The Greek Prime Minister, Alexis Tsipras, has argued for a major debt write-down from current levels. He further assured Greek citizens that a ‘no’ vote would strengthen their position in continued negotiations with Greece’s creditors. While the chance for a speedy resolution to remain within the Eurozone still exists, the probability of this outcome is relatively low given tight deadlines and the resultant breach in trust following the decision to call a referendum.
The more likely outcome is for an extended period of prolonged negotiations to keep Greece in the Eurozone even if it calls for a new or reshuffled Greek government. However, this route still presents a moral hazard challenge to European Union (EU) creditors who have proposed pension cuts, value-added tax increases and other austerity measures for Greece.
Should Germany and other EU creditors succumb to Greece’s requests for less austerity and haircuts on debt, an undesirable precedent could be set for anti-austerity parties in peripheral Eurozone at a considerable political cost to incumbent governments.
Financial market implications
As long as uncertainty prevails about Greece’s post-referendum standing within the Eurozone, financial market volatility is likely to be the order of the day in the near term. During such a ‘risk off’ phase, perceived safe-haven currencies like the US dollar and Japanese yen are likely to strengthen, with resultant negative implications for dollar-denominated commodity prices and EM financial assets (currencies, debt and equities).
Whether there will be any longer-term adverse impact on global financial markets is dependent on whether there is Greek contagion into the broader global financial system. In this regard, the small size of the Greek economy and its financial markets and the diminished exposure of European banks to Greek debt should limit the transmission of the Greek debt issue into a negative broad global impact.
We would advise investors not to make big strategic changes to their portfolios during any short-term volatility in asset markets, but would encourage investors to view any market overreactions as opportunities to enhance strategic portfolio positions for long-term wealth creation.