Bloomberg: Greece Bailout Referendum: They Voted ‘No’. Now What?

by Rebecca ChristieJeff Black
Greek voters delivered a decisive verdict on proposals put forward by international creditors........

The following scenarios are based on conversations with officials working on how to handle the Greek crisis, along with investors and economists.

The Results

In Sunday’s referendum, 61.3 percent of voters backed Prime Minister Alexis Tsipras’s rejection of further spending cuts and tax increases in a Greek referendum. Only 38.7 percent voted for “Yes.”

There was 62.5% turnout of 9.86 million registered voters, and 5.8% of ballots were invalid or blank.

What Happens Next?

Emergency negotiations start again this week. Euro-area leaders are set to meet Tuesday evening in Brussels, and things will get started Monday beginning with conference calls among the European players.

European Commission President Jean-Claude Juncker was set to hold a conference call Monday morning with European Central Bank head Mario Draghi and Jeroen Dijsselbloem, who heads the Eurogroup of euro-area finance chiefs.

Djisselbloem noted the “very regrettable” Greek result in a statement released on Sunday night.

I take note of the outcome of the Greek referendum. This result is very regrettable for the future of Greece. For recovery of the Greek economy, difficult measures and reforms are inevitable. We will now wait for the initiatives of the Greek authorities. The Eurogroup will discuss the state of play on Tuesday 7 July.

German Chancellor Angela Merkel will meet French President Francois Hollande in Paris on Monday evening.

The ECB Governing Council is also due to talk, with a decision pending on what to do about Greek banks given the increased risk of default. Euro-area finance ministers are slated to meet at 1 p.m. on Tuesday in Brussels.

On the Greek side, Prime Minister Alexis Tsipras will need to find a replacement for Finance Minister Yanis Varoufakis, who resigned the morning after the referendum. He’ll also have to decide what to do about the banks, which were shut all last week.

‘No’ Vote Doesn’t Mean Euro Exit

Greece won’t leave the euro overnight. But it may face face three or four weeks of increasing pressure to start printing its own money.

That’s because Greek banks might soon be unable to meet European Central Bank demands for the collateral needed to keep access to Emergency Liquidity Assistance, and the Greek government would run out of cash to pay its bills and workers. At that point, it would be Greece’s decision to back out of the currency bloc.

Does the ECB Then Withdraw Support Immediately?

Not necessarily. The ECB probably won’t withdraw its support until after the euro area’s political leaders have made up their minds. That process won’t end before Tuesday’s euro-area leaders’ summit, and might drag on for weeks.

Instead, the institution’s bank supervision arm will decide how to value the government-backed assets held on Greek banks’ balance sheets. Meanwhile, the central bank’s monetary policy arm will consider whether to object to collateral that lenders post to gain ELA access from the Bank of Greece.

The ECB’s Governing Council has declared it will work closely with the Bank of Greece to maintain financial stability

Chris Ratcliffe/Bloomberg

Then, the banks would get calls for new collateral and might come up short. Taken together, the supervisory and ELA review could show the Greek banks to be insolvent, and Greece wouldn’t have the means to use euros to prop them up again.

The ECB’s Governing Council has declared it will work closely with the Bank of Greece to maintain financial stability.

Greece also faces a series of financing hurdles, including bill refinancings and loan repayments. Things could come to a head on July 20 -- if they haven’t already -- when Greece needs to repay about 3.5 billion euros ($3.9 billion) in bond redemptions for securities held by the ECB.

What Happens if Greece Heads for the Door?

At some point, a default could force a decision on Greece’s euro access. For example, if the government defaults to the ECB on July 20, that could trigger margin calls on the banking system and lead to a more generalized default. The banking system could also face some other credit event.

This would put pressure on the currency bloc as a whole and the Bank of Greece in particular -- a process that would be neither quick nor painless, since the ECB would have to parcel out losses and might need to spend years unwinding collateral holdings.

What happens if Greece heads for the door?

The euro area could decide to help Greece to an “orderly exit,” through a phased withdrawal of liquidity or some other settlement mechanism. It could also put Greece’s euro membership on temporary suspension, a prospect raised over the weekend by German Finance Minister Wolfgang Schaeuble.

As part of its efforts to protect the currency bloc, the ECB stands ready to assist other nations in the region to ward off contagion from Greece.

What Can the Central Bankers Do?
One option might be to convert the emergency aid into a swap line, a tool that central banks use to extend liquidity to their counterparts.

 Already, the ECB is preparing a facility with its Bulgarian counterpart, as a way to offer euros to the Bulgarian banking system against eligible collateral. Neither central bank would comment on the project.

Swap lines are a standard part of the global central bank toolkit. Since 2013, the ECB has had standing liquidity backstops with the Federal Reserve, the Bank of Japan, the Bank of England, the Bank of Canada and the Swiss National Bank. Permanent swap lines were set up after temporary arrangements were integral to surviving 2012 financial shocks.

How Will the Lawyers Handle It?

If Greece introduces its own currency, the legal procedures would need to play catch-up. Any contracts signed in euros will be thrown into question. Some sort of legal procedure will need to be found to get Greece out of the euro, or at least to suspend its membership.

As one way around the hurdle, euro-area finance ministers are considering whether Article 352 of the European Union’s founding treaties might offer some basis. That section, which provides for the extraordinary adoption of measures, can only be used by unanimity and working with the European Commission and European Parliament.

What Would Happen if Greece Issues IOUs?

Any new currency would probably start off by posting a hefty discount to the euro. Analysts have said Greece’s citizens would see an initial 30 percent to 40 percent drop in their purchasing power should the nation replace the euro.

After introduction, its value could sink lower as prices rise at the same time and inflation picks up. If Greece is lucky, the new currency would reach an equilibrium after a few months, perhaps buoyed by savings, foreign-held euros and tourism spending.

It’s also possible the Greek economy could go into freefall. At that point, the government might need another international bailout anyway, when things could look far worse.

Source: bloomberg.com/europe