not impossible Greek accident with no more than very limited and temporary damage.

To combat deflation risks, the ECB looks set to buy Italian and Spanish as well as German, French and other bonds anyway in the first quarter of 2015. As a side effect, that monetary policy measure would also help to prevent serious contagion from Greece to other Eurozone members.