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Why Don’t They Just Let the Greeks Default?

- May 4, 2010

Over here in Europe, the big news in addition to the “British Election”:http://www.guardian.co.uk/commentisfree/2010/may/04/incumbency-effect-impact-mps is the continuing saga of the “Greek Debt Crisis”:http://www.ft.com/greece. The latest update involves a massive 110 billion Euro “rescue package”:http://www.businessweek.com/news/2010-05-04/goodhart-says-greek-deal-may-collapse-as-crisis-tests-euro.html from the EU and the IMF, which may or may not stem worries about Greek default.

One question that always comes up in these types of situations is why not just let the country in question default? The answer, of course, is the dreaded _contagion_. If Greece defaults, will Portugal and Spain be next? What will happen to the rest of the Eurozone countries? But another way of thinking about contagion involves thinking about exactly who loses money if Greece defaults on its debt obligations. And in this respect, the following figure that appeared in the “NY Times”:http://www.nytimes.com/interactive/2010/05/02/weekinreview/02marsh.html?ref=globalhome over the weekend is especially illustrative, and, in a way, frightening:

Europe_Debt.jpg

So when France and Germany make sure that Greece can pay its debt, they are also rescuing, well, France and Germany. Also makes it clear exactly how _contagion_ could work in practice.

[Hat tip to “Athanassios Roussias”:http://www.march.es/ceacs/consejo/personales/personal.asp?id=5136&Idioma=I.]