Tiny Greece’s Threat to Currency Credibility Is Why It Matters

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Photographer: Ulrich Baumgarten/Getty Images

To understand why Europe is investing so much time and effort on keeping Greece in the euro area, look no further than Mario Draghi’s celebrated speech three years ago.

At the height of the euro area’s sovereign-debt crisis in July 2012, the central bank president’s pledge to do whatever was needed to keep the region together underscored the principle at the heart of the currency bloc -- that membership is irreversible.

The risk of undermining that message may explain why a country that accounts for less than 2 percent of the bloc’s output has such a hold on policy makers and officials. It may also protect Greece, which has a population smaller than that of Ohio, from the risk of default and a euro-area exit.

“There’s a lot of political capital invested in the euro area to keep it whole,” said Elwin de Groot, a senior market economist at Rabobank International in Utrecht, Netherlands. “Indeed, when we allow Greece to get out of this, in a way it makes it clear to the market that the euro zone is no longer whole, it can be changed and is no longer irreversible.”

The Greek Youth Movement Fighting to Keep the Euro

What’s at stake may also explain the relative lack of panic in financial markets even as talks on Greece’s future fail to make a decisive breakthrough. The euro was little changed against the dollar on Thursday and Italian and Spanish government bonds managed to eke out some gains by market close.

Conversely, a failure to keep Greece in the 19-member currency union would risk investor speculation that other nations could leave in the future, posing an existential threat to the euro project. Just as happened before Draghi’s speech in 2012, investors may demand higher yields to own countries’ bonds, threatening their economic recovery.

Marine Le Pen of the National Front party, a frontrunner in France’s 2017 presidential election, said Tuesday that she supports an orderly breakup of the common currency.

Negotiating Table

Differences over pensions, sales-tax rates, debt relief and corporate taxes have left Prime Minister Alexis Tsipras’s government and his country’s creditors struggling to find common ground before the June 30 expiry of Greece’s euro-area bailout. With no follow-on financing in place, Greece may be unable to make a payment due the same day to the International Monetary Fund.

The message from the markets is that there is simply too much at stake for Greece and its partners to allow the the worst-case scenario to become the reality.

“The fact that they are at the negotiation table is a positive signal,” said de Groot.

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