It is no longer prudent to dismiss the possibility of a worst-case outcome for the Greek debt crisis. Greece is not only laying bare the flawed structure of the European Union, but the fragility of the global financial system. Monetary union without political union is increasingly untenable and leaves global financial authorities with one hand tied behind their back. Furthermore, three years after the financial crisis, little has been done to reduce systemic leverage or strengthen regulation where it is most needed. Inexcusably, derivatives remain unregulated – the latest news is that the CFTC will delay the implementation of derivatives rules until the end of 2011. The failure to impose meaningful reforms on derivatives is largely due to the intense efforts of the financial sector to fight regulation. Moreover, the interconnected nature of global financial markets render Europe’s problems the world’s problems. What happens in Europe – or anywhere for that matter – can no longer stay in Europe. And what happens in even a minor player in the European Union – Greece accounts for a mere 2.6 percent of the European Union’s GDP – can no longer stay in Europe. An interconnected and networked global economy cannot ignore problems on its so-called periphery because there is no longer any periphery. Derivatives and other counterparty relationships have seen to that.
Accordingly, investors should hope for the best but plan for the worst. While there are signs this morning that Greece will receive the funds needed to avoid an imminent default, nothing has been done to solve Greece’s or Europe’s long-term problems. Of greater concern is what is happening on the political front in Europe.