This is a guest post from Dr Joseph Clark
There is now a good chance the Greek government will default on its bonds. If it does, the impact on financial markets in Europe and elsewhere will be savage. Interestingly, there is actually no need for Greece to default. It is not, nor is it ever likely to be, bankrupt. It is a sovereign country with plenty of assets (like the Mediterranean coast) that could be used to pay off bondholders. If it defaults it will simply be because it doesn’t feel like selling these assets.
If the Greek government didn’t want to pay higher yields on its debts it could secure the bonds with assets. Like the Mediterranean coast, or the Acropolis, or all those unused Olympic Stadiums. Greece and countries like it only issue unsecured debt because they want the opportunity to default or restructure when it suits them.
The natural response of the market would (should) be to demand a higher yield on Greek bonds now and in the future. But that is unlikely to happen in the long term while Greece is part of the Euro and can blackmail the Germans (and the IMF, etc) into giving them bridging loans and, ultimately, restructuring the debt. (Nice international financial system you got there. Shame if anything were to happen to it.) As long as this is likely the debt market will (rationally) not charge as high a default premium on the debt. So the Greeks get cheaper borrowing rates at the expense of the rest of the world.
It is extremely unfortunate that the mechanism that would usually purge this kind of nonsense — credit rationing and higher yields — cannot operate while the world is convinced that any sovereign or large corporate default must be prevented at all costs to forestall a descent into Hades. But such is the prevailing thinking.