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The Bondholder Bailout

I hinted at it the other day, but would like to take a moment to dig a little deeper.  The framework with which we discuss the “Greek Bailout” is demonstrative of the POLITICAL challenges that both the U.S. and Europe will face moving forward.  Let me be clear about one thing off the bat and that is that the risks of a Greece default are two-fold: first, there is the risk to Greece in their future ability to access capital markets moving forward; second, there is the risk to bondholders of Greek debt.  This bailout in many respects did far more to protect bondholders than it did Greece.  Greece has/had options.  They can outright default and not pay back ANYTHING to their bondholders (like Russia in 1998), in which case there would be massive losses across asset classes in Europe and around the world (just the consideration of such a risk is crushing assets globally); OR they can negotiate a better deal with their bondholders and arrange a way through which both Greece and their creditors can share some of the pain.

I am in no way insinuating that Greece acted in the “right” way during the time leading up to this crisis.   They had a bloated public sector that should have been more vulnerable and/or expendable following the post-Lehman deflationary storm.  My point is more that the purpose of this bailout is to ensure that the losses suffered in Greece do not spread too mightily beyond the country’s borders.  Bailouts are inherently a conservative institution, as they are designed to protect the status quo, rather than accepting the costly need for short-term pain and change. Let me set the record straight once and for all: these bailouts protect wealth across Europe and not entirety of the Greek welfare state.

Those who lambaste Germany for bailing out Greece fail to realize that a considerable chunk of the losses in Greece will fall on the German economy no matter which way you slice it.  Greek consumers buy loads of German goods and German banks own plenty of Greek sovereign debt.   It is in their own self-interest that Germany is taking the unfortunate step of propping up sovereign debt across Europe.   Forget about the moral hazard.  This bailout offers sovereign debt owners a way to get out of their stupid investments without taking too much of the pain.  This is yet another example of the privatized upside and nationalized risk we saw play out in the United States throughout much of 2008.  One thing that is abundantly clear for Greece is that regardless of which solution they opt for (or that the powers that be arrange), the country MUST cut their spending and take a lot of pain.  This is not a bailout of the Greek welfare state.  It is dead.  The people can riot all they want, but in the real world, there is absolutely no way Greece can maintain the status quo.


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