By Ambrose Evans-Pritchard, International Business Editor 29 Dec 2014
Greece's finance minister warns ECB could “strangle the Greek economy in a split second” if it cuts off life-support for banks.
Eurozone’s long-simmering crisis has returned with a vengeance as snap elections in Greece open the way for an anti-austerity government Photo: Bloomberg
The Eurozone's long-simmering crisis has returned with a vengeance as snap elections in Greece open the way for an anti-austerity government and a cathartic showdown over the terms of euro membership.
Yields on 3-year Greek debt surged 185 basis points to 11.9pc on Monday amid default fears after premier Antonis Samaras failed to win the extra votes in parliament needed to avert a general election on January 25, despite dire warnings that such an outcome risked “bankruptcy and exit from the euro.”
The upset opens the door for the hard-Left Syriza movement, which has vowed to tear up Greece’s hated ‘Memorandum’ with EU-IMF Troika creditors “on its first day in office”, and threatened to default on up to €245bn of rescue loans unless the EU grants debt relief.
Syriza is leading by 29.9pc to 23.4pc in the latest Palmos Analysis poll, though other surveys are closer. It is likely to become the first truly radical group to take power in any EMU state since the creation of monetary union. A quirk in Greece’s electoral law gives the winning party an extra fifty seats in parliament.
Alexis Tsipras, the bloc's firebrand leader, vowed to overthrow of the austerity regime and launch new era of social salvation, claiming the government’s campaign of “blackmail and terror” had failed. “There will be an end to austerity. The future has started,” he said.
Markets were caught off-guard. Flight to safety drove yields on German 10-year Bunds to an historic low of 0.54pc, while the Athens bourse crashed 10pc before partly recovering in late trading.
German finance minister Wolfgang Schauble warned Greeks not to play with fire by pressing impossible demands. “Fresh elections won’t change Greece’s debt. Each new government must fulfil the contractual obligations of its predecessors. If Greece chooses another way, it’s going to be tough,” he said.
JP Morgan said any Syriza-led coalition is likely to soften its line once in office. It is certain to ditch many of the extreme measures unveiled at a disastrous road show in London last month, deemed “Communist” by one hedge fund.
Yet it will be hard to settle the core dispute over debt relief, likely to be centred on calls for “Bisque bonds” where payment is linked to GDP growth. The IMF said Greece faces “no immediate financing needs” yet the issue will turn serious once Greece runs out of Troika money in February. “We could have a problem at the beginning of March,” said finance minister Gikas Hardouvelis.
It will be even more serious in July and August when Greece must repay €6.7bn to the European Central Bank. Capital markets are effectively closed.
The Greek banking system remains on life-support, kept afloat by $40bn of ECB liquidity. Frankfurt has a duty to safeguard the money of other Eurozone members and cannot lightly prop up lenders in a country that is at the same time threatening to default on EU debt.
Mr Hardouvelis warned that the ECB could “strangle the Greek economy in a split second” if it switched off funding. Holger Schmieding from Berenberg Bank said there is now a 30pc risk that Greece could stumble into a rolling crisis and a potential euro exit. “That is a big risk,” he said.
Sources close to Mr Tsipras say he is braced for a showdown with the ECB at any time and knows that loss of bank support would force Greece’s ejection from EMU in short order. Yet they say he intends to call the bluff of EU leaders, calculating that they have invested too much political capital in Greek bailouts to let the crisis spin out of control.
The party’s Marxist Aristeri Platforma is the biggest bloc in the loose coalition, with 30pc of the votes on the central committee. It says Greece must “be ready to implement its progressive programme outside the Eurozone” if needed, rather than submit to threats of Armageddon.
Joschka Fischer,the former German foreign minister, said northern Europe cannot give ground to Syriza without causing EMU discipline to break down. “Any renegotiation would unleash a political avalanche in the southern EU that would sweep away austerity and reignite the Eurozone crisis,” he said.
While Greece’s economy has stabilized after contracting by 25.7pc in a six-year depression, the damage has been enormous and caused pervasive cynicism over EU claims. Investment has fallen by 63.5pc. Unemployment is still 25.9pc. Troika loans have left the country with a public debt 177pc of GDP, even after two “haircuts” for private creditors.
Elena Komileva from G+Economics said the unfolding drama is a reminder that “policy deadlock” between creditors and debtors remains as bitter as ever and continues to bedevil monetary union. While credit risk may have abated, the deeper legacy of austerity is coming back to haunt.
She warned that the return of “Grexit risk” is particularly threatening at a time when deflationary forces are causing debt ratios to ratchet higher across southern Europe, and populist parties are gaining ground everywhere.
Contagion has been limited so far. Michael Hüther, head of the German Institute for Economics (IW), said spill-over effects no longer pose the same danger now that backstop machinery is in place. “Monetary union can handle a Greek exit,” he said.
Yields on Italian and Spanish debt spiked on Monday but remain blow levels earlier this month before the latest spasm of the Greek crisis began. “Athens is no longer the tail that can wag the Spanish and Italian dogs,” said sovereign bond strategist Nicholas Spiro.
“Everything hinges on the ECB. There will be no contagion long as the markets believe that the ECB will come out with all guns blazing and launch quantitative easing on a meaningful scale, but they are deluding themselves because this is not going to happen and that is when the trouble will start,” he said.
Mr Fischer said the spat over Greece is just a foretaste of much bigger fights approaching in 2015. “The conflict over austerity is politically explosive because it is becoming a conflict between Germany and Italy, and worse, between Germany and France,” he said.