Greece and Italy suffer: Let the game of EU chicken begin

Exactly one year ago, I spoke to an audience of investors at the local money show in Athens, Greece. I told them that, over the next 10 years, there is a big possibility that Greece and Italy would voluntary leave the euro. Everyone's jaw dropped!

My logic was simple. If and when we get a big rescission [sic] in Europe, these two economies would not be able to handle it. As a result, there is a big chance that they will leave the euro to be able to print drachmas and liras in order to meet their obligations… mostly to their citizens.

Well here we are one year later and already Greece and Italy are in great financial pain (if not on the verge of an economic collapse).

While the euro is a great currency and offers many benefits to those economies that have it, the euro also requires fiscal responsibility and other obligations. For one thing, you can't be part of a strong currency block of nations when you are not competitive.

So far the EU (did anybody say Germany) has washed its hands and has sent the message that every country must clean up its own mess. Greece has responded by announcing a bank package to help its local banks. Basically Greece will issue government bonds and give them to the banks and then the banks can post them as collateral to get funding.

However, as much as €40 billion of Greek government debt comes up for renewal in 2009. Will Greece (and Italy) be able to refinance this debt? Chances are they will, but at what price?

Already the CDS spreads that measure the possibility of country default are about 250 for Greece, leaving even Italy far behind! Even if Greece is able to find the money it needs in 2009, what will that do to its public finances and its ability to meet its social obligations?

You probably all saw the riots in the streets of Athens the past month. That's nothing compared to what will happen when (not if) the government announces that retirement benefits for the Greek public sector will have to be axed at some point.

If Germany and the EU insist that Greece and Italy handle this market turmoil by their own, then chances are that at some point in the future, these economies will break down and (reluctantly) be forced to exit the euro in order to be able to print money and meet obligations.

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