Will Greece Leave the EU Monetary Union?

by Marc Chandler

Seeking Alpha
May 9, 2011

The unscheduled meeting between several euro zone finance ministers, Eurogroup head Juncker, EU Monetary Affairs Commissioner Rehn, ECB President Trichet and a few other senior officials was important. It marks the official recognition that the year-old Greek aid package is not working. This does not mean that Greece is about to exit monetary union, rather it means officials are going back to the drawing board and re-evaluating their options. It raises the significance of next week's (May 16) summit of European finance ministers.

Drawing on my analysis of other debt crisis, I have consistently argued that Greece (and Ireland, and possibly Portugal) will have to restructure their debt. In a recent post "Catalysts for Changing FX Drivers", I argued European officials would soon have to make some difficult decisions because Greece needs more funds and it would most likely not be able to effectively tap the capital markets next year as the IMF/EU assistance program had assumed.

Moreover, the austerity measures that Greece had taken to access the assistance had driven the country into a deep contraction. The more the economy contracts, the lower the tax revenues fall, and the greater the counter-cyclical spending becomes.

Recently Eurostat estimated the 2010 deficit at 10.5% of GDP not the 9.4% the government had estimated and well above the 8.1% target. Greece needs new assistance and for the first time European officials recognize this. This is an important first step: acknowledge the issue. What is now under discussion is how to do it and under what terms. Measures under discussion include pushing further out in time deficit targets, easing terms of the 80 bln euros from the EU as part of the 110 bln 2010 package, additional aid from the EFSF, bond purchases by the EFSF,voluntary restructuring of some of Greece's sovereign debt, held by private investors.

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