IOU 240 Euros, It's My Problem; IOU 240 Billion Euros, It's Your Problem!

The first thing to know is that nobody should sell or buy a lot of US stocks or bonds because of the unfolding late-inning melodrama between the new government of Greece and the same old government of the Eurozone community about whether or not to extend Greece continuing credit despite its insistence on breaking the terms of its existing 240 billion euro bailout from the Eurozone, the European Central Bank (ECB) and the International Monetary Fund (IMF). At least for the next several days, all that's going on are negotiations, carried out in a variety of public threats and private acrimony, signifying nothing until the very last minute. That's what games of "chicken" are, even if they are carried out under the influence of modern "game theory."

For five years, the Germans have essentially insisted on severe austerity (that must have a German root word, as in root canal) measures on the Greeks in exchange for temporary support in the wake of their nation's de factor bankruptcy - classic "shock therapy." While leaving the Greek public debt to European institutions under the bailout in place at normalized market interest rates, the program focuses on attracting external investment that would ultimately lead to the growth needed to repay the Greek debts and put the nation on sound economic footing by mandating externally supervised market structure reforms. These include liberalizing employment laws making it easier to fire workers, lower minimum wages and pensions, later retirement ages, reduced welfare payments, privatization of state assets like ports, media and roads, and crackdowns on corruption and tax cheating. This approach is also "standard issue" for the IMF when dealing with troubled economies. Enforcing this line of thinking before the start of critical Eurozone meetings this week with Greek representatives, German Finance Minister Wolfgang Schäuble summed up the situation as requiring Athens to stick to the existing bailout terms with no room for compromise just for the sake of compromise because Greece had lived beyond its means and no one wants to lend them any money without guarantees of the already agreed structural reforms being implemented, however painful to the Greek electorate.

The new Greek government is basically fine with corruption and tax cheat crackdowns, but parts company with previous Greek administrations by rejecting the "investment" model and instead proposes breathing-room financing to provide time to set up a new "contract" with its European institutional debtors. This is based on a "demand stimulus" agenda that would put more money in workers' and pensioners' pockets through minimum wage increases and a halt to draconian spending cuts, as well as a reduction in the bailout's requirement that the Greeks produce an operating (before debt service) surplus of 4.5% of GDP. Put simply, the government won election on a promise to voters to re-do rather than renew the deal with its Eurozone and IMF creditors when it expires on February 28. But that would mean that it would not receive 1.5 billion euros due to it in March under the existing bailout program, and risk end to day-to-day bank funding support from the ECB.

But the new Greek government seems prepared to take that hit and risk in order to honor its electoral commitment to the voters. Moreover, the crux of the Greek government's case seems to be that it makes no sense, at least to the new Greek Finance Minister, to load more debt onto a bankrupt economy in an effort to stimulate growth - that "fiscal waterboarding" has only served to make Greece a "debt colony."

It is clear that the two main antagonists (Schäuble and his Greek counterpart) agree that loaning more money to Greece, without reforms, is not the answer. But clearly the nature of the reforms required is a matter of profound disagreement, both substantively and procedurally. While the Germans have let slip the idea that perhaps the 4.5% surplus benchmark could be cut by one-third rather than the two-thirds proposed by the Greek government, but that such a deal could only be accomplished within the framework of the existing bailout agreement, which the Greeks want to scrap and start over. Asked what happens if the Greeks insist on this posture, German Finance Minister Schäuble said simply that the Greeks can't "negotiate about something new," and if they forego the next bailout payment due to their insistence on abandoning the current deal, then "it's over."

Indeed, it looked to be fairly well over on Monday evening, February 16, when the meeting of Greek representatives with other Eurozone Finance Ministers, Eurozone and ECB officials broke up early and bitterly over the wording of a draft document, which, while showing flexibility on reforms and timetable, committed the Greeks to working within the existing bailout structure - essentially, the German position triumphant except in outcome. The Greek Finance Minister quickly insisted that Greece would do "whatever it takes" to reach a deal, the lead Eurozone negotiator just as quickly shot back that it would take a commitment to the existing bailout to get a real agreement. Some have likened the situation to a classic case of "game theory" at work in the political/economic field rather than in Las Vegas or the drivers' game of "chicken," the Greek Finance Minister himself (who once taught game theory at university) denied on the record that he and his country were playing games, a position that Minister Schäuble would also probably assert about himself and Germany if asked.

What the financial markets want to know, however, is whether the apparently semantic game of "chicken" about whether "flexibility" on Greek reforms and debt repayment timing (about which there appears genuine maneuvering room) must come under the "existing "or a "new" bailout framework or not at all, will instead turn into a "chicken little" situation for Greece, the Euro and the European community. Not only are the consequences of a potential Greek exit from the euro currency a "known unknown" to the markets, it is not clear if such an exit (or banishment) is legal or feasible, or if either the Greek economy or the Euro itself could survive the event in present form. Moreover, existing Greek economic ties with Russia suggest that Putin may introduce his own form of "game theory" into the equation if the talks collapse and Greece needs a "white knight," a potentiality that brings the US and even Israel (which has benefitted from Greek support in the region) into the mix of "stakeholders" in the outcome of current negotiations.

The lead Eurozone negotiator left open the possibility of further negotiations before the end-of-February bailout expiration deadline, even as soon as February 20. But he reiterated an ultimatum that the Greeks must play within the existing bailout deal. Some observers said that could again backfire, while others suggest that only more political turmoil about the uncertainly could bring all parties to a real deal in time. Let's hope that doesn't mean financial market turmoil as well.


By Terry Connelly, Dean Emeritus, Ageno School of Business, Golden Gate University

Terry Connelly is an economic expert and dean emeritus of the Ageno School of Business at Golden Gate University in San Francisco. Terry holds a law degree from NYU School of Law and his professional history includes positions with Ernst & Young Australia, the Queensland University of Technology Graduate School of Business, New York law firm Cravath, Swaine & Moore, global chief of staff at Salomon Brothers investment banking firm and global head of investment banking at Cowen & Company. In conjunction with Golden Gate University President Dan Angel, Terry co-authored Riptide: The New Normal in Higher Education.