History in the making

I remember when I was at school there was one particular student who was very popular with the rest of his classmates. I suppose he was a charmer. Able to sweet talk our teacher into granting him special concessions. Generous in his willingness to share stories that made us all laugh. Gifted in the way he could make each one feel special. Come to think of it he would have made a very good politician. His popularity fed on his ability to bring only good news.

Contingency plans need to be made to protect against the damaging effects of a wider break up or unmanaged exit- David Curmi

Not unsurprisingly, Greek voters opted to vote for parties who did not sign up for austerity programmes. Wouldn’t you do the same? It’s like expecting turkeys to vote for Christmas. Given the chance, they’d choose Easter any time. The ensuing chaos has left markets thinking Greece is heading for the exit. In our world of acronyms this is now called Grexit. Ironically the paradox remains that according to recent polls, Greeks are overwhelmingly in favour of staying in the euro.

At the last poll, between 70 per cent and 80 per cent of the Greek population were in favour of staying in the euro. What a paradox! Clearly local politicians have not explained that staying in the euro comes with strings attached, or perhaps they have been led to believe that a “Grexit” is not being seriously contemplated by Germany. This is a dangerous game of international bluff, more akin to the days of the Cold War. I suspect Germany loathe to pull the plug on Greece for fear of being the cause of what could be a period of serious unrest and possibly civil strife within an EU country. Yet it must hold out until it can see the white in the eyes of the Greek politicians and Greece itself blinks first.

But what are the options and is a Greek exit a serious option?

Allowing Greece to exit could be an attractive option, but only if it is clearly and categorically deemed to be a Greece only affair. It needs to be ring fenced and combined with sufficient liquidity to the banking system in Europe to offset the losses that will permeate throughout and a Europe wide deposit guarantee scheme. The ECB will need to be recapitalised, but with the IMF, the stability fund and other contributors, this could be achieved. The new currency will probably fall 50 per cent, austerity will take the form of even greater economic reform and deeper cuts that would be needed to avoid hyper inflation. A Grexit will bring its own form of austerity, forced upon the population by market pressures, but it will also bring some relief in the form of a devalued currency.

A muddle through of the current situation is also possible. Politicians seem unwilling to grab the bull by its horns to solve the problem, so an extended period of uncertainty, perhaps delaying the inevitable, is possible. This would probably cost more in economic uncertainty and probably be more expensive later down the line.

A wider break up or unmanaged Greek exit are also possibilities. These are the most damaging of options on the table and need to be avoided like the plague. The trouble is that the risk of an accident is growing. Greek banks are seeing substantial cash withdrawals, albeit in a controlled fashion. And if the election does not produce a clear result, markets may force the situation. This could be ugly.

Germany is unlikely to want to allow Greece to exit. They have too much to lose, especially as the primary, if not only, benefactor of a weaker euro. Keeping Greece in also ensures that other countries stay in and the euro experiment remains on track. Yet to keep Greece in would need fiscal transfers to take place into Greece. A warning shot has already been fired across Chancellor Angela Merkel’s proverbial bow in last week’s regional election when her party suffered its worst ever election showing. A quid pro quo to appease German voters would be needed. A move towards a more federal Europe may force its way onto the agenda.

From a local perspective, this could be a dangerous outcome as the move towards a greater fiscal union would likely mean the loss of our tax advantages – without necessarily any benefits. Alternatively, a division of the euro into two or more regions is likely to place Malta into the southern section, alongside our misbehaving neighbours. In the history of regionalisation, lines of convenience tend to be drawn in straight uncompromising ways. Malta needs to fight its corner well to ensure that if this scenario develops, we do not find ourselves on the wrong side of these lines.

In the meantime, as investors, contingency plans need to be made to protect against the damaging effects of a wider break up or unmanaged exit. Though still unlikely, the chances of this happening are growing fast. Action needs to be taken before the horse has bolted.

Curmi & Partners Ltd are members of the Malta Stock Exchange and licensed by the MFSA to conduct investment services business. This article is the objective and independent opinion of the author. The value of investments may fall as well as rise and past performance is no guarantee of future performance.

www.curmiandpartners.com

Mr Curmi is managing director of Curmi and Partners Ltd.