Possible Endings for the Greek Drama
I did not set out to write a trilogy about Europe, but the market is telling us that nothing else matters right now.
My long-standing position is that Europe is engaged in a normal democratic political process with a very large number of contending parties. In such matters it is difficult to predict the exact outcome beyond saying that no one will be completely happy.
My approach is pretty modest in terms of forecasts. I do not know what the exact outcome will be. My current guess includes the following:
- The eventual outcome will include a bit less austerity because of recent election results;
- European leaders will manage to avoid the very worst outcomes; and
- The nature of the political process leads to eleventh-hour solutions, permitting everyone to fear the worst as long as possible.
Nearly everyone else, regardless of credentials, claims a better crystal ball than mine. There is actually a wide range of possible outcomes worthy of review.
Possible Endgame for Europe
Let me rank these from worst to best.
- Doomsday! This is the story getting the buzz. There will be a bank run in Greece based upon fear of leaving the EuroZone. This will rapidly spread to other countries. Advocates of this concept point to the sequential attack on banks in 2008 to prove their point.
Nearly every media source has now highlighted this graphic possibility, so it is already familiar to everyone. CNBC now promises to show lines at Greek ATM machines, in the same way they helpfully showed us oil spilling into the Gulf during the time of the BP oil spill.
- The slow-moving train wreck. This is the analysis from Nouriel Roubini.
"…there are only four ways to achieve such real depreciation:
- First, a sharp weakening of the euro. But this is unlikely as Germany is strong, the U.S. economy is weak and running twin deficits and the ECB is not aggressively easing monetary policy;
- Second, a rapid reduction in unit labor costs through structural reforms that increase productivity growth in excess of wages. But this is just as unlikely: It took 10 years for Germany to restore its competitiveness this way; and Greece cannot stay in a depression for a decade, until reforms start to have a real impact;
- Third, a rapid deflation in prices and wages, known as an “internal devaluation.” But this would lead to five years of ever-deepening depression, while making public debts more unsustainable as the fall in prices would increase the real value of such debts (the balance-sheet effect of debt deflation);
- Fourth, if the first three options are impossible, the only path left for Greece is an EZ exit: A return to a national currency and a sharp depreciation would quickly restore competitiveness, improve the trade balance and rejuvenate economic growth.
The full analysis from Dr. Roubini is available at his website ( subscription required, and where I am a long-time contributor).
The Roubini analysis is very pessimistic for the EuroZone. My only objection is that it is a pure economic approach with little allowance for changes by the leadership. Meanwhile, I find it interesting that Dr. Roubini sees the process as playing out over time. My guess is that most would be astounded to discover that he is personally 70% invested in stocks with a 50-50 split between global and the US. You can see a full CNBC interview here.
- The PBS Newshour balanced viewpoint. I understand that some may disagree about balance, but PBS does try to get a strong representative for differing viewpoints. They had a great segment featuring an Athens source I have featured, a prof from the Kennedy School at Harvard, and Fred Bergsten from the Peterson Institute. Here is Bergsten's comment:
"My bet is that they would get back with the program. And despite the abhorrence of the program by the Greek electorate, understandably, their desire to avoid being kicked out of the euro would be even greater. So, it's going to be messy, but I think the outcome, whether driven by bank runs or by a new election, is going to be to force them back into the fold, at least to an important degree, enough that the Europeans can keep lending them money.
Everybody saves face. A growth element will be added to the package. There will be a little modification in the austerity requirements. But it will be basically back to the program as has existed for the last couple years."
Here is the entire video from PBS. I urge readers to watch it — a nice change of pace from their regular diet of financial news.
- The Marshall Plan for Europe. London-based journalist Matthew Lynn offers an intriguing alternative. Germany, recognizing self-interest, decides that the EuroZone breakup is not such a good idea.
Getting great investment returns means going against the flow. If you just followed the market, you would be average. If you try to guess the market, you are usually blundering at the major turning points.
Most investors are looking only at the worst case of the possibilities listed above. Meanwhile, those who focus on fundamentals will be right on Europe, right on the economy, right on earnings, and (eventually) right on stock prices.
Prior pieces in the trilogy include the following: