Greek Election Leaves Pyrrhic Victory Risk As Aid Talks Near

Greece survived to fail another day, say economists at Royal Bank of Scotland Group Plc and Citigroup Inc. (C)

An election result yesterday that defused expectations of an imminent euro exit by Greece left the threat hanging over the global economy and put European leaders under pressure to speed efforts to protect the rest of the region. Spanish 10-year bond yields soared above 7 percent for the first time in the euro era, showing investor concern of the relentless financial turmoil.

“The election has solved little and in our view is actually just another iteration towards the risks of a euro exit,” said Harvinder Sian, senior rates strategist at RBS in London. ‘The adjustment path is likely to remain too much for Greece to bear.”

Greece, dependent since 2010 on emergency loans from the European Union and International Monetary Fund, has to meet the creditors’ conditions to keep the aid flowing. The route to continued support involves axing 11.5 billion euros ($14.5 billion) from the budget and 150,000 civil service jobs, said Sian, leaving him holding fast to his pre-election view of a 90 percent chance Greece quits the euro within two years.

To form a parliamentary majority, Greece’s two traditional political rivals,New Democracy, led by Antonis Samaras, and the Socialist Pasok party, led by Evangelos Venizelos, must form a coalition.

‘Very Tense’

That politicking still makes for “very tense days in Greece,” said Holger Schmieding, chief economist at Berenberg Bank in London.

Schmieding still said the probability Greece is in the euro by the end of 2012 is now 75 percent. Fitch Ratings said the election results meant “the near-term risk of a Greek disorderly debt default and exit from the euro has fallen” as it announced it would not put all euro-area countries on watch for a downgrade.

Even if Samaras wins enough allies, the country is left prone to shocks given the anti-bailout Syriza party’s second- place finish and ability to organize protests, said Juergen Michels, an economist at Citigroup in London. Syriza leader Alexis Tsipras refused to join a unity government and will remain in opposition.

Greece, mired in a fifth year of recession, has been ordered by Europe’s governments to enact promised spending cuts in return for 240 billion euros in rescue packages since 2010. While its 2009 budget deficit topped 15 percent, the European Commission estimates it still faces a cumulative fiscal gap in 2013-2014 of 5.5 percent of GDP and has failed to meet targets for tax collection, state asset-sales and public procurement.

‘No Loosening’

Failure to mollify donors that they can deliver leaves the country at risk of a suspension of bailout payments. Syriza says Greece risked running out of cash in mid-July.

German Chancellor Angela Merkel said today that the new Greek government must stick with the rescue commitments and that “there can be no loosening on the reform steps.”

Even as European officials have signaled a willingness to relent on some austerity measures, that may still not be enough to save Greece, said Morgan Stanley (MS) economists including Daniele Antonucci. A revised program is likely to entail an average annual reduction of 5 billion euros in interest payments, a longer time frame for repayment and more loans from the European Investment Bank, they said in a report today.

Not Enough

Those sops will nevertheless fail to return the country to solvency soon enough, they said. Their estimates show that while the bailout program targets debt at 120 percent of GDP by 2020, that is still north of the 90 percent level they deem sustainable and is more likely to be 140 percent.

The economy also remains unlikely to generate new budget revenue, said Huw Pill, chief European economist at Goldman Sachs Group Inc. (GS) in London. The recession and unemployment above 20 percent are draining confidence, undermining credit growth and decimating investment, he said.

That all makes it likely that even if Greece can do what it takes to secure another round of funding, subsequent quarterly reviews of the aid program are likely to be “nerve-wracking” and the debt it owes to other governments will need to be restructured at some point, said David Bloom, chief currency strategist at HSBC Holdings Plc.

The threat from Athens leads Nick Kounis, head of macro research at ABN Amro Bank NV, to say the rest of Europe must accelerate efforts to protect Spain and Italy. Greece’s repeated failure to regain control of its fiscal accounts has been matched by Europe’s inability to contain the crisis.

G-20 Talks

Much of Europe’s high command headed by Merkel meets counterparts from the Group of 20 in Mexico today before ministerial meetings this week and then a June 28-29 Brussels summit.

The challenge for the month-end talks is whether governments can rally around a plan to embrace a fuller union through fiscal integration and stronger banking ties. Leaders will pledge “to mobilize all levers and instruments” to ensure financial stability and tackle the crisis, according to June 15 draft conclusions prepared for the summit and obtained by Bloomberg News.

The Brussels meeting “will be a litmus test of the political will to take a major leap forward,” said Kounis. “Major challenges remain ahead for both Greece and the euro zone.”


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