On Wednesday, May 6, Greece made a 200-million-euro (US$220 million) repayment to the International Monetary Fund (IMF). Although Greece managed to find enough cash for this interest payment, it’s far from time to relax. The country owes a 750-million-euro payment within a week, due May 12.
On May 5, Greek Deputy Prime Minister Yannis Dragasakis met with European Central Bank (ECB) President Mario Draghi to discuss more financial breathing room for the Greek government, which is facing an immediate cash crunch.
One government official said anonymously that there were “serious disagreements between the IMF and the EU,” which result in negotiation obstacles. The official concluded, “Against this background, there cannot be a compromise.” (Source: Reuters, May 5, 2015.)
Greek stocks fell by almost four percent on Tuesday. Bonds are also experiencing a selloff: yields on two-year notes were almost at 21%. To say the least, investors aren’t liking what they’re hearing.
Greece in the Eurozone: a Bad Idea?
In hindsight, Greece should not have joined the eurozone in the first place. There were strict criteria for countries that wanted to join the European Union. One of those requirements was in the form of the Stability and Growth Pact, which dictates that government deficit be no greater than three percent of GDP annually and national debt to be less than 60% of GDP. According to a former ECB economist, Greece did not meet those requirements and allegedly “cheated” its way into the eurozone. (Source: Bloomberg, last accessed May 6, 2015.)
Greece has not been a major contributor to the eurozone’s economy either. Looking at the country today, its contribution to the eurozone’s GDP is a mere two percent.
To make matters worse, by joining the eurozone, Greece has effectively given up its monetary policy autonomy. This means Greece cannot print money to boost its economy like the U.S. did or devalue its currency to make its exports more attractive.
The Effect on the U.S.
Things happening in Europe seem pretty far away from the U.S. But the U.S. is not an economic island; its economic performance can be affected by waves of uncertainty generated from anywhere around the world.
If Greece’s hefty debt burden finally becomes so large that default is in sight, or if Greece leaves the eurozone, there would be huge uncertainty in Europe. This would put downward pressure on the euro. In turn, the U.S. dollar would appreciate. A stronger dollar hurts U.S. exports. Note that in March, the U.S. trade deficit reached its highest point in more than six years.
Also, a large number of American companies operate in Europe. Greece impacting its region can result in U.S. companies losing out on revenue and eventually profit.