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8 Reasons Why The Greek Debt Deal May Not Stop A Chaotic Greek Debt Default

The global financial system is not a game of checkers.  It is a game of chess.  All over the world today, news headlines are proclaiming that this new Greek debt deal has completely eliminated the possibility of a chaotic Greek debt default.  Unfortunately, that is simply not the case.  Rather, the truth is that this new deal actually “sets the table” for a Greek debt default.  When I was studying and working in the legal arena, I learned that sometimes you make an agreement so that you can get the other side to break it.  That may sound very strange to the average person on the street, but this is how the game is played at the highest levels.  It is all about strategy.  And in this case, the new debt deal imposes such strict conditions on Greece that it is almost inevitable that Greece will fail to meet some of them.  When Greece does fail, Germany and the other northern European nations may try to claim that they “did everything that they could” but that Greece just did not “live up to its obligations”.  So does this mean that we will definitely see a chaotic Greek debt default?  No.  What this does mean is that the chess pieces are being moved into position for one.

The following are 8 reasons why the Greek debt deal may not stop a chaotic Greek debt default….

#1 Greece Is Being Set Up To Fail

The terms of this new debt deal impose some incredibly harsh austerity measures on Greece and from now on the Greek government will be subject to “permanent monitoring” by EU officials.

In other words, they will be under a microscope.

Any violation of the terms of the debt deal could be used as a pretext to bring down the hammer and cut off bailout funds.  Potentially, this could even happen just a few weeks from now.

It has become obvious that there are many politicians in Europe that would very much like to kick Greece out of the euro.  In a recent column, the International Business Editor of The Telegraph summed up the situation this way….

It is clear that Berlin, Helsinki, and the Hague have taken the decision to eject Greece from the euro whatever the country now does. Even if Greece complies to the letter with the impossible terms of the EU-IMF Troika, it will not make any difference. A fresh pretext will be found.

#2 The Next Greek Election Could Bring An End To The Bailout Deal Overnight

The next national Greek elections are scheduled for April.  Political parties opposed to the bailout have been surging in recent polls.  It is becoming increasingly likely that the next Greek government will abandon this new deal entirely.

The following is what hedge fund manager Dennis Gartman told CNBC about what is likely to happen after the next elections….

“A new government is going to come to power following elections that shall take place sometime this spring, and if anyone anywhere believes that the next Greek government shall do anything other than abrogate all the agreements made with the ‘troika,’ then we have a bridge we’d like to sell them at a very high price”

With each passing day anger and frustration inside Greece continue to rise, and those that are currently holding power in Greece are becoming very unpopular.

One current member of Greek Parliament recently talked about what he thinks will happen in the aftermath of the next election….

“If we achieve a Left-dominated government, we will politely tell the Troika to leave the country, and we may need to discuss an orderly return to the Drachma”

#3 This Bailout Deal Is Going To Make Economic Conditions In Greece Even Worse

In a previous article, I listed some of the new austerity measures that are being imposed on Greece by this new agreement….

The EU and the IMF are demanding that Greece fire 15,000 more government workers immediately and a total of 150,000 government workers by 2015.

The EU and the IMF are demanding that wages for government workers be cut by another 20 percent.

The EU and the IMF are demanding that the minimum wage be slashed by more than 20 percent.

The EU and the IMF are also demanding significant reductions in unemployment benefits and pension benefits.

The austerity measures that have already been implemented over the past few years have already pushed Greece into an economic depression.

These new austerity measures will deepen that depression.

At the moment, the Greek national debt is sitting at about 160 percent of GDP.

We are being told that these new austerity measures will reduce that ratio to 120 percent by 2020, but already there are many in the financial world that are calling such a goal “comical“.

Even with this new deal, the Greek national debt is still completely and total unsustainable.  A “confidential report” produced by analysts from the European Central Bank, the European Commission, and the International Monetary Fund says the following about what this new debt deal is likely to accomplish….

There are notable risks. Given the high prospective level and share of senior debt, the prospects for Greece to be able to return to the market in the years following the end of the new program are uncertain and require more analysis. Prolonged financial support on appropriate terms by the official sector may be necessary. Moreover, there is a fundamental tension between the program objectives of reducing debt and improving competitiveness, in that the internal devaluation needed to restore Greece competitiveness will inevitably lead to a higher debt to GDP ratio in the near term. In this context, a scenario of particular concern involves internal devaluation through deeper recession (due to continued delays with structural reforms and with fiscal policy and privatization implementation). This would result in a much higher debt trajectory, leaving debt as high as 160 percent of GDP in 2020. Given the risks, the Greek program may thus remain accident-prone, with questions about sustainability hanging over it.

The GDP of Greece fell by 6.8 percent during 2011.

2012 was already expected to be even worse, and all of these new austerity measures certainly are not going to help things.

And every time the Greek economy contracts that makes a chaotic debt default even more likely.

#4 The Greek Parliament Must Still Vote On This Bailout Deal

It is anticipated that the Greek Parliament will vote on this new agreement on Wednesday.

It is expected to pass.

But when it comes to Greece these days, there are no guarantees.

#5 The Greek Constitution Must Still Be Modified

Under the terms of this new agreement, Greece is being required to change its constitution.

The following is how an article in The Economist describes this requirement….

Over the next two months Greece has promised to adopt legislation “ensuring that priority is granted to debt-servicing payments”, with a view to enshrining this in the constitution “as soon as possible”. These arrangements may not amount to the budget  “commissar” once threatened by some creditors, but the effect may be pretty much the same.

So will this actually get done?

We will see.

Forcing a sovereign country to modify its constitution is a very serious thing.  If I was a Greek citizen, I would be highly insulted by this.

#6 Several European Parliaments Still Need To Approve This Deal

The German Parliament still must approve this new agreement.  This is also the case for the Netherlands and Finland as well.

Many politicians in all three nations have been highly critical of the Greek bailouts.

It is expected that all of these parliaments will approve this deal, but you just never know.

#7 Private Investors Still Have To Agree To This New Deal

Private investors are being asked to take a massive “haircut” on Greek debt.  The following is how the size of the “haircut” was described by a USA Today article….

Banks, pension funds and other private investors are being asked to forgive some €107 billion ($142 billion) of the total €206 billion ($273 billion) in devalued Greek government bonds they hold.

There is absolutely no guarantee that a solid majority of private investors will agree to this.

In the end, probably the only thing that is guaranteed is that litigation regarding this “haircut” is likely to stretch on for many years to come.

#8 The Global Financial Community Still Expects Greece To Default

Almost all of the analysts that were projecting a chaotic Greek debt default are still projecting one today.  Yes, many of them believe that “the can has been kicked down the road” for a few months, but most of them are still convinced that a default by Greece is inevitable.

The following comes from a Bloomberg article that was released after the Greek debt deal was announced….

“The danger of Greece saving itself into economic depression and having to default and exit the common currency zone remains substantial,” said Christian Schulz, an economist at Berenberg Bank in London. Jennifer McKeown of Capital Economics Ltd. repeated her forecast that Greece will quit the euro by the end of the year.

The odds that this agreement will survive for very long are not great.

It will be nearly impossible for Greece to meet all of the conditions being imposed upon it by this new deal.  All of the politicians in northern Europe that are just itching to cut off aid to Greece will soon have the excuse that they need for doing so.

And the Greek people could decide to bring all of this to an end very quickly.  If they elect a new government in April that does not support this bailout agreement, the game will be over.

So don’t be fooled by all the headlines.

A chaotic Greek debt default has not been averted.

The truth is that a chaotic Greek debt default is now closer than ever.

Be Honest – The European Debt Deal Was Really A Greek Debt Default

Once the euphoria of the initial announcement faded and as people have begun to closely examine the details of the European debt deal, they have started to realize that this “debt deal” is really just a “managed” Greek debt default.  Let’s be honest – this deal is not going to solve anything.  All it does is buy Greece a few months.  Meanwhile, it is going to make the financial collapse of other nations in Europe even more likely.  Anyone that believes that the financial situation in Europe is better now than it was last week simply does not understand what is going on.  Bond yields are going to go through the roof and investors are going to start to panic.  The European Central Bank is going to have an extremely difficult time trying to keep a lid on this thing.  Instead of being a solution, the European debt deal has brought us several steps closer to a complete financial meltdown in Europe.

The big message that Europe is sending to investors is that when individual nations get into debt trouble they will be allowed to default and investors will be forced to take huge haircuts.

As this reality starts to dawn on investors, they are going to start demanding much higher returns on European bonds.

In fact, we are already starting to see this happen.

The yield on two year Spanish bonds increased by more than 6 percent today.

The yield on two year Italian bonds increased by more than 7 percent today.

So what are nations such as Italy, Spain, Portugal and Ireland going to do when it costs them much more to borrow money?

The finances of those nations could go from bad to worse very, very quickly.

When that happens, who will be the next to come asking for a haircut?

After all, if Greece was able to get a 50% haircut out of private investors, then why shouldn’t Italy or Spain or Portugal ask for one as well?

According to Reuters, German Chancellor Angela Merkel is already trying to warn other members of the EU not to ask for a haircut….

Chancellor Angela Merkel said on Friday it was important to prevent others from seeking debt reductions after European Union leaders struck a deal with private banks to accept a nominal 50 percent cut on their Greek government debt holdings.

“In Europe it must be prevented that others come seeking a haircut,” she said.

But investors are not stupid.  Greece was allowed to default.  If Italy or Spain or Portugal gets into serious trouble it is likely that they will be allowed to default too.

Investors like to feel safe.  They want to feel as though their investments are secure.  This Greek debt deal is a huge red flag which signals to global financial markets that there is no longer safety in European bonds.

So what is coming next?

Hold on to your seatbelts, because things are about to get interesting.

Around the globe, a lot of analysts are realizing that this European debt deal was not good news at all.  The following is a sampling of comments from prominent voices in the financial community….

*Economist Sony Kapoor: “The fact that a deal has been agreed, any deal, impresses people. Until they start de-constructing it and parts start unravelling.”

*Economist Ken Rogoff: “It feels at its root to me like more of the same, where they’ve figured how to buy a couple of months”

*Neil MacKinnon of VTB Capital: “The best we can say is that the EU have engineered a temporary reprieve”

*Graham Summers of Phoenix Capital Research:

First off, let’s call this for what it is: a default on the part of Greece. Moreover it’s a default that isn’t big enough as a 50% haircut on private debt holders only lowers Greece’s total debt level by 22% or so.

Secondly, even after the haircut, Greece still has Debt to GDP levels north of 130%. And it’s expected to bring these levels to 120% by 2020.

And the IMF is giving Greece another $137 billion in loans.

So… Greece defaults… but gets $137 billion in new money (roughly what the default will wipe out) and is expected to still be insolvent in 2020.

*Max Keiser: “There will be another bailout required within six months – I guarantee it.”

The people that are really getting messed over by this deal are the private investors in Greek debt.  Not only are they being forced to take a brutal 50% haircut, they are also being told that their credit default swaps are not going to pay out since this is a “voluntary” haircut.

This is completely and totally ridiculous as an article posted on Finance Addict pointed out…

We now know that private holders of Greek bonds will be “invited” (seriously–this was the word used in the EU summit statement) to take a write-down of 50%–halving the face value of the estimated $224 billion in bonds that they hold. This will help bring the Greek debt-to-GDP ratio down from 186% in 2013 to 120% by 2020. The big question–apart from how many investors they will get to go along with this, given that they couldn’t reach their target of 90% investor participation when the write-down was only going to be 21%–is whether this will trigger a CDS pay-out.

That this is even up for discussion is mind-boggling. These credit default swaps are meant to be an insurance policy in case Greece doesn’t pay the agreed upon interest and return the full principal within the agreed timeframe. If they don’t pay out when bondholders are taking a 50% hit then what’s the point?

European politicians may believe that they have “solved” something, but the truth is that what they have really done is they have pulled the rug out from under the European financial system.

Faith in European debt is going to rapidly disappear and the euro is likely to fall like a rock in the months ahead.

The financial crisis in Europe is just getting started.  2012 looks like it is going to be an extremely painful year.

Let us hope for the best, but let us also prepare for the worst.

Europe Tries To Kick The Can Down The Road But It Will Only Lead To Financial Disaster

Have you heard the good news?  Financial armageddon has been averted.  The economic collapse in Europe has been cancelled.  Everything is going to be okay.  Well, actually none of those statements is true, but news of the “debt deal” in Europe has set off a frenzy of irrational exuberance throughout the financial world anyway.  Newspapers all over the globe are declaring that the financial crisis in Europe is over.  Stock markets all over the world are soaring.  The Dow was up nearly 3 percent today, and this recent surge is helping the S&P 500 to have its best month since 1974.  Global financial markets are experiencing an explosion of optimism right now.  Yes, European leaders have been able to kick the can down the road for a few months and a total Greek default is not going to happen right now.  However, as you will see below, the core elements of this “debt deal” actually make a financial disaster in Europe even more likely in the future.

The two most important parts of the plan are a 50% “haircut” on Greek debt held by private investors and highly leveraging the European Financial Stability Facility (EFSF) to give it much more “firepower”.

Both of these elements are likely to cause significant problems down the road.  But most investors do not seem to have figured this out yet.  In fact, most investors seem to be buying into the hype that Europe’s problems have been solved.

There is a tremendous lack of critical thinking in the financial community today.  Just because politicians in Europe say that the crisis has been solved does not mean that the crisis has been solved.  But all over the world there are bold declarations that a great “breakthrough” has been achieved.  An article posted on USA Today is an example of this irrational exuberance….

Investors — at least for now — don’t have to worry about a financial collapse like the one in 2008, after Wall Street investment bank Lehman Bros. filed for bankruptcy, sparking a global financial crisis.

“Financial Armageddon seems to have been taken off the table,” says Mark Luschini, chief investment strategist at Janney Montgomery Scott.

Wow, doesn’t that sound great?

But now let’s look at the facts.

You can’t solve a debt problem with even more debt.  But that is what this debt deal is trying to do.

The politicians in Europe did not want to raise more money for the EFSF the “hard way”.  Voters in Germany (and other European nations) are overwhelmingly against contributing even more cash to a fund that many see as a financial black hole.

So what do you do when more money is needed but nobody wants to contribute?

You borrow it.

Essentially, this debt deal calls for the EFSF to become four or five times larger by “leveraging” the existing funds in the EFSF.

But isn’t that risky?

Of course it is.

There are some leaders in Europe that recognize this.  For example, an article in The Telegraph notes the reservations that the president of the Bundesbank has about this plan….

Jens Weidmann, the president of the Bundesbank and a member of the European Central Bank, sounded the alarm over the plan to “leverage” the fund by a factor of four to five times without putting any new money into the pot.

He warned that the scheme could be hit by market turbulence with taxpayers left holding the bill for risky investments in Italian and Spanish bonds.

So who is going to fund all of this new debt?

Well, it turns out that the Europeans are counting on the same folks that the U.S. government is constantly borrowing money from.

The Chinese.

French President Nicolas Sarkozy has already spoken directly with Chinese President Hu Jintao about funding this new bailout effort.

So is borrowing money from the Chinese to fund bailouts for Greece and other weak sisters in Europe sound policy?

Of course not.

And the sad thing is that this expanded EFSF is still not going to be enough to solve the financial problems in Europe.

According to an article in The Telegraph, a recent survey of economists found that most of them do not believe that this new plan is going to raise enough money….

The plan to increase the European Financial and Stability Facility to €1  trillion on paper was attacked by economists as not enough to “stave off” worsening debt problems in Italy and Spain.

In a survey of economists, 26 of 48 thought the firepower was not enough.

But the worst part of this new plan is the 50 percent “haircut” that private investors are being forced to take.

This is essentially a partial default by the Greek government.  A lot of folks are going to get hit really hard by losses from this.  Instead of making financial institutions in Europe stronger, these losses are going to make a lot of them even weaker.

Normally, in the event of a default, credit default swap contracts would be triggered.  But apparently because this was considered to be a “voluntary” haircut, that is not going to happen in this instance.

A Bloomberg article explained this in greater detail.  The following is a brief excerpt….

The EU agreement with investors for a voluntary 50 percent writedown on their Greek bond holdings means $3.7 billion of debt-insurance contracts won’t be triggered, according to the International Swaps & Derivatives Association’s rules.

That means that investors and financial institutions all over the world are just going to have to eat these losses.

Greek Prime Minister George Papandreou is already acknowledging that a number of Greek banks will have to be nationalized because of the severity of this “haircut”.  A recent CNBC article detailed this….

The haircut is expected to impose big losses on the country’s banks and state-run pension funds, which are up their necks in toxic Greek government bonds of about 100 billion euros.

The government will replenish pension funds’ capital, but banks may face temporary nationalisation, Papandreou said.

“It is very likely that a large part of the banks’ shares will pass into state ownership,” Papandreou said. He pledged, however, that these stakes will be sold back to private investors after the banks’ restructuring.

So where will the Greek government get the funds to “replenish” the capital of those banks?

That is a very good question.

But we haven’t even discussed the worst part of this “debt deal” yet.

If you don’t remember any other part of this article, please remember this.

The debt deal in Europe sends a very frightening message to the market.

The truth is that Europe could have totally bailed out Greece without any sort of a “haircut” taking place.

But they didn’t.

So now investors all over the globe have got to be thinking that if they are holding Portuguese bonds, Italian bonds or Spanish bonds there is a really good chance that they will be forced to take a massive “haircut” at some point as well.

At this time last year, the yield on two year Italian bonds was about 2.5 percent.  Now it is about 4.5 percent.  As investors begin to price in the probability of having to take a future “haircut” on Italian debt, those bond yields are going to go much, much higher.

That means that it is going to become much more expensive for the Italian government to borrow money and that also means that it is going to become much more difficult for the Italians to get their financial house in order.

In essence, the haircut on Greek debt is a signal to investors that they should require a much higher rate of return on the debt of all of the PIIGS.  This is going to make the financial collapse of all of the PIIGS much more likely.

Remember, about this time last year the yield on two year Greek bonds was about 10 percent.  Today, it is over 70 percent.

As I wrote about in a previous article, the western world is in debt up to its eyeballs right now and trying to kick the can down the road is not going to solve anything.

Our leaders may succeed in delaying the pain for a while, but it most definitely is coming.

Greece, Portugal, Ireland and Italy all have debt to GDP ratios that are well over 100% right now.  Spain is in a huge amount of trouble as well.

When you add up all the debt, Greece, Portugal, Ireland, Italy and Spain owe the rest of the world about 3 trillion euros combined.

If Italy or Spain goes down, the rest of Europe is going to be helpless to stop it.  There simply is not going to be enough money to bail either one of them out.

That is why this “debt deal” is so alarming.  All investors in Italian or Spanish debt will now have to factor in the probability that they will be required to accept a 50 percent haircut at some point in the future.

If the markets behave rationally (and if the ECB does not manipulate them too much), it appears inevitable that bond yields over in Europe are going to rise substantially, and that will put tremendous additional financial strain on governments all over Europe.

Basically, we have got a huge mess on our hands, and this debt deal just made it a lot worse.

Yes, a financial collapse has been averted in Greece for the moment, but the truth is that there is no real reason to be celebrating this deal.

A massive financial storm is coming to Europe, and this “debt deal” has made that all the more certain.

Once again, politicians in Europe have tried to kick the can down the road, but in the end their efforts are only going to lead to complete and total financial disaster.

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