Greece’s voters have held off a crisis in financial markets – for now.
The immediate market chaos that investors feared the Greek election could trigger was narrowly averted after the country’s pro-austerity, pro-euro parties garnered enough support to start talks on forming a new government.
Yet it appears to be only a matter of buying time.
“This is not the end, by any means,” said Emanuella Enenajor, an economist with CIBC World Markets, referring to the hope that Greece’s election could offer a definitive end to the uncertainty facing investors. While she acknowledged that a coalition between the euro-friendly New Democracy and Pasok parties would help the country avoid “stepping into the abyss,” she, like many others, believes there are months, if not years, of tough negotiations ahead.
“The better mood simply cannot last for long, given that this vote still leaves the Greek economy in crisis, and Spain’s not far behind it,” Société Générale senior currency strategist Sebastien Galy wrote in a note to clients. People aren’t as pessimistic, he said, “but will long-term investors decide that the crisis is over and move back into peripheral countries’ debt (or equities)? We fear that is highly unlikely.”
Such a reversal might only come from a dramatic change of heart from Germany, which has imposed strict bailout guidelines on Greece, such as the need to get its deficit within 3 per cent of gross domestic product within two years. After the election, German Foreign Minister Guido Westerwelle signalled that Berlin may be flexible on deadlines for Greek reform.
Key economic players around the world are now putting pressure on Germany, hoping that the euro zone’s biggest economy will move to shore up confidence again. On Friday, Canadian Finance Minister Jim Flaherty backed a proposal put forward by Mario Draghi, the head of the European Central Bank, to create a fund that would guarantee bank deposits in the 17-member euro zone.
These confidence-instilling measures are considered vital because any calm following Sunday’s election can only last for so long. In Greece, another bout of anti-austerity protests could erupt at any time. A deep euro zone recession could produce another Greek election because the nation would surely be among the hardest hit.
European countries must seize the opportunity to negotiate austerity measures and come up with a contingency plan that could include withdrawing from euro, otherwise they are “going to be deeper in debt and the losses will be that much greater” in the future, said Martin Murenbeeld, chief economist at DundeeWealth, a division of the Bank of Nova Scotia.
Mr. Murenbeeld is one of the many people who think a withdrawal from the euro is inevitable for Greece. He admitted to being relieved that Greece’s exit was not abruptly triggered this week, because he believes Europe is not prepared for it. “If they can buy themselves some time to ring-fence Portugal and Greece properly, then at some point in the future, Greece can drop out,” he said. “It’s not clear that they would be fully contained if Greece dropped out now.”
To assure investors that big euro-zone economies like Spain and Italy won’t get saddled with rising debt costs should countries like Greece withdraw, some economists have suggested greater financial co-operation within the group.
“The bottom line is that Europe still needs to agree [on] something that smells and feels a lot more like joint funding than anything that has been suggested so far,” Mr. Galy noted.