19 Jun 2015 Grace for Greece Slipping Away
Practically speaking, the odds of Greece meeting its bailout obligations to the European Union and its credit demands of the IMF and other creditors by June 30th are close to nil. Odds are just as small that enough patience exists on the part of EU and IMF officials to continue the one-sided negotiations much longer. But what keeps faint hope alive for Greece and potentially the EU, is summed up best by Maltese Finance Minister Edward Scicluna who said “nobody wants to pull the plug.”
But the rhetoric is increasingly moving toward just that. IMF Managing Director Christine Lagarde has made it clear that Greece won’t be given a grace period if it fails to make a payment due at the end of the month of about 1.5 billion euros ($1.7 billion). Last week Greek Prime Minister Alexis Tsipras labeled Legarde’s and the IMF’s policies at “criminal.” Yesterday Legarde, after listening to Greek Finance Minister Yanis Varoufakis expound in Luxembourg said “The key emergency is to secure a dialog with adults in the room, what we lack is a dialog.”
With emotions and time running out, Jeroen Dijsselbloem, leader of the European finance ministers, put it this way: “given the need for some parliaments to sign off on any agreement means it’s already too late for them to access aid in time to pay the IMF. Let’s say that we do reach an agreement; it’s unthinkable that the implementation and then disbursement [of funds to pay the IMF] will also have to take place before the end of the month. That is simply impossible.”
What is possible is that Tsipras may find some money, whether through his recent trip to Russia in talks over extending the OAO Gazprom’s Turkish Stream pipeline to southeastern Europe or some other white knight. He was elected on the promise to his people of allowing no further austerity programs significantly limiting his ability to negotiate without funds. Still, Germany’s Angela Merkel, who has pushed for austerity to bridge the gap seems willing to be more patient than most of her peers.
No one really knows what happens if Greece exits or is forced from the EU. We believe it will be tougher on the Greek people on their own than any EU austerity program would be. The national currency would return to the drachma, at severely depreciated levels. When Iceland abandoned the Euro in 2008 for their own króna, the currency fell 35% relative to the euro. The economy collapsed and the nation’s three leading banks collapsed. Unemployment skyrocketed. But as the currency became cheaper, so did the exports of Iceland, specifically cod. Sales skyrocketed and the economy began to recover, arguably faster than they would have tied to the euro.
If Greece’s banks collapse there will undoubtedly be waves throughout the European Union and potentially beyond if they cannot be contained within the EU countries. But Central and leading banks have had months to prepare. There is limited surprise factor in this crisis as compared to the financial crisis of 2008-9.
Fed Chair Janet Yellen has pointed out that the US has very limited direct exposure to Greece, but to the extent that Europe would be impacted financially and economically there would be spillover to the US. US financial markets would also likely experience some degree of disruption as investors sift through the impacts to global banks near-term, and the global economy longer term.
US Economy and Markets
Stocks rose strongly yesterday on good economic, inflation and Fed policy news. Federal Reserve Chair Janet Yellen reiterated that interest rates would be increased gradually. Some think the Fed will raise twice toward the end of the year, while others expect once will be enough. Two government reports showed that inflation remains below expectations while the economy continues to improve as indicated by fewer Americans filing for unemployment.
The Fed’s three programs of Quantitative Easing have driven borrowing costs near zero when inflation is accounted for and driven the S&P 500 up by more than 200% during a six-year bull market. But the Fed will eventually begin unwinding these programs and increasing rates, but gradually to avoid disrupting already skittish markets. So we expect Treasurys and stocks to be more reactive to Fed comments than usual in the coming months, both up and down.
We also expect stocks to be more volatile than usual as Greece and Europe work toward a solution or a breakup. Economies of Europe and China are weak and likely will continue to be a drag on stocks, while continued improvement in the US economy would be a booster. All this is to say that neither an overly pessimistic nor an optimistic outlook for stocks are warranted at this time.
What matters most in times like these is investment efficiency and directional accuracy. Investment efficiency is controlling costs, taxes and under-performance, while directional accuracy is targeting ideal goals and steering optimal courses for them.