Article posted Thursday 14 June 2012

What would happen if Greece left the euro?

What would happen in the event of a ‘Grexit’ – shorthand for a Greek exit from the euro – is attracting much attention. Greece accounts for about 2% of the Eurozone economy, so at first sight it might be tempting to say ‘not a lot’. The correct answer is probably different, but in practice anybody who claims to know the full consequences is fooling themselves:

• There are no defined EU mechanisms for quitting the euro, as membership was meant to be irrevocable.

• Comparisons with other currency events, such as Argentina’s abandonment of the dollar link for the peso in 2001, are of little help because currently the Greek currency is the euro.

• The logistics of introducing a new currency are daunting. Probably the last place you would choose to do so is Greece, with all its islands and a notoriously inefficient public sector.

•  Nobody can be sure what would happen alongside the Grexit. There Greek Government would probably also default on its borrowings, although even this would still not solve its budget problems: Greek tax revenue does not cover government expenditure before interest costs.

•  The biggest imponderable is the extent of contagion within (and without) the Eurozone. When Lehman Brothers failed in 2008, the knock-on effects turned up in some very unlikely places. If Greece goes, will the markets assume the already teetering Spain is next for the exit?

The UK would not be immune from the potential contagion stemming from a Grexit. The Eurozone is the UK’s largest trading partner, so Eurozone difficulties would further depress a UK economy already in recession. Confidence would suffer while business waited to see the consequences for the rest of the EU and global economy.

One effect the UK has already experienced is very low interest rates. Relatively speaking, the UK is seen as a safe haven, so the UK Government, like Germany’s and the USA’s, can borrow at no real (inflation-adjusted) cost. As several articles have recently commented, the focus has moved from ‘return on your money’ to ‘return of your money’.