How it all unravels.

[Beet]

1. Something causes PASOK to lose sufficient defectors to lose a critical vote.
2. A new election is called with the opposition promising default. This turns into a self-fulfilling prophecy.
3. Contagion spreads to others. Because the problem is fundamentally political, it is outside the control of the Fed, the ECB or Angela Merkel. Another Lehman-style event.
4. Governments around the world are too weak to respond with another round of stimulus.
5. Paul Krugman is right; a bright sunshine like that of Edwardian England ends; the dark, troubled future of the world begins.

[Beet]

Nah. More important countries have defaulted before. There will be restructuring, Greece will be ed for a while, European countries will be stuck w/ higher interest rates for some time, but 10 years later this will be mostly of interest to econ historians.

Really? No European country has defaulted since WWII. The U.S., Canada, or Japan have never defaulted since WWII. That pretty much rules out the entire G-7.

[Beet]

Nah. More important countries have defaulted before. There will be restructuring, Greece will be ed for a while, European countries will be stuck w/ higher interest rates for some time, but 10 years later this will be mostly of interest to econ historians.

Really? No European country has defaulted since WWII. The U.S., Canada, or Japan have never defaulted since WWII. That pretty much rules out the entire G-7.

US, Canada or Japan are not defaulting and Greece isn't G7. Yep, it's technically European for the moment. It shouldn't be too difficult to correct that. Relax a bit.

I was responding to your notion that more important nations have defaulted before. I can't think of any*.

Also, if Greece goes, where does it stop? What about Spain? Italy? If the euro goes, it throws everything into turmoil, all the way to Frankfurt. The German banks are too vulnerable to credit risks in economies whose currencies would rapidly depreciate to the D-Mark.

* Hapsburg Spain doesn't count, nor do any pre-modern examples. If that was what you were thinking of, then fine, but how it is relevant to today is a mystery.

[Beet]

I agree that Greece by itself isn't a problem. But since the Greek problems have emerged, there has been a questioning of the creditworthiness of various other European countries, as I alluded to. Exhibit #1:



The importance I assign to Greece is because of this connection. Obviously, I am referring to the "domino theory", also known as "contagion". Weakness in Russia and Argentina in the late 1990s were contributed to by the Asian crisis, which in turn started in Thailand.

If Greece were to set off European contagion, how far would it go? How many countries' credibility would be permanently tarnished? How many would diverge permanently or at least for a very long time from their long term growth trajectory, even if they do start recovering within 10 years?

[Beet]

It's that kind of arrogance that leads to exactly such a panic.

More specifically, there is clearly a problem with political will in the Mediterranean countries to go with austerity when it's necessary to avoid default. Right now the Spanish government is unpopular, governing with a minority plus a bunch of regional parties (no easier to 'herd' than the US Senate), and their base is the labor unions. If Greece defaults and Spain suddenly needs across the board 15-20 percent cuts, do you think the Zapatero government would be able to pull it off? What do you think the market reaction will be when Greece "restructures" and Zapatero loses a no-confidence vote while Spanish bond yields are skyrocketing to Greek levels? What do you think will be the reaction of the German populace if Merkel tries to save Europe by intervention?