Keep Worrying: Greece Looms Large

Argentina, Russia, and Ecuador have all done it. As fellow Fool John Maxfield writes, sovereign defaults happen all of the time! So why doesn't Greece join in and default already? We shouldn't be too scared if we've lived through previous defaults, right? Wrong. Here's why Greece's default means more than sovereign defaults of the past.

That's a lot of baklava
For one, Greece heavily outweighs previous defaults:

Country

Total Public Debt at Default (millions)

Year

Greece $500,000 2012
Argentina $82,000 2001
Russia $79,000 1998

Source: The New York Times.

Some may point out that Greece's GDP of about $300 billion is dwarfed by the European Union's total GDP of over $16 trillion. Because it represents such a small slice, what would be the big deal if it defaulted and left the EU?

Grecian dominoes
The big deal is that Greece represents the potential future of Italy, Spain, Portugal, and even the entire EU. With Italy's debt-to-GDP already over 100%, Spain's unemployment over 20%,and Portuguese 10-year bonds spiking to over 17% at the end of January, future action may be required to save any country from economic malaise. While Greece represents a small part of the EU's GDP, Italy clocks in at over $2 trillion worth of GDP, Spain claims $1.4 trillion in GDP, and the countries combined add up to over 20% of the EU's GDP.

Whatever actions Greece takes, other countries that are facing mountains of debt will be watching to see the outcome. If Greece is freed from hefty interest payments without much pain, why wouldn't other countries follow its path?

Who might be hurt
As Fool Sean Williams writes, American banks like Bank of America (NYSE: BAC  ) , JPMorgan Chase (NYSE: JPM  ) , Goldman Sachs (NYSE: GS  ) and Citigroup (NYSE: C  ) all seemed to have learned their lesson from America's subprime crisis. Through a mix of credit default swaps and actually avoiding risk, banks have decreased their exposure and potential losses from the crisis. Since 2009, Bank of America reduced exposure to Greece, Italy, Spain, Portugal, and Ireland by 44%, but currently only has 12% of exposure hedged. Citigroup, on the other hand, has 47% of its exposure hedged with credit default swaps. JPMorgan's CEO Jamie Dimon said his company could lose up to $5 billion from the troubled European countries, but this represents less than 5% of bank's 2011 revenue of $110 billion. According to a recent report from Bank of America, Goldman Sachs "feels that it needs to stay pretty close to home, from a risk perspective," because of "the potential for a disorderly Greek default leading to Greece's withdrawal from the Euro."

European banks, on the other hand, have taken bigger hits from Greece itself. The Royal Bank of Scotland (NYSE: RBS  ) lost over $3 billion last quarter, after writing off Greek bonds by over $1.5 billion in 2011. Germany's Commerzbank wrote down Greek-related investments by over $2.5 billion in 2011, but was able to eke out a $850 million profit for the year. Both of these banks face further issues with Commerzbank's exposure to the riskier European countries at over $16 billion and RBS' exposure at $137 billion ($85 billion of which is related to Ireland).

The Foolish takeaway
Greece represents a potential blueprint for troubled EU economies, and should not be taken as just another default. While American banks are relatively protected, massive writedowns will continue to affect European banks, especially if countries on the brink tip over into defaulting. Greece itself may be small, but its shadow looms large.

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Fool contributor Dan Newman does not own shares of any companies mentioned above. Follow him @TMFHelloNewman. The Motley Fool owns shares of Citigroup, JPMorgan Chase, and Bank of America. Motley Fool newsletter services have recommended buying shares of Goldman Sachs. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.


Read/Post Comments (8) | Recommend This Article (17)

Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On February 24, 2012, at 5:20 PM, DJDynamicNC wrote:

    I dumped far too much money into Spain's economy (largely the beverage sector) last time I was over there. Maybe the potential crisis will lead them to lower beer prices in time for my next trip.

    This comment brought to you courtesy of Friday afternoon.

    Fool on!

  • Report this Comment On February 25, 2012, at 4:46 AM, Wesss wrote:

    Dan,

    We need more speciifcs. You ask the big question of "What is the big deal of a default?" Then the answer is that Greece "represents the potential future" of other countries.

    That doesn't tell us what we really need to know: What actually happens? Do banks and bondholders simply lose their investments, put a bad year on the books, and we all just move on? Is there a liquidity crisis? Do banks fold? Etc.

    It's frustrating to always read about "ripple effects", "domino effects" "blueprints", etc, without any sort of nuts-and-bolts explanation.

    Thanks

  • Report this Comment On February 25, 2012, at 1:08 PM, alan0101 wrote:

    Pretty silly article. Greece effect on the euro will be close to nil.All this alarmist chatter of an economy of the relative size of Miami Metro..that Italy or Spain may follow could happen, but unrelated to Greece. Think of the US, similar size to the EU how many states much larger tha n Greece could be in trouble? CA, T X to name just two. So OMG! Lets head for the hills!

  • Report this Comment On February 25, 2012, at 5:27 PM, xetn wrote:
  • Report this Comment On February 25, 2012, at 5:46 PM, xetn wrote:
  • Report this Comment On February 25, 2012, at 5:56 PM, neamakri wrote:

    Oh no! I just thought of an old adage; beware of Greeks bearing gifts.

    So a few banks were nice enough to buy Greek bonds, now they get shafted three ways (1) half-price face value, (2) lower interest payments, (3) longer payback period. Sounds to me like Greece has already (virtually) defaulted.

    Anyway, Greece has been living with a huge deficit for many years, now they are forced to switch completely around to a surplus budget to pay down their debts. Hey, I personally like Greeks, but this may well be impossible.

  • Report this Comment On February 25, 2012, at 6:30 PM, talan123 wrote:

    The US Government's debt is all in it's own currency unlike Greece's which is in Euro's which is the entire problem.

    Greece is going to have a huge effect on Europe. Their economy is collapsing because they cannot control their own currency. The currency is controlled by outside forces that are refusing to budge on capital controls. This means that every single country that is in the Europe is in the same situation. If Greece can go down then any of them can go down because they all have huge debt loads.

    The secondary concern is the banks. Our Banks in the United States are equal to about 50% of the GDP. In Europe it is 375%. They cannot afford to rescue their banks if they begin to collapse which looks increasingly likely as their politicians are doing everything they can, outside of leaving the continent, to avoid the situation.

    The other big problem is that one of the persons who is negotiating with the private creditors, I forget which one, is also on the Credit Default Swap Board that determines whether an institution can initiate a Credit Default. She is telling them that they cannot. So if Greece does go down hard then nobody knows whether or not a Credit Default Swap is worth the paper it is written on inside of Europe.

    After Greece dies, Portugal is next and it's already showing the same weakness that Greece is. Heck, Portugal's "educational" administrator is telling people to get out while you can. You saw last year how the crisis accelerated to include all of the economies of Europe, including Germany because they entered into a recession in the fourth quarter.

    Greece is just the tipping point to a huge mess or the salvation of the market. How they have kept this up for two years is beyond me. They have nobody in charge that can put their foot down and stop the whole thing.

  • Report this Comment On March 02, 2012, at 2:02 PM, TMFHelloNewman wrote:

    @JamesG99

    In 2011 dollars, the 1998 Russian default equaled $107k, the 2001 Argentinian default equaled $102k.

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