Unlike most euro area leaders who would be loath to utter a thought that did not sit well at a Davos conference, the new Syriza government truly consists of a bunch of outsiders who have little personal stake in upholding the establishment’s agenda. It does introduce a significant amount of uncertainty about the outcome of any future negotiations between the Greek government and the three institutions formerly known as the Troika.
Nonetheless there are mitigating factors to a disorderly departure of Greece from the euro area. The firewall around Greece is stronger. Banks are better capitalized. Most Greek debt is currently held by the EU, the ECB, and the IMF, limiting the impact of any potential default on the private sector. Moreover, unlike in 2010, the ECB now has both the ability, and more importantly, the inclination to act as a buyer of last resort by purchasing government debt, although currently Greek bonds are not included in the QE programme. The incentive for Greece to leave the euro area is also less compelling than it was five years ago. Back in 2010, one could have plausibly argued that the only way for Greece to become more competitive was to leave the euro and start using a much-devalued new currency.
Over the intervening years, however, Greece has seen its unit labour costs decline by 25% to 30%, eliminating the competitiveness gap that was built up between 2000 and 2009 (see chart above). Partly as a result, Greek exports have risen by 54% since late 2009, outpacing the 40% increase observed in the rest of the euro area. …but the long term issues remain unresolved The euro area’s demographic outlook remains bleak and progress to transform the region into a true currency union has been disappointing. In addition, the positive impact on euro area growth will dissipate as the price of oil and the euro stabilize. Likewise, once credit growth normalizes, the credit impulse will disappear. This, in turn, could cause growth to fall back below trend by early 2017, once again raising concerns that the euro area could slip back into a Japanese-style deflationary quagmire. Thus, while a bullish one-to-two year view on euro area risk assets is warranted, a long-term commitment is not.