GREECE AND THE WHITE SWANS
(UPDATED 6th JULY)
It has become customary for investors and commentators to worry about unforeseeable “black swan events”. They might be better advised to note the number of perfectly normal, eminently visible white swans that are circling over us right now. The idea that what has happened in Greece is some kind of freak event that “couldn’t happen here” is simply nonsense.
It could happen here, and, indeed, it probably will.
In a 1968 episode of the radio comedy Round the Horne, a misunderstanding takes place between the Emperor Nero (Kenneth Williams) and a messenger (Hugh Paddick). The messenger arrives with urgent news of Greece – but it turns out to be grease, and it has all been stolen.
It’s a terrible pun, of course, but in today’s context it’s also a terrible fact. Pretty much however you look at it, the wealth and prosperity of Greece have gone. Apportioning blame for this state of affairs, though not wholly pointless, is less important than looking at what might happen next, and at where it might happen.
In my previous article, I looked at whether the Greek crisis was the forerunner of a broader crash, which I’m convinced that it is. Here I take this theme somewhat further, looking at the dynamics of collapse, and at what warning signs we might be able to detect ahead of the event.
Though (at time of writing) we still await the outcome of the referendum called by Alexis Tsipras, it is clear that the choice before the electorate is between bad and worse. Though the most recent offer from creditors is no longer on the table, it’s pretty clear that it will be (in some shape or form) if the Greeks vote to succumb. If they vote no, however, Greece is likely to be a failed state, certainly within weeks and possibly within days. What does this really mean?
An economy in ruins
In the absence of emergency liquidity from the European Central Bank (ECB), the Greek banking system has all but ceased to function. Individuals can draw up to €60 per day from their accounts, but even this may stop within days, as there is reckoned to be only €500m of liquidity in the system (which is less than €50 per Greek citizen). Once this liquidity runs out, no-one will have any money to spend. In reality, that point has now been reached.
Already, the government cannot pay pensions or public sector salaries, but the biggest problem of the lot is that businesses cannot pay their suppliers. This means that the supply chain has snapped.
Once that happens, an economy is dead in the water.
Meanwhile, latest research from the International Monetary Fund (IMF) shows that, over the coming three years, Greece will need further loans of €50bn, in addition to the currently-suspended €7.2bn final tranche of the current bailout programme. Even this estimate looks optimistic, as it assumes Greek compliance with the agreement with its creditors, only modest shrinkage in real GDP, and the availability of funds at extremely favourable rates of interest. As a creditor, of course, the IMF might be scare-mongering, but I doubt it – the calculations used in the report look pretty solid.
Please note – especially when looking at other potential crises – is that what really matters isn’t aggregate debt (of €330bn) but the smaller, but critical, €57bn liquidity imperative.
The choice facing Greece is thus between immediate economic collapse or a long period convalescing in what amounts to a secure hospital, with bars on the doors and guards at the gate.
As of the most recent (2012) census, the Greek population was 10.8 million, so further loans of €57bn equate to almost €5,300 for each man, woman and child in the country, just to keep things ticking over. For comparison, per capita GDP is of the order of €15,000. As a rough equivalent, we are talking about Britain’s 63 million citizens needing to borrow about £560bn just to keep going until the end of 2018.
As we shall see, that figure is well worth bearing in mind.
The anatomy of collapse
The immediate issue, however, is that Greece is at the point of collapse.
You might think that the problem is simply a financial one, and that the “real economy” of goods and services should continue to function even if Greece has debts that it cannot repay.
The reality, however, is that the entire economy is already ceasing to function. With Greek banks effectively bust, money cannot circulate in the economy – workers and pensioners cannot be paid, and neither can suppliers, so there will be nothing in the shops even if you happen to have stored some Euro banknotes in a safe or a mattress.
(In parenthesis, I am amused by the British authorities’ brilliant advice to those holidaying in Greece, which is that everything should be fine if they take enough cash with them. I will be interested to see how far that cash gets them when there is nothing in the shops, no food or staff in restaurants, bars or hotels, and no petrol in buses or taxis. But I digress).
In his book The Five Stages of Collapse, Dmitri Orlov explains that finance will collapse first because it is a house of cards predicated on the assumption of perpetual growth. He also demonstrates, mathematically, that the cost of debt service will always outgrow the economy – something that we can all observe by looking at the ratios of debt to GDP across the world over the last three decades.
What happens next, Orlov explains, is that the collapse of finance is followed by the collapse of commerce. What Greece is showing us, however, is that these collapses are virtually simultaneous. If the banking system ceases to function, so do all commercial transactions, because the supply chain is severed in real time. How, without cash, can Greek businesses pay their staff, pay their suppliers or receive payment from customers? How, without tax income, can the state pay salaries or pensions? Would you, as a supplier, provide goods to a customer who you know has no access to money? Would you supply drugs to a hospital which cannot pay you for them? And, as a foreign supplier, would you export food or energy to a bankrupt customer?
Three sources of false comfort
Of course, there are three reflections that might comfort outsiders that what has happened in Greece “cannot happen here”.
First, there is the patronising belief that the Greeks have somehow behaved extremely stupidly.
Second, there is the observation that Greek debt, at some €330bn, is pretty small stuff in the global scale of things.
Third, of course, we can comfort ourselves that a Eurozone with a GDP of about €15 trillion ought to be able to cope with debt of this magnitude.
If you did draw comfort from these observations, you would be wrong on all three counts.
To be sure, Greeks and their governments have behaved fecklessly, but are we really much different? The Greeks may have been poor men living like rich ones, but walk down any seemingly-prosperous street in Britain or America and ask yourself quite how much debt is represented by the smart houses and expensive cars that you see there. The days when possessions indicated affluence are long gone, and the far greater likelihood today is that possessions indicate indebtedness. Look, next, at how much debt the British and American governments have, how much they are still adding to their debt piles, and how much they have taken on in off-balance-sheet obligations such as public sector pension promises.
If you tot that lot up, and, even before you include unprecedented levels of household debt, you will realise quite how hypocritical it is when Britons or Americans accuse Greeks of fecklessness. In Britain, for example, I confidently expect the Chancellor to find more money for the National Health Service (NHS) whilst further cutting already-inadequate defence expenditures at the outset of what the Prime Minister himself has called an “existential” war.
Feckless is as feckless does.
The second source of comfort – which is the modest scale of Greek debt – is also gravely misplaced. As Zac Tate has explained in an excellent article at CapX, the global banking system is owed $17 by China for each $1 owed by Greece, largely because Chinese household debt has soared from 60% to 200% of GDP in just five years. That, as Tate explains, is a vastly larger debt increase than the subprime madness that crippled the American financial system and triggered the 2008 banking crisis.
Within the Chinese debt mountain, it seems that somewhere between $2 and $3 trillion is already mired in “problem loans”, even before excess debt starts to exert its inevitable downwards pressure on broader debt viability. Again, the scale of British and American debt should reinforce what the Chinese numbers are telling us about the true scale of the problem.
The third comforting illusion – which is that Greece can probably be rescued by someone – is true, but only of Greece. The Eurozone or the IMF might be able to bail out Greece, but no institution exists capable of rescuing, say, America, Britain or China. For the world’s really big debt junkies, there will be no Seventh Cavalry riding to the rescue, not even with General Custer in charge.
The caravan of collapse moves on
As Richard Vague has pointed out, the ramping up of debt in China parallels the situation in Japan in 1991 and the United States in 2007. Far from being an unpredictable, “black swan” event, the crashes that followed in Japan and America were eminently predictable, flagged well in advance (for anyone willing to see the warning signals) in the rapid rise of household debt.
Earlier, I commented that the Greek scale of illiquidity – the need to find €57bn just to keep the system ticking over – equated to about £560bn in the context of the British population and GDP. Actually, this sum is exceeded by property debt downside in the UK. So, in terms of where such a cataclysmic loss could actually show up, we surely need look no further than the bloated housing market, where a one-third fall in paper values would easily wipe that much and more off the balance sheets of mortgage lenders.
Housing values have been ramped up by the stimulus of ZIRP (zero interest rate policy) which was itself taken on to cope with the previous asset bubble crisis. Therefore, even the most modest rise in interest rates could torpedo property values and, by setting off a full-blown crisis in the banking system, could cripple the economy, causing liquidity to dry up almost overnight.
That such a thing could happen is itself made more likely by ZIRP because, whilst making reckless property borrowing affordable, ZIRP has also ushered in the contradiction of a supposedly “capitalist” economic system operating without returns on capital.
So we need to stop worrying about “black swans”, taking note instead of the white ones.
We also need to stop thinking that Greece is some kind of “strange bird” experiencing something that “couldn’t happen here”.
Rather, Greece is the canary in the coal mine.
UPDATE, 6th July 09.52
I love this headline from the BBC – “Markets volatile after Greek vote”.
Nothing to do with China, then. That’s comforting.
Chinese debt to global banks is 17x that of Greece, and no-one can bail out China.
The Chinese authorities seem to have been (a) converting state-owned enterprise (SOE) debt into equity, and (b) stoking up the market for ‘feel-good’ reasons.
Now the hyper-inflated Chinese equity market is in free-fall. China’s brokers have pledged $19bn to stop the market falling, thereby surely qualifying for a Darwin award for self-destructiveness as well as the King Canute Memorial Prize for trying to stop the unstoppable. The authorities are probably looking for messengers to shoot.
And the problem has nothing to do with ultra-relaxed lending policies, or household debt climbing from 60% to 200% of GDP over five years……