Chaotic situation in Greece

PM Tsipras called for a July 5 referendum on creditor’s proposals

Eurogroup stopped negotiating on Saturday and said programme will expire Tuesday without new funding, making a technical default on IMF loans likely

ECB keeps ELA alive, but doesn’t raise the amount, avoiding an immidiate bank default

ECB statement leads to a bank holiday and capital controls in Greece this week with the aim to keep the country functioning till the referendum

EU Commission and France still trying to keep Greece inside EMU

More news from EU Commission and German side later today

Conclusion: Greece closer to default, but door for solution is not yet closed

PM Tsipras calls for referendum

On Friday eve, Greek PM Tsipras unexpectedly rejected the final proposals of the “institutions” on the cash for reforms and called for a July 5 referendum on the bailout conditions (more austerity in exchange for aid). The Greek parliament in the early hours on Sunday voted 178 to 120 in favour of a referendum as Syriza got support of the extreme right Golden Dawn. PM Tsipras advised the Greek people openly to vote “No”. An early poll showed a majority vote for accepting the deal, but we would be cautious about the polls. A propaganda war between the government and the creditors, especially the EU Commission, with the aim of influencing the voters.
However, will the referendum be the defining moment in the resolve the crisis? There are a lot of problems/uncertainties with the referendum. Organizing it in one week is very difficult. Second, what’s the exact wording of the question the voters will have to answer? Will it be accepted by all parties and if it is “yes”, will it be implemented? The proposals are very technical and many pages long. Not easy to have an informed opinion for most voters. It might also lead to heavy political infighting in Greece.

Eurogroup rejects request for extention

On Saturday, the Eurogroup convened and refused Greek FM Varoufakis request for a one month extensions of the talks. The Eurogroup refused this extension and chairman Dijsselbloem said the Greek government faces the expiry of its aid programme on Tuesday night without any future financing.

IMF chief Ms. Lagarde told the BBC that, legally speaking, the referendum will relate to proposals and arrangements that are no longer valid. Later on, Ms. Lagarde seems to have softened her positions and looks still ready to look for a solution. Greek people massively went to the ATM’s drawing money from their accounts. If banks would have opened today, the run on Greek banks would have intensified and bankruptcy of the banking sector would occur within day(s).

ECB freezes ELA ceiling at €89B

The ECB is now against its will at the centre of the Greek issue. Due to the deposit drain, Greek banks need more lending (currently about €89B) from their central bank under the Emergency Lending Assistance (ELA) arrangement of the ECB. The ECB ultimately decides (with 2/3 majority) whether the ELA funding needs to be stopped, whether the ceiling should be raised and/or whether a higher haircut needs to be applied on Greek collateral. The decision depends on two questions: are the Greek banks solvent and do they have enough collateral? if the Greek government defaults, the Greek lenders’ holdings of sovereign bonds and state guarantees would be in doubt and the ECB would be obliged to stop ELA to Greek banks.

The ECB decided during a Sunday conference call to maintain the ELA lifeline without increasing it. ECB’s Draghi always said that the ECB was rule‐based and needed to apply the rules. So, it could have meant that the ECB wants to wait at least till Tuesday to see whether Greece pays its IMF debt that comes due before ending ELA. More likely by freezing the ELA ceiling, it obliged the Greek government to act and prevent a bankruptcy of its banks (see lower). This would leave room for a very last political initiative to avoid a Greek default and eventual Grexit. It looks at this juncture that the referendum is the last political initiative. Finally, Draghi proposed in other circumstances “to do whatever it takes” to keep the integrity of the euro area intact.

Greek banks closed this week

The ECB press release says the ECB will work together with the Greek central bank to maintain financial stability. By keeping ELA stable, it increases pressure on Greek authorities to take measures to stop the outflow of deposits (this week?). Yesterday evening Greek authorities decided to keep the banks closed and install capital controls at least till the day after the referendum. The equity market will remain closed too.
Greek may draw at the ATM’s small amounts of €60 a day. It remains to be seen how it will influence the voting behaviour. Is it an attempt of Greek authorities to put the blame on Europe and trigger a “No” vote or is it a manoeuvre of the creditors to make voters angry on their government and vote YES?. Difficult to say how the Greek people will perceive the banking holiday.

ECB press release

The Governing Council of the European Central Bank today welcomed the commitment by ministers from euro area Member States to take all necessary measures to further improve the resilience of euro area economies and to stand ready to take decisive steps to strengthen Economic and Monetary Union.

Following the decision by the Greek authorities to hold a referendum and the non‐prolongation of the EU adjustment programme for Greece, the Governing Council declared it will work closely with the Bank of Greece to maintain financial stability.

Given the current circumstances, the Governing Council decided to maintain the ceiling to the provision of emergency liquidity assistance (ELA) to Greek banks at the level decided on Friday (26 June 2015).

The Governing Council stands ready to reconsider its decision.

As said, the ECB hasn’t pulled the trigger yet, but forced a Greek bank holiday and capital controls. It is unclear, but now unlikely, whether a non‐payment of the IMF debt on Tuesday will be enough to end the ELA and push the Greek banking system into bankruptcy. Remember that, in the case of Cyprus, capital controls helped to keep Cyprus in the euro area, even if the Cypriot government had to implement a strict austerity plan. The ECB will closely watch the reaction on financial markets and eventually react. It has various tools: temporary buying more sovereign bonds of the periphery, liquidity injection, even if liquidity is abundant or other measures. It might act aggressively to avert contagion as it did when Italy and Spain came under heavy pressure.

No cracks in the creditors’ unity?

The EU Commission published a copy of the last proposals on Greece. It said these were discussed on Friday night and would have been discussed further at the eurogroup meeting on Saturday where it may have resulted in a comprehensive solution. It might be true, but at least one can say that it came very late on the table as Greece asked already for much longer talks on the lightening of its debt burden and further financing. It represented the views of the three institutions, according to the EU Commission. However, it could not be formally finished due to the unilateral decision of the Greek authorities to abandon the process on Friday eve.
According the Commission, it was a comprehensive deal that would not only include the measures to be jointly agreed (with which the Greek government obviously didn’t agree), but also future financing needs and the sustainability of the Greek debt. It also included a package for new job creation and investment in the real economy.

In this context and given the polls that most Greeks want to stay in the euro area, the initiative of a referendum by Tsipras is difficult to understand. What does he want to obtain with this referendum? If indeed there is a “Yes” (accepting creditors’ proposals) vote in the referendum, it looks very likely Syriza will split or lose next elections.
How could they credibly implement the bailout programme? One of the big question is will the referendum be considered as a defining element or not by all parties. In case of a “No”, the ECB will stop the ELA and the Greek banking sector will go bankrupt, just like the government, in which case a Grexit is probably unavoidable. If it is a YES, there might be political turmoil inside Greece that may border to a civil war. What are the chances in that case, the deal will be implemented by the parliament? So, the referendum may not be the defining moment in this crisis.

The EU Commission was always the softest party on the creditors’ side. It will be interesting to get views from the IMF and the euro area countries on the way to go forward. Commission president Juncker will give a press conference today at 12h45. In the afternoon we expect views from Germany. France looks ready to work towards a last minute solution. The ECB by its actions seems also on board. The IMF has second thoughts, but for geopolitical reasons may agree to a deal after their deadline. More uncertain is the position of the Eurogroup and more specifically the Germans. Do they want to keep Greece inside the euro area?

Market reactions

The developments of the past three days have brought a Greek default very close, but there is still room to get out of this messy and chaotic situation. In any case, uncertainty will reign in the next days and new unexpected developments cannot be excluded. A default is not necessarily the end of the Greek euro area membership either. The treaties don’t provide rules for such situation. Of course, after a default, chances Greece will leave the euro area prime as they might start printing their own currency.

Given these uncertainties, risk‐off sentiment should dominate markets today and in the next few days. However, investors might be cautious before trading on a Grexit and wait for further signals from the players involved. Nevertheless, most investors were not positioned for such a kind of uncertainty and will look to protect themselves against a possible Grexit. There are still so many unknowns and the situation may continue to change hour by hour as we saw in the weekend. Overall though, risk‐off sentiment means German Bunds are favoured and so is spread widening in the peripheral bond markets, which the ECB will closely monitor. Also non‐German core and semi‐core bonds may show a modest spread widening. The euro and equities should be under pressure too, as well as all riskier assets. Gold should temporarily) profit. Whatever the ultimate outcome, we don’t expect a repetition of the turmoil in 2010‐2012/3. Contagion will be more limited, as Greece is small and not essential for the euro area and its debt is primarily held by official creditors. Risks for the banking sector are small. Longer term though, a Grexit would be very bad for the euro area as its suggests that the euro area is no genuine monetary union, but simply a system of fixed FX exchange rates that may periodically be adapted. It might also have an impact on the British EU referendum that is still a bigger threat for the EU. Such a longer‐term Grexit remains a risk whatever the shortterm outcome.