Could the euro survive a Greek exit?
I am mildly bemused that central bank governors seem to be talking with some equanimity about Greece leaving the euro: the Belgian central bank governor describes an "amicable divorce" as "possible"; his Irish counterpart says a Greek exit is "not necessarily fatal" though plainly not attractive.
The point, as I am sure you know by now, is that the eurozone crisis is a sovereign debt crisis and an inextricably connected banking crisis (and to get my plug in early, if you want to know more about this, you could watch "The Great Euro Crash, with Robert Peston" this coming Thursday on BBC2 at 9pm).
And for Europe's banking system, once the Rubicon has been crossed of a country leaving the euro, once it is demonstrated that there is an exit, all sorts of horrible things follow.
Perhaps most importantly, any business of any nationality will find it extremely difficult to leave its money in euros in a bank in a country perceived to be at risk of following Greece out the door. That risk was already highlighted earlier this year in public statements of Vodafone, GlaxoSmithKline, WPP and Reckitt Benckiser that they were moving their surplus cash out of euros and out of the eurozone on a daily basis.
To be clear, it's not just British and non-eurozone companies that are under an obligation to their owners to avoid (as far as they can) the devaluation and credit risk of letting their cash sit in Ireland, Portugal, Spain or Italy, the economies buckling under the burden of the most troublesomely large debts. The same duty would fall on big international Italian companies in Italy, or Spanish ones in Spain, and so on.
Because the thing about global financial capitalism is that it is very hard for mobile multinational businesses to put patriotism before the preservation of wealth.
Of course it is not just companies. Citizens too, if they are able to do so, have a huge economic incentive right now to take their money out of Greek banks, and either hold it in cash or transfer it to a perceived safe haven, such as Germany.
These trends, of banks in the vulnerable economies finding it increasingly hard to hang on to deposits and increasingly hard to borrow, have been conspicuous for months. And they have had two important consequences for the European Central Bank and for the central banks of the stronger economies, especially Germany's, the Bundesbank.
The first, which you will know about, has been the massive emergency bailout of banks by the European Central Bank, with the trillion euros of cheap three-year loans it has provided to them in the so-called LTRO. The ECB has been providing the credit to banks that financial institutions and big companies were increasingly reluctant to provide.
And, as you would expect, Italian and Spanish banks took about 60% of all the net new loans from the ECB, with Spain's overstretched banks taking marginally more than Italy's.'Turning off the life support'?
A Greek departure from the euro, which accelerated withdrawal of cash from banks in other vulnerable economies, would surely create the imperative for yet more emergency ECB lending to banks.
And since the European Central Bank and the national central banks insist on lending only in return for collateral, there is a danger that banks would shortly run out of collateral of sufficient quality.
Which means the ECB would face the uncomfortable choice of turning off the life support, and see quite a few banks falling over, or lending on the basis of inadequate security - and thus taking significant credit risks with these loans.
The most likely outcome is that the banking system of the eurozone would become significantly more nationalised, kept alive on the drip of exceptional central bank credit. This is neither healthy or sustainable.
But quite apart from the explicit lending to banks, the ECB and central banks of the stronger economies, especially the Bundesbank, also have a huge "counterparty" risk to Greece, Italy and Spain from the way that the payments system in the eurozone works.
Under this system, called Target2, one consequence of businesses and households taking their money out of the bank accounts of the deficit countries, such as Greece, Italy and Spain, is that the German central bank ends up lending vast sums to the central banks of those deficit countries.
Here is a slightly simplified account of how this works: when someone takes 100 euros from a Greek bank and transfers it to the perceived safety of a German bank (which has been happening quite a lot), that Greek bank gets the 100 euros from the Greek central bank, which in turn borrows the money from the Bundesbank.
Here is the thing. As of March of this year, the German central bank had 644bn euros of claims on other central banks, equivalent to a quarter of German GDP. These are euros owed to the Bundesbank by the central banks of the economies where there has been the greatest capital flight, names those of Greece, Italy and Spain.
So if all of a sudden, Greece and Italy and Spain decided to revert to their national currencies, it is an interesting question how much (if any) of the 644bn euros the Bundesbank could get back.
Now it is true that under the Target2 rules, the liability for losses on these balances is supposed to be shared between all eurozone central banks in proportion to their respective shareholdings in the European Central Bank. Which would mean that the Bundesbank's loss from non-repayment of what it is owed by the Greek central bank, for example, would be 19% of what the Greek central banks owes to all the eurozone's central banks.
But if the entire eurozone fractured completely, it is difficult to see how that distribution of losses could take place. In practice, the Bundesbank would surely have to take the entire hit - and then, I suppose, it could sue Italy, Spain and the rest for compensation.Preparing for a backlash
However there is a more pressing and more important point. Let's say Greece withdraws from the euro and is unable or unwilling to settle the 100bn euros or so it owes the other eurozone central banks under the Target2 payments system.
And on top of that there would be a huge write-off of the separate 50bn euros of Greek government bonds held by the ECB and eurozone national central banks.
At that point it would become obvious to the citizens of Germany that they have been lending rather more to the eurozone's weaker economies than the eurozone's leaders have been telling them.
Here is the interesting question. What would be the impact on German public opinion of finding out that German taxpayers had lost tens of billions of euros on loans to Greece that they did not know they had made?
Would they feel a rush of solidarity with the other weaker eurozone economies and feel that Germany would redouble its financial support for Italy, Spain, Portugal and Ireland?
There must be a danger that, in those circumstances, there would be such a backlash of public anger that it would be even harder for Germany's leaders to provide the scale and kind of financial succour essential to the eurozone's survival.