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Greece: Impasse makes capital controls more likely
We continue to anticipate a deal between Greece and the rest of the region, eventually…
..but the likelihood that capital controls are imposed in the meantime has risen
Over the course of the last week, it appears that both sides in the Greek negotiations have dug-in to their positions. Rather than the elements of a compromise beginning to emerge, reports have tended to emphasise the ongoing divergence between them. Yesterday, Le Monde published a lengthy piece written by Greek PM Tsipras (see link below) which has been reported on extensively. Reading this article, two thoughts occur to us.
First is that many of the arguments are likely to antagonise European partners rather than encourage agreement. This does not come across as an article by someone about to clinch a deal with their creditors. Second, we are struck by how little appears to have changed in the Greek approach since the new government’s first few days of coming to office. Much of the argument in this piece, and the broader strategy of conducting the debate in public while seeking allies outside of Germany, was deployed as their interaction with the region began. It was not very successful then, and we doubt it will prove successful now. Although Tsipras makes much of the ground the Greek side have conceded, the basic rejection of much of the program’s framework remains.
Up until this point, our base case had been that a deal would be struck early enough for capital controls to be avoided. That remains our base case, but the likelihood of capital controls is clearly rising, and the call is now very close. Capital controls would ultimately be imposed by the Greek authorities, although largely acting as a response to pressure coming from the ECB. Capital controls in this instance, in our view, would basically be a set of administrative constraints which seek to nail down bank deposits, preventing portfolio type flows, while still allowing “normal” economic activity to function. For more on how they could work, see the note on lessons from Cyprus linked to below.
Getting to capital controls
We note there are basically three routes to get to capital controls in this instance. First is that the ECB becomes uncomfortable with the more than €100bn of funding for Greek banks it is already providing. Second is that it becomes uncomfortable with any further extensions of ELA support at a time when the likelihood that it will be needed rises. Third is that the Greek banks run out of the collateral needed to increase their borrowing from the ECB and meet deposit outflows under the current regime, and the ECB is unwilling to change the collateral regime. These routes are not mutually-exclusive, indeed all are likely to be cited should capital controls be imposed.
Should the Greek government fail to make a payment to the IMF on time, then we note all three would be in action. Reports suggest that the Greek authorities will be able to make the near €300mn payment due on Friday, but that meeting the subsequent payments on the 12th, 16th and 19th will be very difficult (the amounts are €340mn, €560mn and €420mn respectively). But even in the absence of a late payment, the passage of time without a deal between Greece and the rest of the region is likely testing the ECB’s patience. A Eurogroup meeting is scheduled for June 18th, so there are three payments to the IMF totalling near €1.2bn to be made before then.
The impact of capital controls
Imposition of capital controls (with or without a missed IMF payment) would clearly represent a step-change in the crisis in at least two dimensions. First, it would be a clear sign that insufficient progress is being made in the political discussions to sustain financial stability without resort to administrative constraints. Second, it would be a blow to an economy already in recession, placing an administrative burden on activity and raising uncertainty for both firms and households about their access to liquidity. In our minds, these two forces would be likely to intensify the pressure on the Greek authorities to reach an accommodation with the rest of the region. However, one cannot completely rule out the idea that the Greek authorities would depict capital controls as having been imposed on Greece from the outside, and use that to begin to direct public antipathy against the rest of Europe to prepare for an exit from EMU. On net, the imposition of the capital controls would likely be suggestive that the possibility of euro exit had risen somewhat, but that exit still remained unlikely. In effect, capital controls would acknowledge that things are not going well, but they would create more time to talk.
