The “Grexit” Explained: What’s Behind Greece’s Possible Eurozone Exit

Greece Stock MarketWhat to Know About Greece’s Potential Eurozone Exit (or “Grexit”)

Is anything more gripping right now than wondering how close Germany will let Greece get to the precipice before a crisis is averted at the last second?

Greece’s six-year recession came to a quiet end at the start of 2014. Since then, its recovery has been anemic. In 2014, the country’s economy expanded by 0.7%. It might gain traction this year, but that will be tough with a eurozone-topping unemployment rate of 25.8%. That’s down a little from the record 28.0% in September 2013, but it’s still more than double the eurozone’s average of 11.4%.

While most countries in the eurozone are dealing with serious challenges, many believe Greece’s economic issues are unique and go back to its pre-eurozone days. For decades, Greece’s economy has been weighed down from continuously increasing debt and a large deficit.

One that was left entirely unchecked. In 2001, Greece became the 12th country to join the eurozone with the promise of greater economic stability and prosperity. A closer look at Greece’s budget figures shows the country didn’t actually meet the conditions necessary to join the eurozone.

European Union countries were supposed to keep their deficits below three percent. Greece said it had, but in actuality, its deficit was an eye-watering 12.7% of its gross domestic product (GDP). With no one checking the books to make sure everything is on the up and up, it appears as though any country could fudge its numbers to gain entry to the eurozone.

And on top of the decades of economic stagnation and fudged numbers are the country’s unsustainable benefits, which bloat Greece’s budget by billions of euros every year. That includes an early retirement age of 50 and civil servants getting paid extra for using a computer, arriving to work on time, and working outdoors. All Greek public and private sector workers got 14 monthly salary payments every year, including an extra half-month paid at Easter and during the summer, and the 14th month being paid at Christmas.(1)

Greece Turns to Austerity Measures to Stay Afloat

Not surprisingly, this sort of spending was unsustainable and made it difficult for the country to make payments on government debt. What wasn’t surprising were the riots that took place in 2005, when the newly elected right-wing government tried to impose an austerity budget to get public finances back on some sort of track.

As you can imagine, the right-leaning government was voted out in late 2009 by George Papandreou, the man of the people, who promised a modern social welfare state with financial injections in public health and education.

Once in office, however, Papandreou magically discovered Greece was in financial ruin. And the only way to bring the country back from the brink was to bring in austerity measures. That included reducing salaries, social programs, wages, and pensions, in addition to higher taxes for low- and middle-income families.

Papandreou apparently learned what everyone else has known since they got their first allowance: you can’t buy what you can’t afford—and you can’t live beyond your means forever.

Troika Life Support: How the Eurozone Bailed Out Greece

In late 2009, the Greek financial crisis heated up when credit rating agency Fitch cut Greece’s long-term debt to BBB+ from A-. This pushed up the cost of borrowing. With Greece’s debt level reaching record levels, Papandreou asked for a bailout and in April 2010, rating agency Standard & Poor’s slashed the country’s credit rating to BB+.

On May 2, 2010, the International Monetary Fund (IMF), the European Union (EU), and the European Central Bank (ECB)—the “troika”—granted Greece 110 billion euros in aid. But to get the bailout money, Greece had to agree to some much-maligned austerity measures, such as cuts to government services and higher taxes.

But it wasn’t enough. In July 2011, EU leaders handed over an additional 109 billion euros in aid. A few months later, eurozone leaders agreed to write off 50% of Greece’s debt in return for further austerity measures.

Like most politicians, Papandreou is not fond of negative attention or criticism and announced a referendum on the rescue package. But he couldn’t stand the heat. In November 2011, Papandreou announced his resignation.

Fast-forward to today, and Greece’s economy is no better off. All told, Greece’s total debt stands at 323 billion euros. The bulk of it (60%) came from the eurozone, bonds (15%), the IMF (10%), and the ECB (6%).(2)

Anti-Austerity Elections: The Beginnings of a “Grexit?”

On January 25, Greece elected a left-leaning anti-austerity party. Newly elected Prime Minister Alexis Tsipras says his party wants to have the country’s debt reduced and the terms of its original agreement renegotiated. But Germany, the largest contributor from the EU, has rejected the idea.

To add fuel to the fire, Tsipras plans to keep all his pre-election pledges, including raising the minimum wage, paying a pension bonus, and rehiring public workers. He has also threatened to pull Greece out of the EU if he doesn’t get what he wants!

The stalemate cannot go on forever; funds expire at the end of February. Without a new accord, Greece could run out of money!

Four More Months! Eurozone Extends Greece’s Bailout

As is often the case, a deal is always reached at the last minute. Tsipras softened his stance and late Friday afternoon (February 20, 2015), it was announced that the European leaders agreed to extend Greece’s bailout for an additional four months. But the breathing room comes with stipulations.(3)

Will Greece be able to come up with a real plan to deal with its heaving debt load in four months? It’s not like the country’s financial crisis is new. The extension will provide Greece with a little wiggle room, but in the end, it is still borrowing money and in serious financial trouble.

The bright spot? Wall Street loves a happy ending. The four-month breakthrough helped lift U.S. stocks to record-highs. And it helped the euro rally…at least for now. The drama will return early this summer.