Commentary

Greece Will Default

The Germans and French got their European Financial Stability Facility expansion last week, though details surrounding how the EFSF will operate remain murky. But now the focus returns to Greece, and whether the Greek government can satisfy demands to avoid technical default.

The reality is, though, that Greece is going to default. As our president likes to say, its just simple math. You can take that to the bank. (Just not a Greek bank.)

Let’s start with the fact that recent projections have the Greeks missing their deficit reduction target considerably:

Greece is likely to miss the deficit targets agreed as part of July’s bailout package, which would cast further doubt on its ability to steer safely through its current financial crisis and will send new tremors through global financial markets.

As the country’s cabinet agreed a controversial plan to begin laying off 30,000 state workers, its latest budget plan indicated a deficit of 8.5% of GDP this year, missing the 7.6% target agreed with the European Unionand the IMF. In 2012 the deficit is expected to fall to 6.8% of GDP — above the year’s 6.5% target. A recession that has been worse than expected is behind much of the increase. According to Reuters, Greece expects its economy to contract by 5.5% this year and 2% next.

But it gets worse. Suppose for a moment that the Greek government reached deeper with cuts, were able to avoid a long-term tax collector strike, and somehow make their deficit target this year. The reality is that their stack of bills are just too high to imagine getting away without getting creditors to take some kind of haircut.

Greek debt-to-GDP is currently close to 175%. To put this in context, Greek debt-to-GDP should be closer to 60% or 70%.

The credit default swaps market is pricing the probability of a Greek default at 99.9%—a stunningly sharp bet, and potentially damning for Portugal at 62%, Ireland at 51%, Italy at 33%, and Spain at 28%.

Reports today are that discussions are underway for an orderly default, with creditors taking a 40% haircut (more than the 21% that had been floating around in the past months). Whether or not a deal gets done in this framework, the bottom line is that Greece can not afford the interest payments on their massive debt long time. They’ve been going to the wrong way on deficits—just consider that their fiscal deficit was 2.5 billion euros higher in the first two quarters of 2011 than the same period last year—and the political will to cut everything isn’t there. And even cutting everything would probably miss a debt payment eventually.

Kyle Bass has made/is going to make a lot of money.