My big fat Greek debt

In early 2010, markets have been spooked by the Greek debt crisis. This is affecting central bankers and policy makers, who have just got over the stress of the global financial crisis and the impact on the world’s global financial institutions.

In fact, at the Reserve Bank of Australia’s 50th anniversary conference, that I attended last week, the Governor of the European Central Bank (ECB) Jean-Claude Trichet had to leave Sydney early to attend to troubles back home concerning the crisis in Athens.

But given the relatively small size of the Greek economy, why all the attention on Athens?

First of all, there’s the size of the Greeks’ public debt. In its February Statement of Monetary Policy, the RBA pointed out Greek government bond spreads have widened by around 210 basis points since November 2009 and that gross public debt in Greece is now worth around 120 percentage of GDP.

Secondly, there’s contagion, contagion and contagion. Some in the markets fear that Greece’s troubles as one of the ‘peripheral’ economies of Europe – known as ‘the PIIGS’ (ie. Portugal, Ireland, Italy, Greece and Spain), could have an impact on the whole of Europe and even beyond. After all, during the GFC, Europe has already seen Iceland melt down and there’s also been concern about the Baltic States given the current account deficits in some of those countries (that are similar to their South East Asian counterparts during the 1997-99 Asian Financial Crisis).

Thirdly, the Greek crisis is a bit of a test for the institutions of the European Union like the ECB and those economists who advocated a common currency. Greece and the rest of the PIIGS were lauded when they were growing fast but it is important to ‘the European project’ that Brussels help smooth out the bumps financially when the going gets rough.

What’s the impact on Australia? Fortunately, the trade exposure of Australia to Greece and the other PIIGS is minimal. Despite are strong immigration links there are only around 300 Australian businesses who export to Greece. Australia’s two way trade is only worth $229 million (exports $68 million and imports $161 million) and Australia’s investment to Greece is estimated to be worth around $443 million.

Most exporters have been able to rides out the worst of the crisis thanks to a strong showing in China, India, ASEAN and some of the other emerging economies. However, we do have to watch Europe closely because of our significant investment links and the strong potential we have for technology transfer with the continent. Australia, like the rest of the world does not want a Europe that’s economically weakened.

What’s the bottom line on Europe and the impact of the Athens crisis? While it is important to be watchful, there has been good news in the real economy in Europe. Even with negative headlines coming out of Athens, according to the RBA, European forecasts have been upgraded, with a modest turnaround in industrial production and better prospects for economic growth in 2010.

Will the International Monetary Fund (IMF) intervene? Probably not, as events in Greece are not like Argentina. And as common currency advocates argue, the ties to the common currency, saves countries from having the easy (but ultimately ineffective) option of continually devaluing when things go awry in their domestic economy.

So at the end of the day, it’s up to Brussels and the ECB to help Greece. And at a time when we’ve seen major financial institutions and corporations like General Motors bailed out, policy makers may just decide that in this instance, they’re too Greek to fail.

Tim Harcourt is Chief Economist with the Australian Trade Commission and the author of The Airport Economist.