By Seeking Alpha

  • Greece made one of the more baffling U-turns last week when the Government advising no to a creditor package in a referendum, only to propose a seemingly more stringent version.
  • However, on closer inspection, the Greek negotiating position isn’t all that surprising and the most important clues were actually available to all from a 2012 column by Varoufakis.
  • Whatever happens over the weekend, there will be no closure for investors (let alone Greeks) for some time to come.
We have to admit that after the Greek referendum last week, we thought that Grexit was all but inevitable, but Greece still has a shot at staying in (at least for now).

While, after several marathon sessions over the weekend, there is a deal, we still have to see whether parliaments will get along. We are also very skeptical about much of the deal itself, which offers more of the same. Here is Larry Summers:

But it should come as no surprise that a fiscal contraction in excess of 20 percent of gross domestic product in an economy that does not have the freedom to loosen monetary policy or to devalue its currency leads to depression, even if policymakers wish otherwise.

Why should it be different this time? The useful part of the deal is the forced implementation of a series of structural reforms, coming largely out of the OECD playbook from 2013.

However, anyone familiar with change management in corporations know that change of the way of doing things usually only works if those that have to change have ownership of the change, rather than it being dictated to them.

For nations, the problem is probably even bigger, and the feeling in Greece is that this basically amounts to a coup, complete with the return of the Troika on the ground to oversee the change.

Let us make our position clear on this, we do think most of these measures can be useful (while no miracle, certainly not immediately), but experience teaches that the way they are being dictated significantly reduces their chances of success as they seem to make a mockery of Greek democracy.

The big question is why the Greek government advised the electorate to vote no in the referendum against accepting the creditor (Troika of EU, ECB and IMF) proposals, only to deliver an even more biting austerity package as a bid to stay in the eurozone less than a week later, and now accepted an even harsher deal.

Wasn’t a ‘no’ in the referendum supposed to strengthen Greek’s negotiating position and wouldn’t, as the now ex Finance Minister Varoufakis claimed before the referendum, there be a deal (and money in the banks) just days after it?

One explanation was given by the excellent Ambrose Evans-Pritchard of the English The Telegraph. He argued that Tsipras never expected to win the referendum and even intended to lose it, and basically there wasn’t a plan B.

In a follow up he argues, convincingly, that the Greek economy was on the brink of another meltdown and simply had no choice.

But there is another, even simpler explanation, Greece really doesn’t want to leave the eurozone. Their negotiation position, which was largely based on the dangers of Grexit to the rest of the eurozone, was basically bluff.

One obvious reason for Greek politicians to go to extremes to remain in the eurozone is the fact that a large majority of Greeks want to stay in the eurozone.

Perhaps even more telling is a relatively old (May 2012) column by the now ex Finance Minister Yannis Varoufakis. He argued all the way back then that a Grexit would inevitably lead to Greece leaving the EU:

To begin with, Greece must exit not only the eurozone but also the European Union. This is non-negotiable and unavoidable. For if the Greek state is effectively to confiscate the few euros a citizen has in her bank account and turn them into drachmas of diminishing value, she will be able to take the Greek government to the European Courts and win outright. Additionally, the Greek state will have to introduce border and capital controls to prevent the export of its citizens euro-savings. Thus, Greece will have to get out of the European Union.

The cost of which are large, as Varoufakis points out. Greece would lose access to all the EU help (common agricultural policy, structural funds etc.) and the possibility of trade barriers.

Varoufakis also argues that Greek’s exports wouldn’t benefit all that much for the large ensuing devaluation, partly because Grexit itself will have a devastating effect on much of the rest of the eurozone so Greek trade partners would not buy much more of Greek products and services despite the fire sale.

Whether Varoufakis is right with the last argument remains to be seen, but that 2012 column basically contains all the necessary background for assessing the Greek negotiating position and the rather surprising U-turn at the end.

This can be summed up with a number of suppositions:

  1. The cost of Grexit is prohibitive for Greece.
  2. The cost of Grexit is prohibitive also for the rest of the eurozone.

Varoufakis also made clear what Greece should do:

Does this mean that Greece ought to grin and bear the massive and misanthropic idiocy of the bailout-austerity package imposed upon it by the troika (EU-ECB-IMF)? Of course not. We should certainly default. But within the eurozone. (See here for this argument.) And use our readiness to default as a bargaining strategy by which to bring about a New Deal for Europe (in a manner that I have written about here)

The game was basically up when:

  • No debtor cartel formed to propose any New Deal for Europe (in fact, some of the fellow program countries like Portugal and Spain were amongst the harshest critics of the Greek government).
  • Crucially, when markets didn’t get all that nervous about a possible Grexit.

So basically the second supposition turned out to be much less forceful. While there are those who think that Greece would actually benefit from Grexit (given the alternative), this isn’t the position the Greek government subscribes to, so this was never a realistic option for them.

Then the ECB refused to increase the ELA emergency liquidity to Greek banks, and that was the final nail in the coffin as it showed the impossibility of defaulting within the eurozone.

Will the Greek surrender ensure that Greece will stay in the eurozone? That remains very much to be seen, even if there is a new bailout agreement this weekend, there is still so much that can go wrong in the future that we still think they will ultimately leave.

One idea that has been floating, supposedly from the German finance minister, is to let Greece leave for a limited time, like five years.

The depressing thing is that neither party has learned from obvious mistakes in the past. Greece is a very reluctant reformer and the creditors impose a package which contains far too much austerity which has been largely responsible for unprecedented crash of the Greek economy.

The positive is that there is no immediate collapse of the Greek economy, more emphasis on structural reforms, and the prospect of debt restructuring.

However, given the similarity to previous deals, success is anything but guaranteed so the Greek story isn’t going to go away anytime soon so we don’t think markets have all that much to rejoice coming Monday.