The Reserve Bank of India issued an unusual statement Sunday. The institution wished to make it clear that a “section of the press” had mischaracterized remarks that Governor Raghuram Rajan had made three days earlier in London. “Governor Rajan did not imply or suggest that there was any risk of the world economy, which is in steady recovery notwithstanding uncertainties like those in the Euro area, slipping into a new Great Depression,” the statement said.
We owe the staffers that were forced to spend a segment of their weekend at the office to format that statement a debt of gratitude. Global economic news was bad enough as it was. A prediction from a respected economist and policy maker that things were about to get worse—much worse—would not have helped matters.
Greek Prime Minister Alexis Tsipras is either the most reckless politician on the planet or he is engaging in gamesmanship at a level few in financial markets can comprehend.
Tsipras embarrassed pundits the world over by blowing up negotiations with Greece’s creditors instead of accepting an 11th-hour agreement that would have erased fears of default. The prime minister called a national referendum for July 5 on the conditions of a loan from the European Union, the European Central Bank and the International Monetary Fund. The problem is that Greece owes the IMF about US$2 billion on June 30 and it doesn’t have the money. Creditors refused to budge on the deadline, meaning Greece soon will join Zimbabwe, Sudan and Somalia as countries that failed to keep up with their payments to the IMF.
Amidst all of this, the People’s Bank of China cut interest rates on Saturday to stop a stock-market rout. It didn’t work, as Chinese equity markets continued their descent on Monday, fueling worry because it is unclear how much of the country’s bull market was funded by individuals borrowing to buy stocks. And sticking with the debt theme, it became clear over the weekend that Puerto Rico was on the verge of bankruptcy.
So it might not be the Great Depression, but short-term prospects dimmed considerably over the weekend—so much so that Kit Juckes, a currency strategist at Société Générale, lamented the possibility that data set for release this week could show that U.S. wages finally are growing faster than inflation. With so much weakness elsewhere, signs of strength in the United States could trigger a rush to the dollar, Treasuries and other U.S. assets, risking further volatility. Juckes fears a summer of “risk aversion” that would see investors rushing to havens rather than putting their money to more productive uses. Instead of achieving liftoff, the global economy would continue to struggle—not a depression, maybe, but depressing.
Puerto Rico isn’t big enough to cause systemic damage, and while the situation in China is troubling, the central bank’s actions over the weekend at least show that policy makers are on alert. If not for the uncertainty related to Greece, the interest-rate cuts might have stopped the carnage. That means it will be difficult to know how much we need to worry about China until we know how much we need to worry about the integrity of the euro. Yields on Greek bonds spiked Monday, a telltale sign of trepidation.
Yet it is impossible to even guess with authority about where this headed because few before have seen a politician like Tsipras, who led his Syriza party to victory in January on a promise to undo all the austerity measures that had been implemented since Greece’s profligacy caught up with it in 2010. “We are really dealing here with a line of thinking that is very different than the market is used to,” said Benjamin Tal of CIBC World Markets.
The Greek government ordered banks closed until after the referendum and imposed capital controls that reportedly will limit withdrawals to €60 per day. That was the only move the government had as Greeks drained ATM’s over the weekend, raising the spectre of a run on banks. After talks collapsed, the European Central Bank said it wouldn’t increase its emergency lending to Greece’s banks. Importantly, the ECB didn’t cut off the country entirely, a decision that should be seen as a glimmer of hope that European authorities haven’t given up on keeping Greece in the euro zone. The euro fell against the U.S. dollar, but it didn’t collapse, suggesting worry hadn’t become panic. European leaders, including Angela Merkel of Germany, stressed their desire to keep the euro whole, although they indicated strongly that a rejection of the the creditors’ conditions in next week’s referendum also would be a rejection of Europe.
Tsipras, meanwhile, urged Greeks to vote “No.” He apparently thinks this will strengthen his bargaining position with the European Commission, the ECB and the IMF. Who knows? He may actually see it as a way to silence the more radical members of his party who oppose any suggestion of compromise with lenders. Whatever the motive, the referendum is an insult to democracy because Tsipras sprung it on an unsuspecting population, asking Greeks to accept or reject technocratic proposals that many will struggle to understand. Nor is it clear if those proposals even will be on the table when (or if) negotiations resume. They relate to a loan program that will expire on June 30 when (or if) Greece misses its payment to the IMF.
Since Tsipras’s gambit is tactical, he could choose to cancel the referendum and return to negotiations, as a previous prime minister did during an earlier phase of the debt crisis. Polls consistently show a majority of Greeks want to stay in the Europe and continue using the euro. A retreat probably would be met with relief.
But if the vote happens, the best case would be the referendum campaign leads to some soul searching on both sides. Greeks need to recognize that there is no going back to a way of life that was paid for by an unsustainable increase in debt. They also need to ask themselves hard questions about their government’s fiscal policy, including why their country continues to spend so much money on defence.
And Europe’s leaders need to do more than talk about their commitment to the EU and the euro. The stance of Merkel and the rest of the establishment has been distinctly ungenerous. They need to recognize that political unions between disparate economies are held together by transfers of wealth from richer to poorer. Their demands of austerity should be coupled with promises to strengthen the European economy. There is no sign of that so far.
The message of India’s Rajan last week was that the self-interested, short-sighted policy making he sees at work today reminds him of the Great Depression. That point is lost on no one who spent his or her weekend observing the European condition.