Grexit: How likely is a Greek exit from the Euro and what would happen to the economy?

Greece could exit the single currency within weeks

Ready for Grexit? It could happen within weeks (AFP)

Greece’s stand-off with the rest of the eurozone over the terms of its bailout has raised the chances that the country could crash out of the single currency - possibly within weeks. But what would the consequences of “Grexit” be for Greece, Europe and everyone else?

What would happen to Greece?

An immediate financial crisis and a new, deep, recession. Without external financial support the country would have to default on its debts and, probably, start printing its own currency again in order to pay civil servants. Its banks would also lose access to funding from the European Central Bank.

Greek Prime Minister Alexis Tsipras (EPA/ALEXANDROS VLACHOS)

To prevent these institutions collapsing Athens would have impose controls on the movement of money out of the country. The international value of the new Greek currency would inevitably be much lower than the euro. That would mean an instant drop in living standards for Greeks as import prices spike. And if Greeks have foreign debts which they have to pay back in euros they will also be instantly worse off. There could be a cascade of defaults.

However, a new, weaker, currency will also make Greek exports more competitive on international markets. The Greek tourist industry will also likely get an immediate boost. Some say this could, after a period of intense economic pain, help Greece to recover relatively strongly. But this is highly uncertain.

What about the rest of the eurozone?

There would probably be some financial contagion as financial investors wake up to the fact that euro membership is not irreversible. There could a “flight to safety” as depositors pull euros out of other potentially vulnerable eurozone members such as Portugal, Spain or Italy to avoid taking a hit. European company share prices could also fall sharply if investors panic and divert their cash into the government bonds of states such as Germany and Finland.

The question is how severe this contagion would be. The continent’s politicians and regulators seem to think the impact would be relatively small, saying that Europe’s banks have reduced their cross-border exposure to Greece and that general confidence in the future of the eurozone is much stronger than it was a few years ago. But others think this is too complacent. The truth is that no one knows for sure.

And Britain?

If the pessimists are right and Greece’s exit creates a European-wide financial and economic crisis Britain will certainly be hit extremely hard. We do almost half of our trade with Europe so a new economic slump on the Continent will hammer our exporters and cost jobs. And the financial contagion effects will have a severe impact on our large banking and financial sector. The corporate sector would pull in its horns too, hurting our economy. Investment by businesses would likely collapse, helping to push us back into recession. However, if the optimists are right and the financial contagion impact of Grexit is mild the UK economy could carry on growing and living standards rising.

Greek Finance Minister Yanis Varoufakis (L) meets with Britain's Finance Minister George Osborne

How likely is Grexit?

Very hard to say. The rhetoric of the two sides – Greece and its creditors – suggests a considerable gulf. Greece has vowed that it will never accept a continuation of the present bailout programme, which it blames for plunging the country into a deep recession and destroying living standards. The creditors say they will only agree to talk about modifying the bailout’s terms if Greece first agrees to extend it and accepts the bulk of its conditions. Without a deal Greece’s government could run out of money in the next few months, causing a default and exit.

But the more likely trigger for Grexit is Greece’s banks being cut off from emergency funding from the European Central Bank. The ECB can only fund Greece if the country is in an official bailout programme. So time could run out as soon as 28 February, when the existing bailout is due to end.

But some of the disagreement between the two sides is over words rather than substance. Greece seems willing to accept many conditions in return for more financial support – and it certainly wants to stay in the eurozone. The creditors seem willing to modify the terms of the bailout to some degree – and they do not want Grexit either. That creates the possibility of a compromise. But time is short. Talks collapsed on Monday night. More could be held on Friday. Yet that 28 February deadline is getting ever closer.