Thursday, November 9, 2017

Greek Banking: Part I

To better understand the current state of Greek banks we need to  go back in time.

During the late 1980s to early '90s Greek banking was a ho-hum business. Inflation ran at 15-20%, so banks were limited to gathering deposits from the public and lending to the state, its associated enterprises and a few large private businesses. Mortgages were rare, since home buyers mostly paid cash or arranged installment plans with builders. No credit cards, no car or vacation loans, no securities business, no trading other than day-to-day book balancing. It was a boring, belt-and-suspenders kind of culture, with bankers accorded almost civil servant status.

Things changed radically after 1994, when Greece decided to adopt the Maastricht Treaty and eventually become a member of the planned Eurozone. There were a couple dozen domestic banks operating by then, plus another dozen or so foreign ones - and business boomed.

The main profit driver was the "convergence trade" consisting of borrowing cheaply in foreign exchange (usually German marks) and investing in higher-yielding drachma assets (depos, bonds and repos). This simple cross-currency arbitrage was nearly risk-free, since the government had instituted a gradual and predictable sliding peg for the drachma's exchange rate against the mark.  The slide was maintained at less than the interest rate differential between drachmas and marks, thus all but guaranteeing large arbitrage profits for several years.

Global banking giants caught on to the game and piled in: BofA, Citibank, HSBC, JP Morgan, Goldman Sachs, Morgan Stanley, Deutsche, SocGen, Credit Suisse and many more, were very active in the drachma market.  Even Lehman, Bear Sterns and AIG showed up to the party...

The festivities eventually wound down when Greece formally adopted the euro in 2001 and spreads evaporated.  Dealing rooms in Athens, London, Frankfurt, Paris and New York bid a fond farewell to the drachma and went on to bigger - and eventually much riskier - trades (eg CDOs, CDS, tranches, etc -  what this blogger saw very early as the makings of a global disaster. Read my posts starting in 2006 and watch The Big Short).

Greek banks turned to traditional meat-and-potatoes retail banking: mortgages, consumer and business credit.  Given the complete absence of a credit culture amongst Greeks, however, it was like giving moonshine to a teen.  Starting from a very low level of private sector debt, things quickly got out of hand. The party was back on, this time going on in every bank branch across the land; household debt zoomed from a mere 15 billion euro in 2000 (12% of GDP) to 120 billion in 2010 (55% of GDP), see Chart 1.

Chart 1

While most other western nations’ households had significantly larger debt loads as a percentage of GDP, Greeks increased their debt so fast, and had so little experience in handling it, that it spelled serious trouble for banks down the road.  And as we saw in a previous post, such explosive growth in easy credit created a bubble economy centered on highly overpriced real estate and consumer spending of imported goods.

The Greek economy grew strongly for a decade, but it was all based on a sea of debt.  It was not long before the debt storm that started on the shores of America would engulf Greece, too...


  1. The Greek state promised people a pension in return for their contributions.

    They received the money and since it didn't have to be paid out for 30-40 years, like little kids they went on a spending spree, instead of investing it.

    At the end of the year they had to make a decision. Do they book what they owe on the accounts? Problem with that for the politicians, they would have to tell people they've blown the lot.

    So along comes a clever accountant who says, look copy over governments. Define pensions as 'welfare' and its future spending. That way you book it as a profit, but you have to hide the debts off the books.

    They did this until it blew up, and it screwed their own citizens.

    Until Greece puts in place a law that says government debt of any form, or guarantees is illegal, you are going to be screwed.

  2. Lord Blagger,

    Pensions are a real tough issue all over the world, but particularly in nations that are ageing fast, eg Greece, Italy, etc.

    Most people think that pension contributions create some sort of separate savings account, a nest egg. They don't - in a pay as you go system they are merely added to the government books and spent just like any other revenue. Just think of them as another tax. As things stand now, contributions don't even cover current pension payments, so they are subsidized by other taxes.

    I will certainly agree with you that Greek governments, particularly in the 1980s, totally mismanaged pension contributions.

  3. but particularly in nations that are ageing fast


    No. Demographics is not the issue.

    If the money had been invested [capitalism] then demographics would not be a problem.

    The money was redistributed [socialism] and there's a mess.

    The problem isn't demographics the problem is the redistribution.

    *** They don't - in a pay as you go system they are merely added to the government books

    Yes and no. They are added, as income. That's the revenue or income and expense statement.

    What's missing, and its the fraud, is balance sheet. The liabilities are and were omitted from the balance sheet.

    That's the key issue. If the liabilities were posted, people would have seen very early what happened to tax payer's equity. It was getting large very quickly.