“The last line in Hotel California explains where we are: you can check out any time, but you can never leave,” – Yanis Varoufakis, Greek Finance Minister, speaking about Greece’s membership in the EU.
In the classic movie The Big Lebowski, the main character is called the Dude. His personal credo is “The Dude abides.”
The new Greek government is pretty well the anti-thesis of the Dude. Not only do they use quotes from famous Eagles’ songs, but they are doing everything but “abiding.” From the moment they won the election, they have taken as hard a line as possible when it comes to dealing with their European partners.
Minutes after being sworn into office (without a tie I might add), the new Greek Prime Minister Alexis Tsipras whisked off to visit the National Resistance Memorial in Kaisarian.
This war memorial stands on the spot that on May Day 1944, around 200 political activists were executed by Nazi forces. And this was not the case of an inexperienced PM making a faux pas. His spokesman spelled it out the message they were trying to send in black and white for everyone to see:
“It represents national resistance to German occupation,” says Panos Skourletis, spokesman of Syriza, an alliance of far-left groups ranging from Maoists to greens. “But also the desire of Greeks for freedom, for liberty from German occupation.”
Well, how do like ’em Apples, Merkel?
In replying, the German Chancellor played the game, claiming she was “astonished” by Tsipras’ recent request for debt relief, but the reality is that she understands full well the new Greek PM’s negotiating position.
The Greek people have finally said enough is enough to the German’s forced austerity. They are not going to take it anymore. The election of the Syriza party represents a clear and decisive rejection of the EU’s prescription to the Greek deflationary debt trap.
I have long thought the German’s insistence on budget cuts and relative hard money were a disaster for the rest of Europe. Although I understand the idea that Germans were merely trying to protect themselves against the wasteful and spendthrift EU nations, the sad reality is that hoisting a German solution on these other peoples was never going to work. Recently Larry Summer participated in a Bloomberg forum and I transcribed one of his points that articulates this conclusion perfectly:
“… a strategy of austerity and grudging acceptance of limited monetary accommodation, in the hope that that will be a driver of structural reform, has proven itself to be substantially counter productive, and is instead, bringing radicals to the fore in most of the places where it is being applied.”
And it’s not just Larry that has come to this conclusion. My country man turned UK Central Banker, Marc Carney has recently echoed similar concerns:
“Since the financial crisis all major advanced economies have been in a debt trap where low growth deepens the burden of debt, prompting the private sector to cut spending further. Persistent economic weakness damages the extent to which economies can recover. Skills and capital atrophy. Workers become discouraged and leave the labour force. Prospects decline and the noose tightens. As difficult as it has been, some countries, including the US and the UK, are now escaping this trap. Others in the euro area are sinking deeper.”
Some more conservative individuals might respond by pointing out that the status quo was also not a long term solution. Nations such as Greece were engaging in deficit spending that would have ultimately bankrupt their country.
As I have said before, and I will repeat again – our job as traders is not to decide what should be, but instead to focus on what is. I don’t know who is right. Were the Germans justified in insisting on the Greek austerity? There is a very good blog post on Zero Hedge that suggests they weren’t. But then again, there can be no doubt that left alone, the Greek spending would have eventually reached a point where the market stopped lending to them. The reality is probably that they are both guilty.
But more importantly, what does this new shift in policy for Greece mean to the markets? Although there has been some selling of Greek financial assets, I would argue that the larger markets are assuming that the negotiation will be fierce, but that eventually a solution will be found between Athens and Brussels. Much of the brokerage research coming across my desk cites the fact that according to game theory, it makes more sense for both parties to reach a compromise.
These academics might be correct in their analysis of the game theory. But I would contend that game theory only works when the players behave with the goal of economic maximization. As we have seen from Tsipras’ first act as Prime Minister, this has become personal.
I think that the market is over estimating the chance that this feud follows classic game theory. The Syriza party was elected mainly on the platform of ending austerity and negotiating debt relief. They are zealots when it comes to this idea. There is a good chance that they will go to the wall.
And what will Germany do? If they blink, what is stopping the next EU member from demanding the same thing? Where does it end?
My guess is that Germany will refuse to negotiate an acceptable debt relief program for Greece. Even though it might be in both Greece’s and Germany’s long run interest to compromise, they will both dig their heels in.
History is filled with actions by politicians that did not optimize around “game theory.” The markets are assuming much more efficiency than exists in real life.
When Lehman was in the process of failing, the US government was worried about the message it would be sending if they bailed them out. How could they bail out Lehman and not bail out the next firm that was in trouble? Where would it end? Ultimately they decided that they had to let a firm go under to send a message.
I suspect that the same mistake might be made with Greece. The Germans might figure that it is better to take the pain of Greece leaving the Euro than giving hand out after hand out to the rest of the struggling nations.
The other problem with this game theory analysis is the idea is the assumption that Greece will be worse off on their own. I call bullshit on that idea. When Iceland told the financial community to take a hike on the idea that they would have to make good on their banks’ losses, there was all sorts of dire warnings about Iceland’s long term viability. These doomsday predictors were nothing more than Chicken Littles.
History has shown that in a global downturn, the economies of the nations that devalue their currency earliest, greatly outperform those that wait until the end. Currency devaluation might be a zero sum game, but there can be winners and losers. As I like to say, in currency devaluations bar fight rules apply – hit hard and hit first.
If Greece leaves the Euro, it might be the greatest thing for their economy. The Greek people shouldn’t be afraid of that outcome. They have already experienced a depression that is statistically worse than the US Great Depression, so really, isn’t it time to try something different?
As for the markets, don’t assume it will all work itself out. The European political landscape has taken a dramatic turn with the election of the Syriza party. This will be an ugly process in which most markets are not yet realizing the turmoil that lies ahead.