Alexis Tsipras Profile: Can He Impact The Euro Economy?

Now that Alexis Tsipras – a politician leading the left-wing Syriza party of Greece who promised to take radical economic actions “to rescue Greece” – has won Greece's general elections and become the new prime minister of Greece, the foremost question on many minds has been, what is going to happen next with the Greece economy, the Eurozone and its single currency, the Euro. (For more information on the Euro, see article: Five Economic Reports That Affect The Euro.) During his pre-election campaign Tsipras was using rhetoric that championed opposition to the EU austerity measures as he touted the new direction he would bring to Greece's economy under the motto, “no more bailouts, no more submission, no more blackmailing". He promised he would renegotiate the terms and conditions of outstanding government debt with the biggest holders of Greek debt -- the so-called troika: the European Union (EU), International Monetary Fund (IMF), and European Central Bank (ECB), in an effort to have certain debts written off, and to get the interest rate of the rest of debt reduced, as well as to ensure that the period until maturity for that remaining debt is extended. Tsipras, though less often of late, has tended to mention the possibility of Greece exiting the Eurozone if his terms and conditions are not accepted by these foreign monetary authorities. (For related reading, see article: Greek Euro Exit.) In this article we try to shed light on the potential effects that the new Greek government's actions could have on Greece's economy, as well as the other economies of the Eurozone, if Tsipras were indeed to implement the policies he has proposed.

Greece Sovereign Debt and Economy
As of the 3rd quarter of 2014 the face value of Greece's sovereign debt totaled about EUR 315 billion -- an amount that is approximately 176% of the country's GDP. (See video: Sovereign Debt Overview) This is almost twice the average ratio of the individual debt of the other 28 EU countries to their GDP figures, which is 86.6%. Greece's government debt to GDP ratio is in fact ranked as the highest among the Eurozone countries. The graph below illustrates the various European countries' government debt as a percentage of their GDP. (For related reading, see article: The GDP And Its Importance.)

Source of data and graph: Eurostat

After the first and the second bailout programs in 2010 and 2011, the EU, IMF and ECB together now own 78% of Greek sovereign debt (see the graph below). The bailout programs require the Greek government to take austerity actions and to strictly control state spending.

Source of the data: Six Key Points About Greece's Debt

Naturally, decreased spending further fueled the contraction of Greece's economy. The economic crisis led to social unrest and widespread public uproar, and caused a chain of events that led to the left coming to power in Greece. Tsipras' actions as Greek prime minister will play a major role in determining the country's economic future henceforth, but the outcome of his policies will extend beyond the realm of his political control, to the larger context, in which the policies and actions of the holders of Greek debt, as well as the reactions of other stakeholders in Greece's economy will also be at play. To begin with, it is very possible that Greece might request a restructuring of its debt, but it’s less likely that the creditors in question will agree with this: As Christine Lagarde, head of the International Monetary Fund, made it clear to The Irish Times: “A debt is a debt and it is a contract”. (See article: An Introduction To The International Monetary Fund.)

What if Greece defaults on its debt?
Tsipras' government may decide to default on its external debt – the debt that was aimed at the bailout of the Greece government. This action is not as easy as it sounds and could have more disastrous consequences for Greece than it would for the overall economy of the Eurozone. If Greece's government says “I can't and won’t pay my debt”, rating agencies will respond by further downgrading the sovereign rating (which is “B” as of 12 September 2014 by S&P) of the country to the lowest junk level or default level. (For a background on these agencies, see article: A Brief History of Credit Rating Agencies.) This would significantly raise the cost of any future borrowings by Greece. After all, no one would like to lend to someone who does not honor his obligation based solely on his own judgment. As Christine Lagarde says, “Defaulting, restructuring, changing the terms has consequences on the signature and the confidence in the signature.” This action would also trigger foreign financial institutions to withdraw their funds from Greek banks, which could result in a crisis in Greece's financial sector. It is apparent that the full economic consequences of a decision to default might not have been considered by Greek's new government, which might have viewed it more as a political ploy, than as policy. Blaming the troika (EU, IMF, ECB) of holders of Greek debt, for instance, seems to be an effort to gain political support. After all, it was not the troika who caused the large budget deficit nor the Greek economic crisis which prompted the disbursement of emergency funds to bail out the Greek economy.
There are other potential impacts of a Greek default that extend beyond the Greek economy, however. Other EU countries could suffer financial losses as a direct result of such a move on the part of Greece. Economists warn, for instance, that a possible default decision by Greece might have a contagious effect and trigger similar decisions by other highly leveraged countries, for instance, Italy, Portugal, Ireland (See the debt to GDP ratio graph above.), which may also choose to default on their government debt to the IMF, ECB or EC. That would lead to serious financial crisis in countries that are part of the Eurozone.

Is shifting back to the Drachma the best solution? (Read also: Greek Euro Exit)
Even though Tsipras has recently mentioned that he does not plan to discard the Euro as Greece's currency, this was in fact presented as an option in his past pre-election campaigns in 2012. Economists have therefore assessed the effect of such a decision. What would be the results of a decision by Greece to exit the Euro and return to the use of the drachma in order to regain control of its monetary supply by reacquiring the freedom to print money at its own discretion? Would this be the best solution? Supporters of this idea believe that by devaluing the drachma against the Euro and dollar, Greece could increase its exports, which would help the economy to recover. Those who are against this idea stress that the potential harm of reintroducing the devalued drachma would wipe out the possible benefits of a so-called Grexit, pointing out an inflation surge, and the risk of a collapse in the banking system as potential results of such a move.
What would the impact of a Grexit on the EU be? The total Nominal GDP of EU countries is about EUR 9.6 trillion, while Greece's GDP in 2013 was EUR 182 billion. Greece's economy thus constitutes no more than 2% of the Euro area's economy. Thus, because Greek's economy is just a tiny portion of the whole Eurozone economy, the Grexit event in itself would probably not have a disastrous effect on the economy of the EU. The risk that is posed to the EU by a Grexit, however, is the possibility that such an event could create a precedent that could be replicated by such countries as Spain, Italy, Portugal, Ireland etc., which could also choose to exit the Euro. (To read more about these Eurozone nations which are considered economically weak, see article: An Introduction To The PIIGS.) That would bring into question the ability of the Euro to survive.

The Bottom Line
The new government of Greece does not seem to estimate the potential economic effects on Greece of the policies its leaders promised to implement during its pre-election campaign. The option of defaulting on its debt or exiting the Euro could have hugely negative economic impacts that have likely not been fully assessed.