Greek Tragedy

by, Tim McLaughlin, Senior VP, Weichert Financial Services

Q: Greece is dominating the news as of late with concerns over their economy, the potential impact on both the European “Euro” nations and here at home, and concerns on if/what their situation may do to interest rates, if anything. What is causing the issue, in high level terms? Can you provide some thoughts?

A: In providing a short answer to your question, it is the long history of the Greek government’s spending akrasia, the ancient Greek term that literally translates as “out of control.” This is the crux of what got them here.

In analyzing what is happening in Greece from a credit perspective, Greece is analogous to the subprime mortgages market in 2007, since it also represents a relatively small, low-profile sector of its broader asset class.

When the Greek government first revised up its budget deficit estimates late last year, few predicted it would eventually put the entire euro zone at risk, much as few foresaw the initial subprime mortgage defaults threatening the entire U.S. financial system.

As with 2008, a complex matrix of credit risk exposures between financial institutions is the conduit through which a seemingly isolated event is now spreading to the wider financial system. With small signs of stress beginning to creep into interbank lending markets, banks are again worrying about counterparty risk, particularly evident in credit default swaps.

In analyzing how this will impact the monetary and global-economic world, some believe that this will be the end of the Euro currency, at least in Greece. The odds of a sharp recession have increased, obviously, and naysayers are skeptical about any bailout plan based on recession stricken Portugal, Italy, and Spain contributing billions of Euros to the cause. We have the ECB adopting a pure bailout strategy by accepting all Greek collateral and have seen almost $150 billion in potential economic aid offered to the Greeks. This figure is almost 50% of Greek GDP, and is the equivalent of the United States needing 10x the TARP funds, One analyst likened it to Ohio going bankrupt and taking the entire US economic system down with it.

So what does it mean to mortgage rates if Europe tightens its “Euro belt”?

For the short term, in all likelihood, this would probably continue to help our rates since it would slow the recovery in Europe, reduce the chance of inflation around the world, and allow our Fed to keep short term rates low (monetary policy to be more accommodative) for longer than expected. A stronger US dollar is good for keeping inflation down. And the fact that US Treasuries are a safe haven investment option certainly helps our cause.