Greece’s future is its past

Why trade holds the key to debt renegotiation  |  A deal was done at the last minute: Greece’s €172bn debt bailout was extended for a further four months after a turbulent week of bluff and counterbluff. Even now, there are no formal agreements on the required reform process ahead and without these agreements the deal will not be ratified. It appears that the Greek government is keen to demonstrate its willingness to reform by focusing on tax evasion and civil service reform, but it is unlikely that this will be sufficient for either Germany or the ECB.

By letting its focus continue to be on austerity, debt renegotiation, and structural reform, Syriza and now the Greek government, seem intent on playing by the same rules as the Troika, the ECB and Germany. For an economy that has shrunk by 25% since the beginning of the financial crisis, this is extraordinary. Instead it should be looking at debt re-payment over the longer term. If an economy is growing, then its debt is affordable; if the debt is extended for four months, then growth should be made central to subsequent discussions.

At present the outlook does not look good for several reasons: first, Greece is a service economy yet, despite the improving external position represented by the declining euro, its service sector trade is set to decline sharply over the next three years and pick up only gradually into 2019 (Figure 1). Given Greece’s already weak domestic demand, the decline in service exports, which includes tourism, is worrying.




Figure 1  |  Outlook for Greek service sector trade to 2020
Source  |  DeltaMetrics 2015


Second, Greece’s goods trade to GDP ratio is 0.4. In other words, there is a fairly strong pull of trade on Greece’s GDP. Oil is a critical part of this: the correlation between Greece’s trade and the oil price is 0.80 – largely because of the importance of oil in Greece’s total trade structure. For example, Greece’s exports of refined oil are twice as high as the second-largest export sector: medicines.




Figure 2  |  Greece’s debt and the challenge of trade
Source  |  DeltaMetrics 2015


The importance of oil to Greece’s trade explains its resistance to the EU’s extension of sanctions against Russia in January and is the third reason why Greece’s situation more broadly looks vulnerable. Turkey is Greece’s largest trading partner and its import/export portfolio is dominated by oil, gas, cars and infrastructural products. Russia is a growing trade partner for Greece but Russia predominantly exports oil and commodities while Greece exports clothes and fresh or stoned fruit to Russia. Greece’s growth in exports since the financial crisis has been because of its role as an oil and infrastructure distributor with a heavy reliance on Turkey, its largest trading partner and, increasingly, Russia (Figure 3).




Figure 3  |  Greek imports from Turkey and Greece (% annual change) 2010-2016
Source  |  DeltaMetrics 2015


Imports from both countries have been volatile, but two things are clear: First, Greece has been attempting to switch its imports of oil from Turkey to Russia, evidenced by the steep increase in imports in 2010 from a small base. Second, and arguably more interestingly, imports from Turkey and Russia have been inverse to one another: when Russian imports have increased, Turkish imports have declined and vice versa. Even in the forecast period, from 2015 to 2016, Greece’s imports from Russia are falling at a slower rate than those from Turkey.

If Greece is to have a path to debt repayment then it must do two things: First it must seek to restore its greatness as a trading nation, both in services and goods, through reforms that focus on skills development, innovation, inward investment and port redevelopment. Supply side reforms alongside structural reform may make debt serviceable more quickly than just one in isolation since both are necessary and neither is alone sufficient.

But second, and in spite of history, Turkey may yet hold the key to Greece’s growth through trade and this is a bullet that should be bitten quickly. Europe’s geopolitical relationship with Russia is difficult at present to say the least and while this continues, it is unlikely that Greece will be able to restore its role as an energy and infrastructure distributor in the near future. Greece’s trade relationship with Turkey reflects mutual trade interests.

Market nervousness about the possibility of a “Grexit” heightened by the rhetoric of the past week may yet prove to be unfounded, however. The Greek public voted for Europe but against austerity. This is as much about politics as it is about economics. Greece, in trade and geopolitical terms, sits on an emerging fault-line between Russia and Europe. As sanctions build against Russia, Greece’s position is arguably more secure within Europe than it is, say, aligned with two of its major and more volatile trading partners, Turkey and Russia. And let’s not forget, the history defined by the Stability and Growth Pact and monetary union means Germany’s banks are exposed to the risks of Greece’s sovereign default and of a Grexit more than any other nations. “Necessity is the mother of invention”: let us hope that the Realpolitik of a Grexit is the driver for the resolution of the crisis.


Greece’s future is its past  |  Author  |  Rebecca Harding  |  CEO

Back to reality

Why Dollar-Euro parity is possible  |  Following a turbulent January in Europe, the once unthinkable is now becoming thinkable. Mario Draghi, as was widely trailed, launched €1.1 trillion of Quantitative Easing (QE) to September 2016. And following Syriza’s victory in the Greek election, the prospect of a Grexit is now actively being discussed.

So here’s another “unthinkable”: the euro will reach parity with the US dollar by 2015 and has the potential to fall lower if current volatility and pressures on the currency continue. Is this really unthinkable or is it simply a return to the reality that we saw in the early days of the euro?

First, the Delta Economics view is that the euro has been over-valued for some time, largely as a result of the German trade surplus. Although Europe needs German trade to be strong because of the supply chains that originate in Germany and spread out across Europe, the high value of the euro has made it harder for the internal imbalances of the eurozone to be corrected by export-led growth outside of Germany.

At the outset, markets viewed the eurozone with a degree of scepticism. By June 2001 one euro bought 0.85 US dollars. As time has gone by, eurozone performance has, inevitably perhaps, become more dominated by Germany pushing the value of the euro up and kicking the issues of intrinsic imbalances between Member States down the road. However, instead of resolving imbalances by everyone “becoming more like Germany”, a weaker currency simply reflects the fact that everyone isn’t like Germany.

Second, the fact that QE was necessary in the first place made it abundantly clear that the eurozone is far from a marriage of equals. The euro came under pressure ahead of the announcement and fell to new lows subsequently. But it is here where the facts start to conflict with policy expectations. Theoretically, a lower euro should boost the real economy through trade because exports should become cheaper. However, what we’ve actually seen over the years since the introduction of the euro is a high correlation between the euro’s value and the value of trade: in other words, when the euro goes up, so does trade (Figure 1).

We believe there are two explanations for this: in the first instance, European trade, dominated as it is by Germany France, Italy, the Netherlands and Belgium, is largely at the high end of supply and value chains and therefore does not respond particularly to changes in the value of the currency. Even for weaker nations more dependent on commodities, the importance of Europe-wide supply chains means that the relationship still holds. For example, the correlation of the value of the euro with Greek trade is 0.89.

Furthermore, the value of the euro is actually a signal by the markets about the strength of the European economy: when the economy and institutions seem strong, the value is high and vice versa. In other words, as discussed previously, trade is an important driver of the value of the euro because of its importance as a driver of economic performance in the eurozone generally. While trade is falling, and we are forecasting it will fall by 3.7% within the eurozone in 2015, so too can we expect the value of the euro to fall. The result is that policy can have very little effect on the real economy through currency manipulation.




Figure 1  |  Monthly value of eurozone exports, USDbn versus USD per euro spot, Last Price Monthly, June 2001-Dec 2015
Source  |  DeltaMetrics 2015, Bloomberg


The third reason why the value of the euro is likely to come under increased pressure is the outcome of the Greek election in January. Syriza is looking to renegotiate its debt and start the process of loosening the tight controls it has had over spending. As with the eurozone more generally, it will not be helped by a lower value of the euro (Figure 2) because of its inter-dependency with trade in the eurozone as a whole through its role as a trade hub.




Figure 2  |  Monthly value of Greek total trade (USDm) versus USD per euro spot price, Last Price Monthly, June 2001-Dec 2015
Source  |  DeltaMetrics 2015, Bloomberg


Greece’s trade to GDP ratio is 0.4: in other words, there is a fairly strong pull of trade on Greece’s GDP. Oil is a critical part of this: the correlation between Greece’s trade and the oil price is 0.80 – largely because of the importance of oil in Greece’s total trade structure. Greece’s exports of refined oil, for example, are twice as high as the second-largest export sector – medicines.




Figure 3  |  Greece’s debt and the challenge of trade
Source  |  DeltaMetrics 2015


Greece’s trade is just 0.4% of Europe’s total trade; however, their trade is nevertheless important both because of the impact that it has on the prospective growth of the Greek economy and as a portent for the negotiations about debt restructuring, austerity and structural reform ahead. Put simply, if a low-valued euro is unlikely to help boost Greek (or eurozone for that matter) trade more generally, then there is little that monetary policy at a European level can do to help long-term growth in the peripheral nations. Greece’s debt is, according to Syriza, not repayable and imposes too many restrictions on the Greek economy. One option is to set debt repayments against growth targets but, given falling oil prices and falling intra-European trade, this looks ambitious.

The eurozone needs more than QE and a low value of the currency for growth. The eurozone’s peripheral nations’ struggle for growth is accentuated by the fact that they must trade in euros internally and externally. Given “austerity” constraints attached to their sovereign debt, this makes it very difficult to grow. There will continue to be sustained political dissent between Member States on the best way to resolve the issue of Greece, and there is a danger that the debate will spill over to other nations, like Spain, Ireland and Portugal.

All of which brings us back to reality with a harsh bump. The likely outcome of all of this is continued market pressure on the euro (Figure 4).




Figure 4  |  Monthly value of eurozone exports versus USD per Euro spot price and linear forecast, Jan 2014-May 2016
Source  |  DeltaMetrics 2015, Bloomberg, Delta Economics analysis


The pressure on the euro over the last year has mostly been downwards. The Delta Economics asset price forecasting model, which is itself based on country-sector-partner trade flows, is indicating short positions on the euro for most of 2015. Even if the trend continues in a linear way as it has done over the past 12 months, this suggests parity by the end of the year. Whether this will bring the eurozone “back to life” is uncertain, but we are certainly “back to reality”.


Back to reality: why Dollar-Euro parity is possible  |  Trade View Author  |  Rebecca Harding  |  CEO