What happens should Greece depart, asks SIG’s Watson

Rupert Watson, head of Asset Allocation, Skandia Investment Group considers what will happen should Greece exit the euro.

Will Greece leave the euro and what happens if it does?

A recent investor survey showed most people expect Greece to leave the euro at some point over the next 18 months. This note assesses how likely a euro exit is and what could happen if Greece did. It concludes that while the risk of a Greek exit has clearly risen sharply, such an exit is less likely than some think, in part because the consequences of such an exit could be devastating for all parties. Attaching probabilities to any of the potential outcomes is extremely difficult however.

If Syriza, who are ahead in the opinion polls, lead the next government, they will argue they want the austerity to stop and for Greece to remain in the euro. They will argue that if they leave the euro, the rest of the eurozone will suffer enormous damage. Syriza will be following a policy of mutually assured destruction. Despite the recent comments from eurozone leaders, they may well decide that yielding to the threats is a safer option.

How would Greece actually leave and what would happen to Greece?

The various EU Treaties do not consider how a country could leave the euro. According to a 2009 ECB document ‘There is no treaty provision at present for a Member State to be expelled from the EU or EMU.’ In a sense not only are there no goalposts, there isn’t a ball either. In addition, the paper says ‘negotiated withdrawal from the EU would not be legally impossible even prior to the ratification of the Lisbon treaty, and that unilateral withdrawal would undoubtedly be legally controversial; that, while permissible, a recently enacted exit clause is, prima facie, not in harmony with the rationale of the European unification project and is otherwise problematic, mainly from a legal perspective; that a Member State’s exit from EMU, without a parallel withdrawal from the EU, would be legally inconceivable; and that, while perhaps feasible through indirect means, a Member State’s expulsion from the EU or EMU, would be legally next to impossible’. I hope that is clear! (http://www.ecb.int/pub/pdf/scplps/ecblwp10.pdf)

It appears that Greece cannot be kicked out. However, a negotiated exit seems possible. If that happened, Greece would announce that it was leaving the euro and all deposits and currency (Y coded euro notes) would become new drachma and would be devalued by perhaps 50% or more. The new notes would over time be stamped ‘drachma’ and over a period of perhaps 3-12 months be replaced by newly printed drachmas. From the date of the announced exit, Y issued notes would no longer be exchangeable with euros issued by other eurozone members. Capital controls would probably be implemented to avoid massive capital flight. In the short run, the economic impact on Greece would probably be somewhere between disastrous and catastrophic.

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