Casual observers must be wondering why the debt of a country with a population smaller than Ohio’s and an economy smaller than Massachusetts’ has been dominating the news and roiling American stock markets. We’ve been trying to write something about the Greek financial crisis for weeks, but the situation kept changing dramatically before we could finish a 500-word article.
The passage of a trillion-dollar European loan package gives us some breathing room, so here’s a quick overview of why Greece’s money troubles might become YOUR money troubles, and why some believe the situation could actually foretell a stock market rise. As we often say, it’s all connected.
A Greek default could cause its bond prices to plummet and its overall economy to implode. Before the creation of the Euro Zone, that situation would be difficult, but contained. Today, a financial collapse in Greece devalues the Euro, impacting fiscally stronger nations like Germany. A weakened Euro could also drive more investors to own U.S. Dollars. Some people like the idea of a stronger dollar, but during this recession, a weak dollar helps US exports and stimulates the economy. So a stronger dollar actually threatens the US recovery, and that’s why the stock market reacts so harshly to bad news from Greece. Of course, the stock market rallied as soon as Europe pledged nearly a trillion dollars to help nations in trouble, including Greece, Portugal, Spain, and Italy.
But there are two ominous factors to keep in mind:
1) Europe is attempting to solve member nations’ debt troubles by loaning them more money. If the root challenge is liquidity, additional loans may help the countries get their economies back on track. However, if the problem is genuine insolvency, meaning the countries remain unable to repay their debts, this trillion-dollar fund merely delays an inevitable depression that may well spread beyond any insolvent country in which it begins.
2) Some of the promised help comes from the International Monetary Fund, which gets 17% of its resources from American taxpayers. However the scenario unfolds – and there are many possibilities – the United States will be affected. At the end of April, as the Greek fiscal crisis took the blame for steep declines on Wall Street, market watcher Mark Hulbert pointed out that recent sovereign debt crises caused little harm to stock prices. He cited the 1994 Mexican peso devaluation, the 1997 “Asian Contagion,” the 1998 Russian ruble devaluation (which led to the bankruptcy of Long-Term Capital Management), and the 2001 Argentine debt/currency crisis. Hulbert suggested that the Greek crisis’s damage was already priced into the market, and an actual default would have little effect. He noted that after the preceding crises, “On average, the stock market was 17% higher in one year’s time.” Hulbert knows as well as anyone that the market’s future cannot be predicted, and says as much in his article. The real point, he notes, is “that the negative impact of a sovereign debt crisis, scary as it otherwise may be, can also be exaggerated.”
Greek mythology features many soothsayers, but no one can say for certain how this current crisis will play out. We think the trillion-dollar commitment shows that Europe understands the severity and interconnectedness of the problem. Comedian Steven Colbert observed that under Greece’s new austerity measures, they had to lay off the Oracle of Delphi, and “she never saw it coming.”