Morgan Stanley's Fels Warns Against Complacency on Crisis

Policy makers mustn’t underestimate the consequences of a possible Greek euro exit, which could spark a run on lenders and overwhelm the European Central Bank, said Joachim Fels, Morgan Stanley’s head of global economics.

“Investors are relieved there was a deal,” Fels said on Bloomberg Television’s “Surveillance Midday” yesterday, after Greece won a second bailout this week for 130 billion euros ($173 billion) to avert default. “This crisis isn’t over.”

European finance ministers agreed to provide Greece with the rescue package on Feb. 21 as representatives of the nation’s private creditors signed up to a debt swap that will lead to a net present value loss on their holdings of more than 70 percent. The accords, which depend on more Greek austerity, are intended to help the nation avoid default when bond repayments come due next month.

“Many investors still doubt we’ve resolved the underlying problems,” Fels said. “There’s a sigh of relief, but most people believe there’s probably more to come down the road.”

Even with investors and central bankers chipping in to relieve the debt burden, economists see risks that Greece may again fail to deliver on its fiscal pledges amid a fifth year of recession, looming elections and social unrest. Some investors and policy makers underestimate the consequences that would come from Greece exiting the euro, Fels said.


“I detect a certain amount of complacency,” he said. A Greek exit would stoke doubts about the euro’s future, meaning “investors and citizens would no longer believe that a 1 euro bank deposit in Portugal and Italy is the same as 1 euro bank deposit in Germany. You’d get a run on banks, another run on sovereigns and this could well be too big” for the ECB to counter.

Europe’s economy will shrink in 2012, with Italy and Spain facing sudden crunches as they battle to escape the debt crisis, the European Commission said in a report today. To cushion the fall, the ECB will probably reduce its benchmark lending rate further after two 25 basis-point cuts since November, Fels said.

“The ECB has been reasonably aggressive, but if you want to boost demand further, you need to see more aggressive action,” he said. “We think we’ll get more rate cuts and potentially the ECB might move to outright quantitative easing later this year.”

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