Goldman Sachs’s three scenarios for Greece Alex Evans

Scenario #1: Muddling through

In the most likely scenario, the new Greek government emerging from theJune 17 election neither chooses to exit the euro nor agrees unconditionally to implement the existing EU/IMF programme. This will lead to a cessation of troika payments, but would not of itself constitute Greek

exclusion from the Euro area, provided Greek banks continue to enjoy access to ECB facilities. Such a scenario is consistent with our forecast for European macro variables and asset prices.

At the same time, there will also be (slow) progress toward deeper policy integration (financial market and banking regulations, fiscal coordination, and ex ante risk-sharing), in order to build the firewall necessary to make the Euro area resilient to a possible future Greek exit. In this scenario, the very large insurance premium priced into US Treasuries and German Bunds should gradually dissipate. Equities would likely rise, but initially only modestly given the continued weak growth picture.

Scenario #2: Fast exit; Greece walks away

Were Greece to unilaterally exit and introduce its own currency, the ECB would presumably halt the flow of Euro liquidity to Greece. Greece would be cut off from capital markets, forcing the government to a primary cash balance. The knock-on dislocations to the real economy could lower Euro area GDP by up to 2 percentage points, even assuming that robust counter measures are taken by the policy authorities. Our expectation would be that the policy response would be substantial. The hit to earnings expectations would likely push the SXXP down to 225, although uncertainty could push the ERP even higher (from 8.7% currently), pushing the SXXP back to at least the 215 low of last September or more and 10-yr rates to as low as 1.5% and 1.0% in the US and Germany respectively.

Scenario #3: Slow exit; Greece is excluded

There is no legal mechanism to force Greece out, but in practice it would be possible de facto by denying Greek banks access to ECB facilities. We see this as less likely than #1 but more likely than #2; it is more market friendly than #2 being a more “managed” exercise. Most likely, peripheral countries’ would have received assurance that the ECB will intervene in bond markets to limit contagion preventing a sharp widening in spreads. The likely hit to GDP of up to 1% is already discounted in equities although uncertainty may result in an initial overshoot. If the policy response was powerful, we could see a strong rally from any lower levels.

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ΥΓ. Johny F* Walker

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