Is Grexit the new Y2K?

5th September 2012

The research comes as the The New York Times reports Bank of America Merrill Lynch is apparently looking at filling trucks with cash and sending them over the Greek border so clients can continue to pay local employees and suppliers in the event money is unavailable.

But beyond its headlines, the Chicago paper has a more serious purpose for investors, including bondholders with outstanding liabilities in Greece. The academics have estimated that tax-evaded and hence unreported income in Greece for 2008, the last period before the euro crisis really hit home, was €28bn. It was similar in 2009.  These sums are equivalent to 48 per cent of the budget deficit in 2008, 31 per cent in 2009.

Researchers, Adair Morse & Margarita Tsoutsoura of the University of Chicago Booth School of Business and Nikolaos Artavanis of the Pamplin College of Business at Virginia Tech, found on average self-employed Greeks spend 82 per cent of their reported income servicing debt (in some industries as Financial Services, Medicine and Law, this percentage climbs to over 100 per cent).

Real incomes twice the tax form figure

"The possibility that for every euro of earned wages, 82 cents go to servicing debt is not feasible; a norm for lenders is to never extend loans such that monthly payments on debt exceed 30 percent of income," they say.  They believe the real income of tax evaders is 1.92 times reported income.

Many will see this as yet another attempt to scapegoat Greeks, to classify them as tax-dodging idlers.  Others will consider the paper, with its substantial detail including pages of tables, graphs and calculus, as an attempt to render a clearer view of the Greek economy with its three way division into formal, semi-formal and informal.  

"The goal of the paper is to use our data to provide a country-representative estimate of tax evasion in aggregate and by occupation, and to offer analysis relating to factors that allow the tax evasion to persist," said Morse.

Dodging occupations in parliament

The paper claims that occupations represented in the Greek parliament are very much those which tax evade, even excluding lawyers. "The results line up very well with the occupations targeted by a legislative bill in 2010 which would have mandated audits for those reporting low income in exactly these professional service industries. The bill was never voted. Our paper shows that occupations represented in Parliament are very much those which tax evade so the Greek Parliament lacks the political willpower to enact tax reform."

If you are now feeling less than sorry for at least some Greeks, then this blog is a corrective. It moves away from the economist/bondholder view that the country is simply a drain on profits towards the different prism of looking at the inhabitants as real people with real problems.

It says: "It is impossible to ignore the broken spirit of many Greeks.  It is evident that the depression the macroeconomic indicators are reporting month in and month out is also reflected in people's daily lives. Even for the informed follower , the headlines from Greece do not capture the full extent of the economic deterioration the country is experiencing and the complete disconnection between the people and the state". 

Tax bills rise for hard working families

And far from the seemingly rampant tax evasion of the professional classes, it appears that "in tax returns for the 2011 tax year, families that previously qualified for a rebate must now pay around  €2,000 extra due to tax measures to comply with lender demands.

If the report of armoured vans full of cash hanging on Greece's borders and other measures such as, Ford configuring computer systems to handle a new Greek currency overnight and big American banks and consulting firms doing a brisk business advising on how to prepare for a splintering of the euro zone are true, it could be sensible risk management or a rerun of the Y2K computer crisis where the so-called Millennium bug was supposed to cause planes and trains to crash – as well as bank systems to seize up forever.

Planning for everyone exiting

And the planning goes beyond Greece to a general disintegration of the euro zone. The New York Times says: "JPMorgan Chase has already created new accounts for a handful of American giants that are reserved for a new drachma in Greece or whatever currency might succeed the euro in other countries."

This may, however, be driven by powerful consultants needing to come up with a new idea rather than companies or banks themselves.

"It's safe to say most companies are preparing," said Paul Dennis, at Corporate Executive Board, a private advisory firm. In a survey this summer, CEB found 80 per cent of clients expected Greece to leave the euro zone, and a fifth of those expected more countries to follow.

But whether this appetite for Grexit is based on real factors or fear factors due to unbalanced reporting – the euro will survive story struggles for many headlines – is far from clear.

"Fifteen months ago when we started looking at this, we said it was unthinkable," said Heiner Leisten, a partner with the Boston Consulting Group in Cologne, Germany, who heads up its global insurance practice. "It's not impossible or unthinkable now."

Secret plans for Germany leaving euro

FT Deutschland reports that a working group in the German finance ministry, headed by state secretary Thomas Steffen, is studying how to contain the costs of a Greek euro exit, saying preparations for a Grexit are much more concrete than is generally known. 

And even deeper within the cellars of Frankfurt, there are secret talks about how Germany will leave the euro without other financially stronger nations such as Austria, Finland and the Netherlan
ds following.

But a report from the UN's International Labor Organization in Geneva could calm German nerves. It predicts that unemployment could rise significantly in Germany – from presently 6.8 to 9 percent – should Greece have to exit the eurozone.

The ILO study forecasts significant economic shock waves in case of a Greek exit, which most likely would negatively affect the German economy and lead to higher unemployment. This contrasts with  senior German government officials briefing that a Greek exit from the common currency union would be easily manageable.


More on Mindful Money:

Why hasn’t the euro sunk?

Eurozone PMIs – Reasons to be cheerful?

Are we stuck on an economic Titanic?

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